Price regulation in a free market economy
Actions taken by the AG to ensure a competitive marketplace
Factors affecting gasoline prices
This report, produced by the Washington Attorney General's Antitrust Division, provides information to help consumers understand the many factors that contribute to our current gas price situation.
Note that the Quarterly Gasoline Report and the Gas Price Study are separate reports. The Gas Study was published in 2008 and no supplement is currently planned. The Quarterly Gasoline Report is updated on a quarterly basis with information from, among other possible sources, the Energy Information Administration and the American Automobile Association.
Price regulation in a free market economy
Gasoline is not a regulated commodity, which means that producers and retailers are free to charge whatever price for their product that they choose, so long as they do not collude or engage in unfair and deceptive practices. The Attorney General's Office regularly monitors gasoline pricing to determine whether price increases indicate possible anticompetitive behavior or reflect normal market forces. Nationwide, various state attorneys general and the Federal Trade Commission (FTC) regularly review gas prices.
Prices of any commodity may fluctuate dramatically for reasons unrelated to anticompetitive activity. A sudden surge in demand or an unexpected problem in the supply chain can cause prices to spike quickly. A change in the price of a necessary input can have a dramatic effect on the price of the final good. Such price changes are disruptive to both consumers and businesses, but they are not necessarily evidence of collusive activity. There are no federal or Washington state laws explicitly prohibiting price-gouging. However, the Washington Attorney General’s Office has played an active role in keeping the marketplace free from anticompetitive activities.
Actions taken by the State Attorney General to ensure a competitive marketplace
The Attorney General's Office has a long history of studying the oil industry and taking enforcement action when necessary. Reports have been issued when precipitated by historical events. Cases have been filed against companies for price fixing and for anticompetitive mergers. Merger cases have focused on all segments of the market, from crude oil exploration to retail sales. In cases in which competition might have been decreased, the Attorney General has required the merging companies to sell assets to a more competitive buyer. Here is a summary of some of this office's activity over the last two decades:
- In 1977, the Attorney General filed a landmark lawsuit against the major oil companies, alleging that the oil companies fixed prices and artificially created a shortage of petroleum products. This litigation lasted for 15 years and was settled in 1992 for more than $150 million.
- In 1987, the Attorney General sued three oil distributors, alleging price fixing by jobbers and retailers. The companies paid $132,000 in restitution, which was used for transportation and energy conservation in south-central Washington. Also in 1987, the Attorney General prepared a report to the Washington State Legislature in response to a request to study retail gasoline marketing practices in general.
- In 1989, a report was issued analyzing the spring 1989 gasoline price increases. This price spike followed the wreck of the Exxon Valdez. It was found that separate from the accident, crude oil prices had increased, unscheduled refinery problems occurred, and inventories were low. When the Valdez accident occurred, although the actual spill had very little effect, the market reacted disproportionately in panic. Additionally, with increased summer demand there was very little downward pressure on prices.
- In 1990, following the Iraqi invasion of Kuwait, the Attorney General’s Office studied the price increases which resulted. The resulting report concluded that price increases were the result of a combination of increased crude prices caused by supply concerns, coupled with increased demand.
- In 1991, the Attorney Generally formally challenged Texaco's attempted acquisition of Shell retail stations. A settlement was reached in which Texaco was required to divest some of the acquired stations.
- In 1992, the Attorney General challenged British Petroleum's acquisition of the Exxon marketing and distribution network. BP was required to divest stations in Snohomish, King and Pierce counties to another competitor, in order to promote competition.
- In 1997, Tosco acquired the Unocal stations in Washington. After challenge from the Attorney General, Tosco was required to put certain stations up for sale and provide space for competitors at one of its terminals.
- In 1997, Shell and Texaco formed a joint venture and wanted to maintain two refineries in Anacortes. After investigation, the Attorney General required the parties to sell the Shell refinery to a new buyer. Tesoro, a new entrant, purchased that refinery and continues to supply gas to both branded and unbranded stations.
