The Bipartisan Congressional Clown Show Opens!

And Jim Hamilton reviews it:

Econbrowser: Congressionally mandated shortages: Last week the U.S. House of Representatives voted by an overwhelming margin to guarantee gasoline shortages the next time we face a significant disruption in petroleum supplies.

One of the common complaints I hear from noneconomists is, why should the price of gasoline go up as soon as there is any news of a disruption in oil flowing from somewhere like Nigeria, when the gasoline in the pipeline and the station's tanks have already been bought and paid for by the company at a lower price?

Why, indeed? The answer is, because if the price didn't spike up immediately on the news, the result would be a disaster for the public. I presume we can agree that the supply disruption will eventually mean that the price will have to be higher and consumers are going to have to make do with less gasoline. How should you as a consumer behave, if the price did not go up today, but you know that in the future, you might not be able to buy gas or will have to pay a much higher price than you do today? The answer is, you should rush out and top off your tank right now, while gas is still available and cheap.

Of course, when all your neighbors get the same idea that you had, the result is a huge surge in the quantity of gas everybody is trying to buy, which the system won't have the resources to deliver. Panic buying by consumers would create shortages even if there had been no disruption in supply.

Fortunately, it would not ever be in the personal financial interests of gasoline station owners to allow this to happen. Why should they run their tanks dry selling gas for $3.00 a gallon, if there would be someone willing to pay them $3.50 for that same gas? A station owner who was trying to maximize profits would never do this. What we would expect to see in a properly functioning market is for the price instantly to jump significantly above the value it will be at next week. That creates an incentive for consumers to let their tanks run a little lower right now rather than top them all off, which is exactly what we need to see happen in order to deal with the crisis.

Anyone who has taken an introductory economics class will recognize this as an example of exactly how capitalism is supposed to function. The gasoline seller and buyer are both just doing what is in their own selfish interests, yet the outcome is a sensible and appropriate response to the challenge.

Unfortunately, 389 members of the U.S. House of Representatives evidently skipped that econ lecture, and think that if the owner's already paid for the gas in the pipe, you shouldn't have to pay any more at the pump...

Comments

['As You Know' Bob]

The Congressional response to rising gas prices has been highly entertaining.

It's always astonishing how quickly free-marketeers start shouting "Price gouging!" the instant their beloved free market begins to operate. This is what you believe in, chump, this is what you claim you want to happen.

[pgl]

Shorter Jim Hamilton: what Glenn Hubbard said!

[a]

Sure, no problem, let the price go up. But hit the bastards with a windfall profits tax (and what's a better definition of a windfall than paying for something and then being able to jack up the price), and then double tax their executives who are pulling down millions extra because of their companies' extra, windfall profits.

[liberal]

a wrote, "But hit the bastards with a windfall profits tax (and what's a better definition of a windfall than paying for something and then being able to jack up the price)..."

I think a better approach is to step back and look at the fundamental economics of the issue---something I doubt many _economists_ have done.

The "profit" "earned" by oil companies has two components: land rent, the value of the oil resource itself, and profit/interest on their capital.

To the extent that oil companies are retaining land rent (aka scarcity rent), they're collecting a windfall.

For oil pumped outside the US, there's nothing we can do about that---that's the problem for other peoples and governments. For oil pumped _within_ the US, it's our problem. Oil companies should be collecting as little scarcity rent as possible.

My impression---oddly, no one is bringing up any numbers---is that in the US, oil companies collect a large fraction of scarity rent.

It's difficult to get modern, neoclassical economists to speak about this, because they often seem unaware that there are three factors of production: land, labor, and capital, preferring to conflate land and labor. (Unfortunately, many of those on the left inherited this same tendency from Marx.)

http://en.wikipedia.org/wiki/Factors_of_production

http://en.wikipedia.org/wiki/Land_%28economics%29

http://www.wealthandwant.com/docs/Gaffney_LaaDFoP.html

[liberal]

I forgot to add that there's nothing "wrong" with oil companies collecting profits on their capital.

[ilsm]

If I own an inventory to sell and I know the replacement stock may cost $5 I will sell what I have for $5.20, with no consideration of what it had cost.

I need to buy more to sell tomorrow today, not yesterday.

Accounting and cash management view of supply shock motives.

[a different chris]

I think ilsm's explanation is way, way better than Hamilton's. Because it is more traditional business school than classical economics.

Of course, I was tepidly OK with the excerpt, but wondering why I wasn't quite thrilled until he said "Anyone who has taken an introductory economics class will recognize this as an example of exactly how capitalism is supposed to function."

At that point I cringed, as anybody who has been here for awhile knows that I think Econ 101 causes more brain damage than an icepick to the frontal lobes.

I think economists, like JH who are well beyond Introductory Economics and no doubt have considered islm's description, think we are stupid so they just give up and throw 101 models at us because said models are easy and it gets us in the drooling mob to the right conclusion.

If maybe for the wrong reasons, well, they can live with it I guess. But the blowback (e.g., a nation that only doesn't laugh uproariously at Republican economic nostrums but actually elects them even after they ruin the budget) is painful.

But that's why they went for tenure instead of slugging it out in the marketplace with the rest of us.

[piotr]

I think that it is imperative for Congress to show that they "feel our pain". Of course, it can be done with varying degrees of sense.

I would be elated to see Congresscritters and their stuffers switching to bicycles and public transportation, making tele-conference appearances to save on airplane flights etc. Mind you, the more elastic the demand, the smaller are the price spikes.

[kharris]

Liberal,

So there is this guy in my office who wants to be part of the discussion. The problem is, he isn't really a thinker. He's more of a Sunday gas-bag watcher with a loud voice. When his loud assertions fail to convince the rest of us, he asks "why won't you listen to what I'm saying?" I have gently explained that failure to listen is not the only explanation for not agreeing with him. It could be that we listen, and decide his argument is wrong.

You are making essentially the same sort of argument as my loud colleague with things like –

"…step back and look at the fundamental economics of the issue---something I doubt many _economists_ have done."

That is like saying "think about the physics involved – something many physicists have failed to do" or "think about the role of yeast – something many brewers ignore." Economists look at fundamental economics of issues. That's what they do. If they don't adopt your views, it is almost certainly not because they have failed to consider the fundamental economics of the situation.

Even if you are going to go on and on and on about "rents" to the exclusion of all else, you don't need to accuse others of intellectual failure in the process. To put it another way, if you want to convince people, don't start out making yourself sound full of crap.

And try to get some more keys for that piano. One note isn't enough.