Gasoline Nonsense

A friend of mine who still works in Congress solicited my opinion on a trade matter, since that is a.) my favorite policy issue and b.) because I worked on it for four years.

A constituent asked his boss something along the line of the following:

Why do we export oil to other countries? It seems to me if we banned the export of oil to other countries, gas would be cheaper.

I remember often being asked similar questions as a staffer. It’s hard to answer this question in a convincing manner because most people (including Members of Congress and many staffers) do not truly understand how global trade, oil markets, and gasoline prices work.

Also, adding a degree of difficulty, many times the person asking the question is (sadly) an opponent of free trade. Which means they will never believe anything that is associated with a world market — they sincerely believe the world doesn’t have to operate this way. This is because they think that before World War Two, the world (and America) never really engaged in global trade.

Of course, this notion is very wrong, and people who think that should read these books:

A few thoughts on this topic. First:

It would start a trade war.

Banning exports of oil may have few short-term benefits if domestically produced oil is cheaper than other alternatives from foreign trading partners. However, not all oil is equal. Light sweet crude (West Texas Intermediate) and Brent blend crude (from the North Sea, England) are not the same. Some oils are found in multiple places, others only in one. The varying crude oils are used for different purposes based on their intrinsic nature, and the cost of converting them to a final product.

As the BBC notes in Understanding Oil Markets:

“Crude oil comes in many varieties and qualities, depending on its specific gravity and sulphur content which depend on where it has been pumped from.”

To think that we can just flip a switch and require domestically made oil to be sold in the U.S. would be a gross misunderstanding of commodities markets, and any attempt to interfere with this market will have bad unintended consequences.

Oil, like other commodities (including Frozen Concentrated Orange Juice) is sold by futures contracts:

In this type of transaction, the buyer agrees to take delivery and the seller agrees to provide a fixed amount of oil at a pre-arranged price at a specified location.

Meaning, some of the oil that we make domestically has already been bought, sometimes by foreigners. It would be pretty much legally impossible (and bad policy) to have the government invalidate those contracts.

This would spark a trade war, and the countries with whom the individuals we trade with reside would probably respond in equally harmful ways, screwing American companies and investors on their oil futures.

But what if we said: “OK, as of the completion of the last oil futures contract, all domestic oil must be used in the United States.”

This government interference would seriously distort the world market for oil.

It would:

  1. Probably result in other countries refusing to export oil to us,
  2. Lead to shortages of some sorts of oil or oil-derived products,
  3. Drive gas prices and the prices of oil-intensive domestic goods higher, and
  4. Potentially result in all of the above occurring.

Keep in mind that not all oil is alike, and it can be costly to refine that oil for alternate uses. This, too, would likely start a trade war because these barriers to trade would not only harm our consumers and producers, it would harm them across the globe. So, in addition to the direct harms caused by such a policy, a trade war would likely double down the economic pain, erasing any short-term economic benefit we may get.

Getting oil from other places far away can be cheaper than getting it from domestic producers

What are those red arrows traveling through? Oceans. Water is an extremely cost-effective way of transporting things, like oil. Imagine living in Fairfax, Virginia, and you are a car driver or a producer of some oil-intensive product. Price matters to you. What will be a cheaper and more efficient way of getting oil for gasoline or other uses?

(You can vote in this poll)

[poll id=”3″]

The answer, of course, is shipping it where you have an advantage in scale and cheaper transportation. Now, of course, the oil doesn’t come straight from Saudi Arabia to your local Hess Station. It  goes to the buyer of the futures contract, to its customers, through refiners, etc. before it gets to a gas station. (Not all oil is ideally suited for every purpose, which is why refiners exist.)

In some cases, like making Pepsi, refrigerators, or diapers, it makes more sense to source production closer to consumers. Shipping things like that across the globe can be costly, especially when diapers and fridges are mostly filled with air.

The market exists to allow individuals to put scarce resources to their most efficient use. That means that people across the globe buy and sell various types of crude oil for their optimal purposes, or absent that, their second most optimal purpose.

Restricting exports, a bad idea, will likely lead to our imports being restricted by others.

The President often focuses on exports, paying no lip service to the value imports have.  And while President Obama’s trade policies have been bad (see: trade war with Mexico), exports do create a lot of jobs. But we shouldn’t be encouraging one at the expense of another.

This also means that people are going to try and use their scarce resource of money in the most efficient way too.

People aren’t going to pick the most expensive option for producing something unless the government makes them, which is what an export ban would amount to, and why it is not desirable.

Artificial barriers to trade distort the market, and that usually means higher prices. Competition and free trade are good things, and our policy should be to impose as few barriers as possible.

(Addendum: I am pretty sure that an export ban would probably run afoul of our trade agreements and WTO rules, but since most anti-trade folks hate trade agreements and the WTO, I didn’t bother to check.)

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2 Thoughts on “Gasoline Nonsense

  1. Walter E. Pack on April 5, 2012 at 7:28 pm said:

    Hi Jim! It is an EXCELLENT article. Thanks for sharing! Keep up the good job you’re doing. You’ve found your calling. Your OLD friend Walt P.S Remember I said: “the money you earn isn’t as important as doing what you enjoy”. You’ve found your niche.

  2. Pingback: JimSwift.net » Blog Archive » Should we ban beer exports?

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