Streetwise Professor

Tom Steyer, enviro hedge fund billionaire and die-hard opponent of the Keystone XL pipeline to the Gulf (and, BTW, major Dem fundraiser) is trying a different tack in his attempts to kill Keystone.  He is claiming that it would raise gas prices, and thereby cost American consumers billions.

First, you’d think Steyer would think that higher prices are a good thing: people would consume less of that bad oil stuff if the price is higher.  Which might raise a question in your mind: how can an increase in oil output in Canada, with the oil be transported through the US, lead to lower consumption in the US? If so-you’re thinking!  Unlike the interviewer who doesn’t call bullshit on this outlandish claim.

Steyer’s objection to Keystone is that it would facilitate the carbon-intensive production of petroleum from Canadian oil sands.  Meaning that he believes that Keystone will cause an increase in oil output.  But, he also wants us to believe that this increase in output in oil in Canada will lead to a decline in consumption of oil in the US, because that’s the only way that US consumers can end up spending more on gasoline, etc.

Just how does that work, exactly?

He relies on a study by a “consumer advocacy group” that claims that since Canadian oil is backed up in the Midcontinent by the lack of transportation to carry it to the Gulf of Mexico, uncorking that bottleneck would raise Midwest gasoline prices because it would reduce supply in that region.  He-and the study-note that there is a big discount of Canadian crude prices to GOM prices due to the bottleneck.  He claims that the building of Keystone would raise the price of Canadian crude, and this would be passed on to American consumers.

Which is totally bogus.  You’d think a big hedge fund billionaire guy would know about prices being determined at the margin, and about derived demand, and about refining and transportation margins.

Gasoline prices in the Midcontinent are determined by the marginal source of crude oil, and refining capacity.  In some parts of the Midcon, imported crude is still the marginal supply source.  And even where it isn’t, refining capacity is the bottleneck, meaning that the primary impact of the transportation bottleneck is to fatten refining margins in the Midcontinent.  The big Canadian price discount reflects high transportation costs, and refining capacity constraints.   The biggest beneficiaries of the bottleneck are not Midwestern consumers, but Midwestern refiners and suppliers of transportation, such as BNSF.  (Is Steyer long Midcon refiners?  Rail stocks? I wonder.)

Basic economics tells you what would happen if Keystone XL goes into operation.

First, output of Canadian oil sands will go up.  That’s exactly what Steyer fears.  If that output doesn’t go up, what the hell is he worried about?  It will go up because the derived demand for Canadian oil sands will go up because the cost of transforming it into refined products will decline.

Second, some of the increase in Canadian output will flow to the GOM-that’s the whole reason for Keystone.  Some of these barrels will displace barrels that would otherwise be imported, primarily from Venezuela and Mexico.  That reduces the risk of an ocean spill of crude: that’s a definite environmental plus.

As a first approximation, given that refining is a bottleneck in the Midcon, refinery output there will not decline, or will decline marginally.  That, plus the facts that (a) the decline in US imports will tend to reduce world prices, and (b) the marginal barrel driving the price of some Eastern US and Midcon oil is the import price, means that prices in the Midcontinent will be fairly steady.

Output of refined products at the Gulf will increase.  Some of the additional output will be exported, but some will be consumed in the US, lowering prices in the Gulf region, and in regions that the Gulf refineries supply-like the East Coast.  (Note that the shale boom has led to a similar boom in the production of Jones Act shipping that is used to transport refined products from the Gulf to other markets in the US.  Keystone would have the same effect.  More shipping means more consumption means lower prices.)

In brief: approving XL would have small effects on prices in the Midwest, and reduce prices pretty much everywhere else in the US, at least in those regions supplied by Gulf Coast refineries.

And yes, all this would lead to Canadian oil sand producers getting a price that is closer to the world price, as Steyer claims.  But he is totally full of it to claim that this increase in the Canadian price will translate into a commensurate rise in the price paid for refined products by US consumers.  Totally. Full. Of. It.  (I’ll leave it to your imagination what “It” is.)

How can Canadian crude prices rise and refined product prices fall?  Easy as pie.  Reduce all the margins in the middle.  The transportation margin.  (Sorry, Warren-speaking of the mendacious.)  The refining margin in the Midcontinent. (Sorry, BP.)

The economics are almost trivial.  Reduce a bottleneck-a cost of transforming Canadian oil sands into refined products-you (a) reduce overall costs and increase output, and (b) reduce the margins of those who profit from the bottleneck.  If you increase output, prices fall, although the price impact depends on which side of the bottleneck you’re on: they fall more on the far side of the bottleneck than on the near side.

You’d think a hedge fund billionaire would know this.  So he’s either the dumbest hedge fund billionaire in captivity, or the most mendacious.

I’ll start making book on that bet.

Commodities are all about transformations in space, time, and form.  Keystone will reduce the cost of those transformations, which will inevitably-inevitably-lead to lower costs to consumers.

I would really like to hear Steyer respond to a simple question: “You think Keystone XL is bad bad bad bad bad because it will lead to increased output and consumption of those horrible fossil fuels and therefore increased output of CO2.  How is it possible that an increase in output and consumption will lead to higher prices?”

Do demand curves slope up in Tom Steyer’s world?  Is oil a Giffen good?

Who knew?!?

No.  We know the real story.  Steyer is being manipulative, and willing to say anything that will stoke political opposition to Keystone.  Knowing the sensitivity of the Median Voter to gasoline prices, he is trying to bamboozle said MV into opposing Keystone by scaring him (or her) into believing that it will raise Mr. (or Ms.) MV’s gas prices.

If he has to controvert the Law of Demand to do it-so be it.

To put it bluntly: there is no freaking way to reconcile Steyer’s opposition to Keystone based on its stimulating the production of Canadian tar sand oil with his claim that Keystone will raise gasoline prices in the US.  I am pretty sure that he knows that.  Which is why Steyer rhymes with liar.