The Impact of Mergers in U.S. Petroleum Industry on Wholesale Gasoline Prices
Karikari, John A., Agbara, Godwin, Dezhbakhsh, Hashem, El-Osta, Barbara, Contemporary Economic Policy
Since the 1990s, the U.S. petroleum industry has experienced a wave of mergers, acquisitions, and joint ventures, several of them between large petroleum companies that were previously competitors for the sale of petroleum products. For example, in 1998 British Petroleum (BP) and Amoco merged to form BP-Amoco, which then acquired ARCO in 2000. Exxon, the largest U.S. petroleum company, acquired Mobil, the second largest, in 1999, thus forming Exxon-Mobil. Although mergers may have cost savings and efficiency effects, some policy makers and consumer groups have expressed concerns about potential anticompetitive effects of these mergers that can ultimately contribute to higher gasoline prices.
Several of the petroleum industry consolidations that took place in the second half of the 1990s involved large and partially or fully vertically integrated companies with potential impacts on wholesale gasoline markets. Such transactions are generally referred to as mergers because they lead to consolidation of assets, although some of the transactions in this case were similar to joint ventures. Several of the mergers had the potential to reduce competition in wholesale gasoline markets because the merging companies operated in overlapping wholesale gasoline markets. For instance, the U.S. Federal Trade Commission (FTC) identified the BP-Amoco merger as having potential anticompetitive effects on wholesale gasoline markets in 30 cities or metropolitan areas in the Eastern part of the United States. Moreover, mergers that reduce competition in the downstream segment of the petroleum industry--such as refining or retail--can reduce competition indirectly in wholesale markets if one of the merging companies is partially or fully vertically integrated. For instance, the Exxon-Mobil merger, which had the potential to reduce competition in refining in the West Coast and in retail markets on the East Coast, could have had competitive implications in the relevant wholesale markets. To preserve competition, the FTC often requires the merging parties to divest assets to a third party. (A divestiture requires that one or both of the merging parties sell some of their assets to restore or maintain competition where it might be harmed).
The effect of these mergers on gasoline prices depends on two opposing forces: the combined market power that tends to increase prices and efficiency gains that tend to decrease prices. Which of the two is the dominating force in recent mergers is an empirical issue. This study examines how the wave of mergers in the U.S. petroleum industry in the second half of the 1990s has affected U.S. gasoline prices at the wholesale level. The analysis focuses on wholesale gasoline markets because trends in gasoline prices are usually observed first in wholesale markets and subsequently in retail markets. Also, more comprehensive data are available at the wholesale level. The authors examined eight major mergers in the U.S. petroleum industry that occurred between 1997 and 2000. These mergers combined affected every one of the five regional gasoline areas (referred to as Petroleum Administration for Defense Districts, PADDs); see Table 1.
To analyze how mergers in the U.S. petroleum industry have affected U.S. gasoline prices at the wholesale level, the authors build on previous studies of gasoline pricing. See, for example, U.S. General Accounting Office (GAO) (1986, 2004), Borenstein and Shepard (1996a, 1996b), Spiller and Huang (1986), Hastings and Gilbert (2000), Vita (2000), Chouinard and Perloff (2001), FTC (2001), Pinkse et al. (2002), Taylor and Fischer (2002), U.S. Senate (2002), Geweke (2003), and Hastings (2004). Despite some similarities in insights and approaches, the models the authors estimate differ from earlier studies in several ways. First, this is a comprehensive study of wholesale gasoline markets that uses a single conceptual framework to examine the effects of several major mergers in the 1990s. Second, the study covers various formulations of gasoline including conventional gasoline sold nationwide, as well as boutique fuels that are sold in California (referred to as California Air Resources Board [CARB] gasoline) and in certain cities in the East Coast and Gulf Coast regions (known as reformulated gasoline). Third, the authors considered both the branded and unbranded types of these fuels. And, fourth, unlike most previous studies, this study included the effects of both gasoline inventories and refinery capacity utilization rates on wholesale prices, whereas previous studies have either excluded capacity utilization or both.
The rest of the article is organized as follows. Section II discusses the econometric modeling--in particular, issues related to isolating the effects of mergers from factors, such as crude oil costs and refinery activities that can potentially influence wholesale gasoline prices. Section III reports and discusses the estimation results. Section IV offers some concluding remarks.
II. ECONOMETRIC METHODOLOGY
The authors develop a general econometric model to determine the effects of mergers on U.S. wholesale prices of different gasoline specifications--conventional and boutique fuels (comprising CARB and reformulated)--in the second half of the 1990s. The model draws on the U.S. GAO (2004) study, industry experts, and existing analysis of the petroleum industry, specifically the wholesale gasoline market. Eight individual petroleum industry mergers are modeled as events, and their impacts on wholesale gasoline prices are estimated using a broad panel data set that includes gasoline terminals or racks at cities where the merging companies sold wholesale gasoline before they merged. Using panel data across all rack cities nationwide and over time allows one to estimate the mergers' effects on prices in the rack cities where the merging companies operated, relative to prices in rack cities where they did not, while controlling for other factors. More details are provided next.
The dependent variable used in the regression model (PRICES) is wholesale gasoline price less spot crude oil prices, with crude oil prices (which constitute about two-thirds of total refining costs) serving as the proxy for marginal input costs. (1) This formulation enables the authors to assess the combined market power and efficiency effects of the mergers on wholesale prices (see, for example, Hastings and Gilbert 2000; Hendricks and McAfee 2000). (2) The (unweighted) average of all prices at the rack cities were used instead of prices of only the merging companies because the average rack prices better capture competition at the racks before and after the mergers. The authors use unweighted average prices mainly because volume-weighted average prices data are not available. A potential limitation of using unweighted average prices, however, is that they fail to show the changes in the average prices resulting from a merger-induced change in the weights. For example, weighted average prices can decline with a merger even though the unweighted average prices show an increase because the merger did not involve a high-price company, whose price carries more weight after the merger when there are fewer competitors. (3) Although this situation is not likely because the mergers analyzed here typically involve large companies at the racks, and a …
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Publication information: Article title: The Impact of Mergers in U.S. Petroleum Industry on Wholesale Gasoline Prices. Contributors: Karikari, John A. - Author, Agbara, Godwin - Author, Dezhbakhsh, Hashem - Author, El-Osta, Barbara - Author. Journal title: Contemporary Economic Policy. Volume: 25. Issue: 1 Publication date: January 2007. Page number: 46+. © 2003 Western Economic Association International. COPYRIGHT 2007 Gale Group.
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