Is Gasoline a Comodity?

June 22, 2007

If you’re not confused, you’re not paying attention.
~Tom Peters

Gasoline, petrol, essence, call it the way you want, we need it and we need it a lot. notwithstanding the widely known fact that I’m biking to work now, I still need the refined dinosaur bones to get to day care, supermarkets, and being summer, the beach. Every day we can see the price on the pumps going up and down, synchronized, in all the city of Toronto, and they have explain to us that no, that the four major gas retailers are not in concubinage to fleece us up, and that the high prices are just a reflect of demand, supply, crude oil prices, and of course, the overwhelming threat of terrorism since *sigh* 9/11.

Since the only threat I consider real is that aimed to my wallet, first I though nah! they are fleecing us up, then I realize that I cannot make an asseveration like that since everybody in the oil industry and in the government is telling us that high oil prices, problems in the supply chain, refinery cost, and *sigh* threat of terrorism since 9/11 are pushing this commodity’s price up and that the retailers are just as victims as us.

So I went to torontogasprices.com and made a small graph to see the correlation between oil and gas prices during the last six years.

Toronto, Gas and oil prices

I do not have the numeric data, so I cannot make a proper correlation, but, with the proper scale used (the increments in both Y-axis are similar), we can see that the price of gasoline is being every time a minor percentage of the oil price.

When in 2001 the Oil barrel was at 21 dlls, the litre of gas was at 60 cents, that is, given that the oil barrel has got 159 litres, a relation oil-litre/gas-litre of 13:60 or 21.66%, so for each dollar spent on gas, 21 cents went to paid for the oil. In 2007, we have got a price of 67 dlls per barrel (42 cts/lt) and 104 cts/lt of gas, so, the relation is now 42:104 or 40.38%, meaning that now, for every dollar of gas, we pay 40 cents of oil. So, the relation between oil and gas prices is a little foggy.

Then, let’s see about those problems in refinery and the supply chain. We can compare the prices between Canada and USA

Gas Prices, USA and Canada

They dance together! We do not need r ~ 1 to see that the prices are co-related. If we have refinery and distribution issues, are those affecting the entire continent? Both USA and Canada are heavy oil producers, so, the refinery and distribution within North America should affect only some areas, not the entire sub continent. Just for fun, let’s compare two oil producing cities in USA versus Toronto, a non-producer from Canada.

Dallas, Anchorage, Toronto gas prices

Looks like the relation is not that clear now. Looks like the price of gas not depend only on distribution or oil prices, since, although the price is mainly lower in the oil producing cities than Toronto, is not really always the case, and the price variation is less in Anchorage and Dallas than in Toronto.When we compare Toronto versus Calgary, another heavy producer, but in Canada, the difference is less, with Calgary having some times a higher price than Toronto.

Toronto, Calgary gas prices

What do we make of all these graphics? It is certain that there is not an issue about supply chain and distribution, and that the relation between oil and gas prices, while obviously existent, is not that strong as you may think between a raw material and a finished product, what makes sense, since the refinery process adds a lot of value.

The final explanation of why gas prices are so high would be demand and supply. The oil companies and the government keep telling us that a commodity is subject to full free market forces. Let’s see then how can we define a commodity:

1) A commodity is easily interchangeable, you can buy it from any supplier and the result is the same. This is partial true for gas, because we can buy it from any supplier, but there are not substitute products that we can use instead of gasoline.

2) A commodity is subject to free market rules. This is false in the case of gas, first, because we have a limit number of suppliers. In Canada we have Esso and Shell dominating the market, with Sunoco and Petro Canada filling up the gaps. This is not truly a perfect competition scenario. Second, no commodity is as regulated and taxed as gas, with federal and provincial taxes building up about 50% of the final price.

So we can conclude that gas price is not a commodity, that there is not apparent chain supply problem, and that, while the oil price is going up, the relation is not strong, giving also the fact that a lot of the value of the gasoline is added during refinery and do not come from its raw material.

