FTC questions Connecticut oil product bill

Nick Snow
Washington Correspondent
WASHINGTON, DC, May 7 -- A Connecticut bill that aimed to keep retail and wholesale oil product prices in the state from rising excessively actually would have had the opposite effect, three staff directors at the US Federal Trade Commission concluded.

The FTC on May 4 approved filing of the comments by Maureen K. Ohlausen, director of the commission's policy planning office; economics bureau director Michael A. Salinger, and competition bureau director Jeffrey Schmidt. The three officials wrote their remarks in a May 2 letter.

House member Christopher R. Stone (D-East Hartford), co-chair of the state assembly's General Law Committee, who requested the evaluation in a Mar. 1 letter to Ohlausen.

In their letter, Ohlausen, Salinger, and Schmidt recommended that Connecticut's assembly not adopt Senate Bill 1136 because it "may result in increased retail prices and harm consumers by hindering the market's ability to respond to supply disruptions."

They added that the bill's ban of zone pricing potentially would reduce incentives for refiners to establish retail outlets in areas where there is lower demand and less competition.

The bill failed by a 12-7 vote in the General Law Committee on Mar. 14, but it could resurface as an amendment to another measure before the state assembly adjourns on June 6, Stone told OGJ on May 7.

The FTC staff members' concerns centered on SB 1136's provision that would mandate retailers sell gasoline from their storage tanks based on what they paid for it instead of the anticipated cost of replacing it.

Staff members also addressed the bill's prohibition of zone pricing, the practice where refiners charge retailers served by a common terminal wholesale prices based on a retail outlet's location.

"Legitimate role"
Ohlausen, Salinger, and Schmidt warned that the first provision could interfere with "the legitimate role prices play in shortages" as they encourage motorists to reduce demand.

"Artificially low retail prices in times of shortage may cause consumers to purchase more gasoline than they would if prices were being set by the market. In turn, this could exacerbate the problems caused by shortages, with long lines at stations and even scarcer supply. These predictable reactions may cause the wholesale price to rise even more sharply than it otherwise would," they said.

Second, they said, the bill might distort gasoline retailers' incentives in ways that would harm consumers in the long run. "For example, if retailers cannot increase prices in anticipation of what they will have to pay at wholesale to refill their underground storage tanks, they may maintain, on average, lower inventories" in those tanks, they said.

Such decisions to maintain lower inventories could make Connecticut more susceptible to supply shocks because retailers would not have supplies in their underground storage tanks to help cover a short-term shortage, the FTC staff members suggested.

Third, they continued, limiting retailers' ability to raise prices "paradoxically" would provide them an incentive to charge higher amounts. "Suppose, for example, that a gasoline station was considering cutting its prices from $2.50 to $2.45 in response to current market conditions. The proposed legislation would limit the gas station's flexibility to raise its price back to $2.50 should market conditions change. That restriction might cause it to forego the price increase altogether," they explained.

The bill's pricing incentive impact also would not have been limited to periods when retailers were lowering prices, the FTC staff members said. "Whenever a gasoline station makes a pricing decision, a restriction on subsequent price increases means that choosing a higher price 'today' preserves the option to charge a higher price 'tomorrow,'" they said.

Zone pricing
In their letter, Ohlausen, Salinger, and Schmidt said that price zones are based on the area of effective local retail competition, and that refiners who use it typically charge retailers more when the retailers are in areas with less competition. They said that the FTC has examined this practice several times in the past and has never found evidence of coordination by refiners.

Moreover, they continued, zone pricing potentially benefits consumers because it provides an incentive for refiners to locate retail outlets in less competitive areas because they can capture more of the return from owning desirable retail sites. "Zone pricing also reduces transaction costs through better alignment of retailer and refiner incentives," they said.

Prohibiting zone pricing potentially would limit entry into less competitive areas and make it harder for refiners and retailers to align their incentives, the FTC staff members said. "We also believe that a ban on zone pricing is unnecessary because state and federal antitrust laws already are broad and flexible enough to support enforcement in any circumstances in which zone pricing is likely to harm consumers," they said in their letter to Stone.

They added that if Connecticut's assembly believes some regulation of zone pricing is necessary, the practice should be prohibited only when it can be demonstrated that it is harming consumers.

The bill was opposed by marketers through the Independent Connecticut Petroleum Association and by refiners through the Connecticut Petroleum Council, one of several state organizations within the American Petroleum Institute.
Opposition to a zone pricing ban came from API and the state petroleum council, which commissioned a study by three Quinnepac University economics professors. The study was presented to Connecticut lawmakers earlier this year. The professors were Christopher Ball, Mark Gius, and Matthew Rafferty.

Actual prices
The study was the first to use actual historic prices supplied by refiners who were careful to not share them with each other for antitrust reasons, according to Steve Guveyan, the Connecticut Petroleum Council's executive director. "They found that over a 3-year period, prices would have gone up without zone pricing," he told OGJ on May 17.

Banning zone pricing would reduce competition not only between brands but also within brands since products from a single terminal would have to sell at uniform prices and not consider retail outlet property costs and other overhead, Guveyan said.

"Our results are consistent with the theoretical, experimental and empirical results of prior studies. Banning zone pricing in Connecticut would harm Connecticut consumers, and the harm would fall disproportionately on consumers living in the lower income areas of the state," the 3 economics professors said.

In the past, marketers in the state have worked to kill bills "to prevent state government from making what is an international energy problem a local disaster," ICPA Executive Director Eugene A. Guilford Jr. told OGJ in a May 7 e-mail.

These include bills which would have banned dealer tank wagon pricing, replacement cost pricing, or more than 1 price increase in 24 hours, as well as others which would have required marketers to provide dealers 10-year leases, right of first refusal if the station was sold, and the right to buy products from other suppliers in violation of their current agreements.

Contact Nick Snow at [email protected]