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Nonsense on Oil

March 16, 2000

Recently our campus has been hit with a silly e-mail calling for a "gas
out." Well,
not being able to let such ignorance of economics to remain, I wrote a reply
that was very well received. However, a religion professor wrote back
saying that he agreed the boycott may not work, but of course, we need price
controls.

I couldn't resist a good argument.

1st E-mail:

Last year on April 30,1999, a gas out was staged across America to bring the
price of gas down, and it worked. It's time to do something about it again.
Only this time lets make it for three days instead of just one.

The so-called oil cartel decided to slow production to drive
up gasoline prices. Lets see how many American people we can get to ban
together for a three day period in April, NOT TO BUY ANY GASOLINE, during
those three days.

LET'S HAVE A GAS OUT. Do not buy any gasoline from APRIL 7, 2000, THROUGH APRIL 9, 2000. Buy what you need before the dates listed
above, or after, but try not to buy any during the GAS OUT.

If you want to help, just send this to everyone you know and ask them to do
the same.

We brought the prices down once before, and we can do it again.

Come on America let's stand together.

We CAN MAKE A DIFFERENCE !!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!


My Response:

Dr. M.,

I hope that you have sent this as an example of what non-economists
shouldn't do. Such an action would be pure folly. Why would one think that
a few people doing this one time last year caused prices to be low last
summer? Such reasoning is a clear example of the post hoc ergo propter hoc fallacy.

Coincidence does not imply causation.

By what economic theory would this action supposedly work? Well, a decrease
in demand would be a leftward shift in the demand curve and both price and
quantity would fall, but this result is not sustainable. The underlying
real demand has not changed (the protesters will eventually use their cars
again), and the oil companies know it. So what is the oil companies' motive to
lower the price for an entire summer?

Additionally, if the price of gas really was that sensitive, then the gas
price would spike the day before the protest. Why? Two reasons: 1) there's
an increase in demand; and 2) if the "gas out" is advertised the oil
companies would be aware of the protesters' intent. (If I were an oil
company and I saw a bunch of disgruntled people attempt to boycott my
product, but before they do, they're going to fill up their tanks, then I'd
gouge 'em!)

However, suppose that you are able to convince people to not buy gas for
those three days. Further suppose that for those three days the price of
gas falls. On that day, I think I'll be buying gas before it goes up a day
or two latter. So the result is that the protesters end up paying a high
price and not have gas for three days. Those who don't go along with this
scheme benefit.

In North Carolina the state tax on gas is over 22 cents a gallon and the
Federal tax is over 18 cents. Together it's over 41 cents a gallon!--about a
third of the price. I've noticed that people tend to get upset with
increases in prices they see everyday, like gas prices or ATM fees, but
rarely do they get upset with the high level of income tax. Is it because
they don't see it everyday?

If one was really serious about organizing to
lower gas prices, we should argue for a cut in (or preferably the
elimination of) the gas tax. Or even better, a general reduction in income
taxes across the board would lead to the decrease in the cost of gas
relative to one's overall budget.

Finally, we should remind ourselves that Iraq has not supplied oil to the
world since they invaded Kuwait. If it were not for Clinton's wonderful
ability to deal with Iraq, they would have been exporting oil and driving
the price lower since the early '90s.

So, yes we can make a difference by making our views heard, not by
protesting oil companies, but by telling the real culprit (government) to
stop intervening in the market.

Paul Cwik
Dept. of Econ.


2nd E-mail:

I agree with you that a boycott might not work. However, I think situations
like the sudden rise in gas prices certainly creates validity in the
argument that there should be government controls on prices of needed
commodities like gasoline. Giant corporations need to be controlled from
taking advantage of people during times of shortage.

Dr. J
Department of Religion


My 2nd Response:

Dr. J.,

I am pleased to see that you have considered the argument against a boycott,
and so I hope that this response will receive the same level of
open-mindedness.

Prices are little packets of information, signals if you will, to
entrepreneurs. They tell the entrepreneur how to adjust resources in their
production process so they can act in the most efficient manner possible
(meaning: production with the least amount of waste). Prices are formed by
everyone making decisions (based on their own subjective preferences) to buy
or not to buy.

This system may not be perfect, but it does have significant
advantages over any other system, especially with regard to minimizing waste
and maximizing happiness.
Entrepreneurs use prices to coordinate the economy. Those who are good at
removing misallocations (maladjustments) in the economy are rewarded with
profits. Those who are poor at translating the consumers' signals suffer
losses. If enough losses pile up, they then go out of business and have to
go to work for someone else. The best at coordinating the economy stay
in, and those who cannot have to go to work for someone who can.

When a government decides, in its own arrogance, that a price is too high or
too low, it is replacing the combined valuations of the populace (the will
of the people) with its own. As a result a permanent misallocation emerges.

The result of a price ceiling is a permanent shortage (e.g., the gas lines
in the 1970s.) If the price is allowed to rise (e.g., during the Gulf War)
we do not see lines. Lines are a non-pecuniary means to resource allocation
and is necessarily less efficient (more wasteful).

A shortage can only be caused be an incorrect price. If the market is
allowed to transmit the correct signal (read: equilibrium price), then the
quantity supplied exactly equals the quantity demanded.

If you are still
doubtful consider the impact of a hurricane. When a hurricane is
approaching, we see people running out to the store to buy plywood for their
windows. When this happens, we see prices go up. Non-economists call this
"gouging" and a bad thing. Unfortunately, this belief is exactly wrong.

What is actually occurring is the higher price signals to entrepreneurs that
this resource is desperately needed. It encourages them to reallocate those
resources to the areas in need. All of this happens without the need of any
central planner. The entrepreneurs are able to correctly gage the intensity
of the need and deliver the correct amount of supplies (without short
changing other areas).

A government planner who imposed price controls would stop that signal.
Without that signal, the resources wouldn't move into that needy area
freely. In other words, only by the use of coercion could these resources
by moved into that area. Why say "coercion"? Well, just try and not pay
your taxes!

More importantly, however, is the knowledge that doesn't exist with the
bureaucrat. In other words, without the price signal, how much plywood and
water, etc., should be shipped to the needy region? Without prices, there is
no way to know.

So I respectfully and completely disagree with the notion of imposing any
sort of price controls or restrictions on businesses even during times of
crisis.

Paul Cwik
Dept. of Econ.

**********

Paul Cwik teaches economics at Campbell University. You can email him at Cwik@mailcenter.campbell.edu.


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