In other words, they are fleecing us up.

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Sustainable Ride

May 3, 2007

Motivation is what gets you started. Habit is what keeps you going.
~Jim Rohn 

 I was finally convinced of the need of reducing pollutants and to make my contribution to reduce traffic, greenhouse gases emissions, and oil-dependency. The grassroots activist decided to walk the talk!

Well, not really, the truth is that I can’t afford the $130 per month I need to pay for a parking space close to my work, so I decided to ride instead of to drive. I need to drop my baby to one of those baby warehouses that we call daycares before coming to work. The daycare and my workplace are in perfect opposite directions, so everyday I drive to the daycare, and then pass in front of my apartment in my way back to work.

I had to re-schedule and wake up half an hour earlier (which is a terrible sin according to my beliefs), drive to the daycare, drive back, and then take Rusty for its first ride.

 6218353_3aa62429dc.jpg

I wasn’t really looking forward for this, because I had bike all my life as leisure activity, not as a mean for transportation, but as soon as I started pedaling I felt good. I felt the chilled wind in the face, the smell of the spring gardens, and the closeness to the neighbour.

I discovered then that other bikers salute you, that soccer dads say hi when you pass next to them while they are getting the kids ready for school. You can see the joggers, the dog-walkers, and the squirrels trying to steal food. I have the privilege of biking through one of the most affluent neighbourhoods in Toronto, so the streets are calm and clean. When I hit downtown I take a side street full of construction workers and potholes, but I go faster than the line of cars standing just there, waiting for the traffic light. In the corner of Bay and St. Charles there is a group of teenagers promoting biking over riding and they greet me: “Hi you sir! Thank you for riding! You are my hero!” (Actual words, I am not making this up).

Admired by the men! Desired by the women!

Then I look at my watch, coming here today only took me five minutes more that driving. I am not tired, especially because I cannot feel my legs anymore, and over all, I saved $130 bucks of parking. I understand that not everybody can bike to work, but this is just an example on how different facts add together to a result.

The raison de être of this blog is to find out how to use economic theory to promote sustainable ideas. How can we play with capitalist rules to support social welfare, fair trade, and the environment. How to match the economic benefits and the social responsible behavior? I was forced by economic rules of supply and demand to take my bike. Given that is not winter anymore, I am not willing to be fleeced of $130 per month for parking. The environmental impact is clear: less traffic, less pollution, less demand for petrol.  My health will improve, so my waist line (I hope). If enough people do this, you will see an adjust in price of petrol and parking spaces, maybe then increasing the demand, but now that I tried riding it won’t be that easy to take me back to drive for the summer/fall; so the economic law pushes the environmental fact, and it’s all good.

I, of course, will insist from now on that I started biking for the environment’s sake, so do not tell anyone!


Is Free Trade Fair Trade?

February 23, 2007

Expecting the world to treat you fairly because you are a good person is a little like expecting the bull not to attack you because you are a vegetarian.
Dennis Whole

We will assume, for sake of simplicity, that fair trade takes place between a undeveloped country (the seller) and a developed one (the buyer), but it is meritorious to mention that fair trade also applies for commerce within a country (like Mexicans from the city buying coffee from Mexicans from Chiapas).

According to Fair Trade USA, there are 20 fair trade certifiers worldwide working with over one million farmers. But recent studies by the World Bank conclude that the benefits of free trade and economic liberalization have failed to reach the world’s poorest people. Paul Rice notes that many of these “victims of globalization” are small farmers in the developing world. Fair trade is a market-based approach to solving global poverty, he explains, one that helps make free trade work for the poor[1].

Suggestions that “unfair’ products may be taxed or that imports have to comply with ILO[2] standards have led to criticism from free trade advocates and even fair trade promoters are cautious when demanding protectionism or international intervention. Fair trade is seen as paternalism in international commerce[3].

The emphasis is that is the lack of free trade what is affecting developing nations: Protectionism, quotas and agricultural subsidies from the developing world are affecting third and second world producers.