- In 1999, the Attorney General reviewed Exxon's acquisition of Mobil's national network. Exxon had previously withdrawn from retail sales in the Northwest after the Valdez incident, so the review was limited to its purchase of Mobil's share of the Trans-Alaskan Pipeline System (TAPS) in Alaska. Exxon was required to sell Mobil's share of TAPS so that another competitor would be available to provide pipeline access for crude oil shippers.
- In 2000, the Attorney General challenged British Petroleum's acquisition of Arco's exploration and marketing assets. The litigation was settled and BP was allowed to buy Arco's marketing and distribution network in Washington, but was required to sell its crude oil exploration assets in Alaska. Phillips purchased those assets.
- In 2001, Chevron attempted a full purchase of Texaco. The Attorney General challenged that merger, requiring Chevron to divest its Texaco assets in Washington, because of Chevron and Texaco's high retail market shares. Texaco sold its assets to Shell, including its interest in a refinery in Anacortes and its retail and marketing assets.
- In 2002, Phillips purchased the assets of Conoco, Inc. After reviewing the transaction, the Attorney General required ConocoPhillips to sell its terminal in Spokane to a new buyer.
- In 2007, Washington Attorney General Rob McKenna teamed up with the Governor’s Office and the Department of Community, Trade and Economic Development to investigate factors that influence gas prices in the state. Phase I of the study was a fact-finding stage and results were released in September 2007. Phase II of the study examined the possible explanation for the price differences across the state as well as significant changes in those price differences and results were released in April 2008.
Recent actions in participation with other state attorneys general
The Washington State Attorney General’s Office periodically works in close cooperation with other Western states to review the factors influencing the price of petroleum products in the West. This office has and will continue to work with other state and federal agencies to insure petroleum prices are not the result of collusive activity. The Attorney General’s Office also participates in regular discussions with federal agencies and other state attorneys general about petroleum issues and how they are being addressed throughout the country.
Major factors affecting gasoline prices in Washington
In addition to enforcement actions, the Attorney General’s Office also monitors the normal market forces that affect the price of gasoline. What follows is a brief summary of some of the major factors affecting gasoline prices in Washington state:
1. Increased demand and limited production capacity leave no room for error or disruption in the supply system
Many factors that impact the price of gasoline are not unique to Washington state. Gasoline is a commodity and the price rises and falls according to the laws of supply and demand. If supply falls short or demand increases, the market will reflect that change.
The West Coast is a unique market in the United States in terms of supply, demand, and production of gasoline. As a result, the average price of gasoline tends to be higher than other areas of the country. Unlike the rest of the United States, the West Coast has limited refineries and pipeline capability. The majority of crude oil in the United States is delivered and refined in the Gulf States where it is efficiently distributed via a network of pipelines. See Illustration 1. In contrast, the West Coast and Washington in particular remain isolated with minimal pipelines. See Illustration 2. In addition, due to our geographical and social factors, the West Coast exceeds the national average for gasoline consumption.
During the past decade, Washington, Oregon and California have all experienced population growth above and beyond much of the nation. These population increases result in an increase in demand for gasoline.
At the same time, refinery capacity on the West Coast has only increased slightly during the past decade. Oregon has no primary refineries and the Portland metropolitan area receives much of its gasoline from Washington refineries via the Olympic Pipeline. Additionally, some of Washington's refineries are now able to produce a special blend of fuel required by California's environmental laws. This has resulted in Washington refineries shipping an increased amount of gasoline to California where prices are higher. See Illustration 3 and Illustration 4. It must also be kept in mind that for every barrel of oil (42 gallons) only about 19 gallons of gasoline are produced. Many other products are produced from a barrel of oil during the refinery process at that same time. See Illustration 5.
Unfortunately, there are few prospects for increasing refinery capacity on the West Coast in the near future. Unless existing refineries can be expanded or upgraded to make up for losses in production, and as long as demand for gasoline remains strong, prices are likely to remain high.
Major oil companies continue to reap the benefits of this high demand and tight supply. Many of them recently reported extremely strong financial results, with some noting record earnings. Much of their success came from oil and gas exploration efforts, but a significant portion came from refining and marketing.
