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Yet More on the Pattern of Changes in Prices at the Pump

Are we – or, am I – overthinking the pattern of price changes at the pump? Maybe.

Maybe all that Armen Alchian and Bill Allen had in mind is the sort of situation revealed in the following dramatic hypothetical.

A devastating storm completely destroys, overnight, one-third of the world’s oil rigs. The anticipated soon-to-arise reduced supply of gasoline causes prices at the pump to rise immediately, as it’s quite easy to quickly withhold gasoline destined for retail stations today in order to hold that gasoline for sale tomorrow. Easy also is the withholding today of existing supplies of crude oil for sale and refining tomorrow.

No one with economic understanding superior to that of Bernie Sanders would doubt that gasoline (and crude-oil) prices would rise immediately. Furthermore, every such person would recognize also the benefits of such price rises.

The devasting storm, of course, soon passes. Rebuilding of the oil rigs commences. Physical supplies of crude and of gasoline will eventually rise back to levels that prevailed before the storm. But this result will not occur immediately. Physical production takes time. Although everyone correctly anticipates that prices will fall in the future as production ramps up, people in the present still wish to fuel their automobiles and delivery vehicles, heat their homes, have electronics encased in plastics, and otherwise consume products made from petroleum.

Gasoline destined to be refined, but not yet refined, is not part of today’s supply of gasoline. The anticipation today of tomorrow’s lower price of gasoline will defer some demand for gasoline into the future, thus putting some downward pressure on today’s prices. But some people, even at today’s still-unusually-high price of gasoline, will find it worthwhile to demand some gasoline today.

Perhaps all that Alchian and Allen are saying is that prices will not immediately fall to where they are destined to fall in the future because physical production takes time. Only after physical production is fully back to ‘normal’ will prices fall back to where they were before the storm announced its imminent arrival. (Note that another piece of reality that is both understood and applauded by people with economic understanding superior to that of Bernie Sanders is that the prices of crude oil, and of gasoline, will rise the moment people come to expect that the storm will cause significant damage. Thank goodness the rise in prices does not await the actual commission of the damage.)

While it’s typically physically possible to immediately withhold existing supplies today in order to transfer them to future markets, it’s less often physically possible to immediately transfer supplies from the future for sale in present. Thus this reality: In response to many petroleum-supply disruptions, prices at the pump rise faster than they fall.


For a related post, see this 2018 one by David Henderson at EconLog.

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