The idea of fair trade is paying a fair price for the product of the work of different farmers and workers. One of the global implications is that, in perfect market conditions, the price of a product would be fair since the producer will not be willing to sale at a lower price of a given amount. Free trade will equals fair trade (Brink Lindsey, Milton Friedman).

The problem is that there are some market imperfections:

· Several industrialized countries, like USA and France, have strong subsides to the agricultural industry[4]
· Industrialised countries are larger economies than non-industrialized[5]
·
The fluctuation of commodity prices doesn’t guarantee a living wage for many producers, forcing them into debt and poverty[6].
·
The fluctuation of the currency between first world countries and underdeveloped and developing ones often alters the price of the product in an unnatural way[7],[8]

In the 1980’s, the US government policy provided $260 billions to American Farmers[9]. In 2008, the final NAFTA protections to Mexican bean and corn will fall, leaving poor Mexican farmers alone against the most subsidized farmer economy in the world.[10]

These imperfections make very difficult for smaller traders to compete. The argument is that multinational companies are able to benefit from subsides and protections that small economies cannot provide. The economic situations that these imperfections bring may fire backwards to developed countries when illegal immigration and terrorism are exported along with the goods. Flora and fauna extinction, social unrest and deforestation are faced in producing countries as result of poor economic conditions, like Chiapas in Mexico.

Fair trade hence gives consumers to use their purchase power as a vote to balance the situation[11]; fair trade then tries to set a fair price for the product, on the basis that the price shall:

  • Covers the costs of production.
  • Allows the peasant or worker to actually make money.
  • Allows re-investment in the farm or factory and
  • Allows the peasant or worker to work on safe conditions.

So, how much is a fair trade product priced
over a non-denominational

[12]

one? Here some examples
:

Product Fair Trade Non-Denominational
Coffee 1.26 .063
Cashews 2.48 2.38
Chocolate 0.73 0.64
Tea 1.25 1.00

I haven’t find evidence on how the fair trade price
is set and I haven’t found evidence that the price stated complies with the
fair trade mandate. There is very little work on the extend of how lives are
changed by effects of fair trade[14] Hudson and Hudson document that the producers of the cooperative “Majomut” in Chiapas are getting $148 USD more per year in an entity where the average salary is $1,345 USD per year, but they cautious us of not taking one
single result as a general effect of fair trade.
The traditional test of fairness is the voluntary consent of each party to the business.It is “The free will that constitutes fair exchanges” 15] . When an estimate of the value of a third or second world
product is done in the first world, we are estimating the value of a foreign
market from a distorted perspective. The word fair is usually what a willing
buyer will pay a willing seller[16], but given the mentioned market imperfections, we need a measure to determine what would be a fair price for a given product.