2. Zone Pricing
Many factors can influence the price of gasoline such as the price of crude, the cost of additives, and transportation costs. But one factor, “zone pricing,” has little to do with any of these factors. Zone pricing is a practice under which refiners sell gasoline to retailers at wholesale prices that differ across geographic areas. Generally, these geographic areas vary in the level of competition. Thus refiners charge more in areas where demand is high and/or competition is low. Simply put, zone pricing is pricing set by the refiners based on supply and demand.
Refiners are free to set their own price zones and, nationwide, these zones can vary substantially from one refiner to the other. Zone pricing is viewed by some as price gouging and by others as a natural outcome of competitive markets. Zone pricing is practiced throughout most of the United States and some states have considered legislation to curb the practice. Currently, zone pricing is not illegal in Washington state, as long as it does not involve collusive or deceptive practices.
3. Retail Margins
On average, increased retail prices appear to generally mirror increases in wholesale prices. Although estimated retail margins do fluctuate, these along are not usually an indication of any aberrant behavior. Margins appear to be fairly consistent throughout the state. See Illustration 8, and Illustration 9.
4. Other conditions contributing to higher prices
Washington's price increases are not unique to the West Coast or other U.S. states. See Illustration 6. In addition to the tight West Coast supply/demand balance, other events - both here in the U.S. and worldwide - have greatly influenced the prices we are seeing today.
- The Price of Crude Oil. The single most important factor affecting both the level and movement of gasoline prices in the United States is the price of crude. When the price of crude increases gasoline prices also increase. Crude oil prices are determined by supply and demand on a worldwide basis. See Illustration 7.
- Low Gasoline Inventory. Another important factor in the U.S. is the relatively low gasoline inventory. The absence of a gasoline stock cushion creates increased volatility in the market. If there is no cushion to fall back on, refiners are forced to turn to imports to fill the widening gap. Uncertainty about supply, as well as actual loss of production, can drive gasoline costs up.
- The Price of Gasoline Additives. Ethanol, a renewable fuel source and a corn product, fluctuates in price over time as any commodity does, and this has a certain minimal affect on the price of gasoline.
- Political Unrest. Political unrest in oil producing countries can also result in temporary price spikes. Unrest, strained relations, or oil embargos involving oil producing countries such as Venezuela, Iraq, Iran and Nigeria do affect the world’s supply of crude oil. When supply is disrupted for any reason, it generally results in higher prices, particularly if the level of demand exceeds the level of supply.
- Seasonal Shift in Gasoline Blends. Reid Vapor Pressure (RVP) specifications change with the season. The specifications, set forward by the Environmental Protection Agency, not only vary by season but also vary by region and can lead to price differentials geographically. This is part of the reason that the country almost every year sees a rise in gasoline prices in the spring. The gasoline produced and distributed during the summer contains less butane and is therefore more expensive. Adding less butane also results in lower overall supply levels.
5. What does the cost of a gallon of gas go to?
Many Washington consumers are concerned about what they are paying for when they buy a gallon of gasoline. How much of a gallon of gasoline consists of federal and state taxes? See Illustration 10. Currently, the state fuel excise tax is 37.5 cents per gallon. The federal gas tax is 18.4 cents per gallon, and the federal diesel tax is 24.4 cents per gallon. This makes for a combined fuel excise tax of 55.9 cents per gallon of unleaded, and ranks Washington as having one of the highest fuel excise taxes in the nation along with Connecticut, California, New York, Illinois and Michigan. The combined fuel tax for diesel is 61.9 cents per gallon and ranks Washington as having one of the highest diesel fuel excise taxes in the nation. *1
What can consumers do?
As with most other goods and services, gasoline prices are influenced by supply and demand. One way to reduce demand is to reduce consumption. Because demand is higher in Washington state than many other areas of the country, it is particularly important for Washington consumers to conserve gasoline by finding alternative modes of transportation. When consumers form carpools or begin using public transportation, it creates huge differences in the demand and can go far to reduce prices.
The following websites provide a list of up-to-date gas prices, allowing a consumer to shop wisely:
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*1 Some states may add sales taxes to sale of gasoline. Sales taxes are not included in this information.