Thursday, 3 May 2018

Patrolling the petrol market

BP's been getting it in the neck about that leaked pricing memo from 2017, which proposed to fix its little local difficulty on the Kapiti Coast. BP Otaki had been bleeding volume because of its regionally high pricing, and the idea was to raise prices at BP Levin and BP Paraparaumu up to the BP Otaki level, and hope that the other petrol companies followed suit rather than leave all three BP outlets high and dry with out-of-the-market prices. BP had grounds to believe the others might well follow: the memo said that Z Paraparaumu had already followed the first 5 cents hike.

Cue for hysteria all over the place, carpetings by The Minister, and calls for boycotts and bonkers policies (eg national uniform petrol pricing).

While BP is perfectly capable of fighting its own corner - 'BP defends petrol pricing strategy' - it might be helpful to step back and look at the wider picture.

Yes, it's not good for consumers if the petrol industry starts running a leader-follower model and the leader is taking prices higher (we'd have much less of a problem if the leader was driving prices down). And the petrol companies are getting away with higher margins in parts of the country than they would if they faced more competition.

But to be fair to BP, it's not systematically a higher-price leader, though it used to be. Have a look at this graph, from MBIE's petrol study last year (I originally covered it here).

The bottom panel shows that over the period 2008-10 BP had virtually always led prices up, and had almost never led them down: if there was a time to rip into it, it was back then. Shell was the mirror opposite, always the leader down and never the leader up. 

But after Shell was bought in 2010 by the NZ Super Fund and Infratil and later renamed Z, the pattern changed markedly. Over 2010-15 Z was now the most likely to be first to raise, ahead of Caltex, though BP still did a bit of it. And the pattern changed on the down side, too: Z was still most likely to cut prices first, but BP was also a pretty active first mover. Strategies may have changed again since 2015, but BP isn't obviously the "let's take prices higher" coordinator it's been painted.

It's also not odd, by the way, for companies to be experimenting with all sorts of price changes, up and down. Here for example is a graph of what Air New Zealand was charging for a one-way flight from Auckland to Wellington, no bag, for travel on Wednesday May 3 or Thursday May 4.

The airlines, as memorably satirised in 'If airlines sold paint', are at one extreme of price differentiation: they've got more scope for it than the petrol companies because one flight is often not a perfect substitute for another, whereas a litre of 91 is a litre of 91. But it's also not unusual, even in workably competitive markets, to find companies selling much the same product at different prices in different circumstances. It's certainly not a strong basis for blowing a gasket and reaching for regulation.

And let's also recall that price discrimination isn't necessarily bad for consumers, either. The high price that an airline charges for the inelastic business passenger demand at the start and end of the business day helps fund those cheapo offerings for the budget end of the market. If there was uniform pricing, the budget traveller wouldn't get a look in at all.

It's also not at all clear that the petrol companies are collectively gouging everyone. It's true that their margins have been going up a bit recently as this chart shows (it comes from MBIE here). 

But short-term trends aren't a great guide to the longer-run state of profitability. As MBIE's longer-run and inflation-adjusted series shows below, margins aren't unusually high at the moment. They were higher in the mid 1990s, for example, and a good deal less than they were in the cushy days of the over-regulated industry of the 1980s.

All of this isn't to say that the petrol industry is problem-free from a competition point of view, as hapless buyers of petrol in the bottom of the North Island and the whole of the South Island know. Here are the petrol companies' margins, split out by North and Sound Island (again from last year's petrol market study).

The difference, of course, is the absence of Gull from the South Island: where it operates, Gull acts as an effective competitive discipline on the other companies' pricing. It's no coincidence where this latest brouhaha blew up: Gull is in Levin (its second most southerly outlet). The first best solution to keeping the petrol companies honest would be for Gull, or some other discount operator, to expand nationwide. 

Competitors rolling out their own infrastructure will always be the consumer's best friend. How hard would it be, for example, to get Whenuapai up and running as an effective competitor to Auckland Airport? And how much better would it be to have genuine traveller choice, and the lower prices that would come with it, than any regulate-the-one-supplier approach?

Whether a new or expanded competitor in the petrol game is realistic or not, I don't know. What I do know is that the ACCC's studies of the markets for petrol in the big Australian cities have shown that you need a reasonably large number of operators to get prices to sharp competitive levels. As I wrote in 'How many is 'enough'?', even though Brisbane has quite a decent range of operators (more than we have here in New Zealand), prices are 3.0-3.5 Aussie cents a litre higher than they are in the even more competitive Sydney market.

And I'm still not convinced that the Commerce Commission got it right when it let Z buy Chevron: Chevron and its Caltex stations had not been a strongly independent price-setter, but under different management it might have become one. Loss of that option may well prove costly, if nobody else is going to step up to the plate and expand a Gull-like pricing challenge.


  1. Ah, when you compare a litre of 91 with an aircraft seat, you're omitting the perishable component. Your marginal costs for fuel storage are negligible and you can achieve an acceptable revenue at a later time, but when the aircraft doors close, your offered product now has zero value, with the only marginal advantage being the lower passenger processing charges and the reduced fuel burn (for whatever the standard passenger weight is these days)

    1. Not suggesting they're comparable in every way, just making the point that you often see businesses in any number of sectors charging different prices for much the same thing and sometimes (as I'd guess for airline tickets) with v smart algorithms behind the pattern of prices they go with.


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