[1] “Why Fair Trade?” Paul Rice, TransFair USA, video conference held on March 2006. Available on http://www.big-picture.tv
[2] International Labour Organization
[3] “The Myth of Fair Trade”, James Bovard, Cato Policy Analysis, Nov 1, 1991.
[4] The U.S. government spent $2 billion in 1986 to flood international markets with American rice, driving down the world rice price by 50 percent. The Thai rice program spent less than $100 for each Thai rice grower, while the U.S. program spent the equivalent of over $l million for each full-time American rice grower between 1985 and 1990. Thailand’s average per capita income is $860, while the average American full-time rice grower was a millionaire even before receiving lavish subsidies in the mid and late 1980s.
[5] “Why Fair Trade?” Paul Rice, TransFair USA, video conference held on March 2006. Available on http://www.big-picture.tv
[6] http://www.fairtrade.org.uk/about_what_is_fairtrade.htm, retrieved on April 2006.
[7] Washington lawyer David Palmeter observes: “In the U.S., exchange rates in anti-dumping proceedings are determined by applying an outdated regulation, a relic of an era that ended in the early 1970s when the fixed exchange rate system established at Bretton Woods was abandoned. . . . The rate established by the Federal Reserve is a quarterly one, set in advance, and based on transactions at the end of the previous quarter. . . . This average rate is used throughout the quarter unless, on any particular day, it varies from the average by more than five percent, in which case the daily rate is used.” N. David Palmeter, “Exchange Rates and Anti-dumping Determinations,” Journal of World Trade 22, no. 2 (1988): 73.
[8] The depreciation of the Brazilian real from 1.20 to the dollar in January 1999 to 3.60 as of January 2003 has caused Brazilian costs in dollar-denominated terms to fall markedly.
[9] “The Politics of Plun der”, Doug Bandow, New Brunswick, N.J.: Transaction Books, 1990.
[10] “Los Idus de Julio”, Carlos Fuentes, El Norte, Jul. 21, 2006.
[11] “Students Guide to Fair Trade”, Louisa Lyne, Oxfarm, 2006.
[12] The author resists to use the term ‘non fair trade’ since he’s trying to avoid the implication that products without the fair trade labeling are unfair.
[13] Retrieved from http://www.worldcentric.org/store/pricing.htm on July 2, 2006
[14] Hudson and Hudson, “Removing the Veil?”, Organization & Environment, Dec 2003, p 422
[15] John Taylor, 1822.
[16] U.S. Department of the Treasury, “Report of the Secretary of the Treasury to the Congress on the Operation and Effectiveness of the Anti-dumping Act and on Amendments to the Act Considered Desirable or Necessary,” 1957, pp. 1819.


Equilibrium, Disequilibrium and Sticky Prices

February 5, 2007

If economists were good at business, they would be rich men instead of advisers to rich men.
Kirk Kerkonian

In order to better understand the market’s forces, we need to handle three concepts which are very simple but also very powerful. You may want to go back to our little supply and demand post before moving on. If you know it already, let’s then move on.

When supply equals demand, we say that the market is in equilibrium. This means that all the goods and services produced are accommodated at a given price and no demand is left unattended. This is also called a clear market.
Supply and Demand

Equilibrium is a characteristic of free markets. When market imperfections exist, the market may take some time to clear. An example: when guarantee prices for commodities exist. Let’s say wheat’s producers are guaranteed a minimun price for metric ton. If the wheat demand goes down, the price of wheat won’t, because the price that they receive is guaranteed, the farmers are encouraged to keep their previous levels of production. The result is excess demand:

Excess Market

Pg is the guaranteed price, which produces Q1. When the demand curve moves downwards, Q2 becomes the new quantity which the market demands, thus the new price should be Pr, but because producers are still receiving Pg, they continue to produce Q1. The market only accommodates Q2, so the difference is now an excess.

In the agricultural sector, the excess is often bough by the government and then either sold with a loss, or pour into the ocean. Haven’t seen those Braziliean cargo ships pouring coffee into the Atlantic?

In the labour market, this would be manifested throught unemployment. Salaries can’t go down, and the market can only accommodate Q1 at the current wages, so, the excess is people either fired or not being able to find a job.

Price flexibility is crucial for continuous equilibrium in markets. If prices are flexible they adjust quickly to changes in supply or demand, so market equilibrium is restored. When a price takes to long to adjust downwards, is called a sticky price. Sticky prices have a considerable practical significance. At the onset of a economic recession, a slowdown in growth triggers cuts in production and drop in demand for goods and services. Unemployment rises; both labour income and business profits fall. The negative effect is worse if prices cannot adjust fast enough.

The most perfect market, the one that clears fastest, is the Capital Market. The price of money is the interest rate; the slightest adjust and capitals fly all over the world. The sticker price is labour, which due to regulations usually never moves downwards directly.

These apparent boring subjects will be very useful when we’ll examine Fair Trade price scheme. As reward for bearing with me during all this economic jargon, which I know may be pretty hard, here is THE funniest video:
http://www.youtube.com/watch?v=rfP90uJ12eQ