Part III: Energy markets1

US Primary Energy Consumption2

Real prices3

0.00

0.50

1.00

1.50

2.00

2.50

3.00

3.50

1919 1929 1939 1949 1959 1969 1979 1989 1999 2009

Annual Motor Gasoline Retail PriceDollars per gallon

Nominal Price

Forecast

EIA Short-Term Energy Outlook, January 2011

Real Price (Jan 2011 $)

Demand for Fuels

Source: DOE, Annual Energy Outlook 2007

4

Constraints5

Refinery Locations

Large: Over 75,000 B/DSmall: Under 75,000 B/D

Source: EIA and NPRA

6

Refined Product Movements7

1970 (2,072,350, 412 sq. mil)

1990 (3,452,625, 754 sq. mi.)

8

Houston

1970 (273,288, 58 sq. mi.) 1992 (741,368, 170 sq. mi.)

9

Las Vegas

Confessions of an environmental criminal10

Car Life Cycles

11

World Auto Use

12

Competing Policies

Antitrust

Preventing “destructive competition”

National security

Environmental protection

13

Antitrust

Standard Oil cases (1892-1911)

Madison Oil case (1937-38) “The advantage of the antitrust laws is that they are sufficiently

vague” – Thurman Arnold

“Mother Hubbard” case (1940s) “shared monopoly” / 300+ companies

Regular FTC, GAO, Congressional, etc. investigations

14

Destructive Competition

NRA & “hot oil”

Minimum pricing laws

Small refiner bias

Restrictions on competition (NJ full service rule)

15

National Security

Energy “independence” through government fuel mandates Synfuels Ethanol & biofuels

Tariffs

Import Restrictions (MOIP 1959-early 1970s) “Mexican Merry-Go-Round”

Price & Allocation controls (1970s)

16

Environmental Protection

The internal combustion engine is the “most serious and dangerous source of air pollution in the Nation today” (1974)

Tightened standards

Fuel composition regulation

Ethanol mandates

I&M programs

17

Emissions Standards

0

2

4

6

8

10

1965 1975 1985 1995 2005

VO

C (g

ram

s/m

ile)

Model Year

Large SUV

Small/Medium SUV

Car

Tier 1 Tier 2NLEPre-Tier 0 Tier 0Pre-

18

Boutique Fuels

19

Ethanol20

“It’s like trying to solve a traffic problem by mandating hovercraft. Except we don’t have hovercraft.” Robert Rapier, The Oil

Drum

Why things are hard to change

Slow capital turnover

Slow fleet turnover

Low population density makes mass transit impracticable

Logistics revolution means more trucks / shipments

The “Amazon Effect” means more retail deliveries

Greater wealth means more VMT

21

Applying the public choice lens

Rational ignorance: Energy policy is hard to understand, voters hear about “energy

independence”, evil energy companies, and miracle cures not market fragmentation, shifts in capital spending, or the costs of the small refiner bias.

Voting rules matter: Seniority + interest overweights power of representatives of

domestic energy interests in Congress and legislatures

Iowa caucuses and ethanol

22

23

Dispersed costs, concentrated benefits: Fuel composition mandates, ethanol mandates

Subsidies24

25

Interest group organizing costs matter: Small refiner bias, I&M programs, corn ethanol, renewables

industry

Regulators are people too: ADM contributions of $7.9m from 1989-2006 (#85) + soft

money

Cato estimates each $1 of ADM ethanol earnings costs taxpayers $30

2005 McCain votes against energy bill b/c of ethanol mandate; 2006 declares ethanol “a vital energy source”

Hayek’s Knowledge Problem 26

Energy use decisions made by individuals in response to price signals vs. mandates