‘Oil, Gas, and Government: the U.S. Experience’ (introduction to a 1996 classic)

By Robert Murphy -- June 17, 2015

In 1979, Robert L. Bradley Jr. contracted with the Cato Institute to write a history of U.S. oil and gas regulation. Cato did not have an energy position yet in Washington, D.C. (that came a decade later) but was very interested in the subject. Indeed, with debilitating natural gas shortages in the winters of 1971/72 and 1976/77, and oil shortages during 1974 and 1979, the policy landscape was ripe for free-market energy analysis.

What began as an 18-month project turned into a four-year, six-months relentless research-and-writing effort. Finding a publisher for what would be a two volume, 2,000-page treatise proved difficult. Bradley revised the manuscript during the decade delay, although leaving the cut-off year at 1984. Rowman & Littlefield published the work in 1996 as Oil, Gas, and Government: The U.S. Experience to positive reviews.

Libertarian icon Murray Rothbard wrote: “This is one of the best and most significant studies I have ever seen in the area of economic history and contemporary political economy.” As someone who is familiar with both Rothbard’s work and Bradley’s, I can say that Rothbard was not merely being nice. Not only does Bradley exhaustively detail the history of certain energy interventions, he also advances libertarian theory in this arena. For example, he develops a theory for the proper way property rights over mineral deposits should be conceived.

To show that Bradley wasn’t just impressive to libertarians, consider that MIT economist and petroleum scholar M. A. Adelman wrote: “Bradley’s book … is unique in its range over time and subject. In rich detail it shows how mixed but mostly good intentions led always to economic waste with no offsetting social gain.” [1]

Nearing its 20th anniversary, and on the occasion of Bradley’s 60th birthday (B: June 17, 1955), below is the Introduction to Oil, Gas, and Government.

This book is intended to provide interested laypersons, industry members, social scientists, and policymakers a detailed history and analysis of government intervention into the U.S. oil and gas market.  While there have been numerous books published in this field, particularly after energy matters took center stage in the 1970s, no single work has attempted to trace the history of oil and gas regulation, taxation, and subsidization from the last century to the present era from an economic and political perspective.

This void exists despite many eminent works in the oil and gas literature.  John Ise’s The United States Oil Policy (1926), the treatise of its day, had admiral scope but was flawed in interpretation and now is relegated to the early phase of the industry.  George Nash’s United States Oil Policy, 1890-1964 is a fine historical overview but is shy with economic analysis and conclusions.  Robert Engler’s The Politics of Oil (1961) and The Brotherhood of Oil (1977) present a wealth of factual information about industry-government relations, but each book lacks a sound theoretical framework for interpretation and policy recommendation.

Harold Williamson and Arnold Daum’s The American Petroleum Industry (2 vols, 1959, 1965), while remaining the lone major business history of the oil industry, is less thorough on the regulatory side and has become dated.  Legal edifices such as the revised editions of W. W. Thorton’s The Law Relating to Oil and Gas do not extend into political themes and interpretive economics.  Edward Chester’s United States Oil Policy and Diplomacy (1983) and M. A. Adelman’s The World Petroleum Market (1972) concentrate on the international oil market, the former from the political side and the latter from the business-history side, while only briefly examining domestic regulation.

The recent best-selling tome by Daniel Yergin, The Prize, provides a highly readable account of the development of the international petroleum industry but is relatively brief on the domestic U.S. regulatory front.  Many other industry classics and government documents have prodigiously examined certain themes, periods, companies, and episodes, but none, while achieving its particular purpose, is able to offer the big picture of government intervention in the world’s primary energy market.  That is the goal of the present work.

Sections

This book is divided into three sections: theory, history, and policy.  Chapter 1 on theory, contrasting the market process with government intervention, precedes the historical section by design.  All historical investigation is prefaced by the author’s conception of cause and effect.  Which facts are important, the relative importance between these facts, and the evidential conclusions reached all presuppose a theoretical framework.  While the theoretical section does not attempt to fully develop the theory of the market process and government intervention, which is the domain of a treatise on political economy, the introduced concepts are revisited numerous times in historical situations to illuminate the theory and give the reader ample opportunity to “test” their applicability and validity.

The third and final section on public policy is sequenced behind theory and history.  Concepts of socially beneficial and socially detrimental public policies are theory-laden and draw upon the historical experience of market processes and government intervention.  The basis for chapter 31, in short, is found in chapters 1 through 30.

The heart of the book is the four-part historical review of oil and gas intervention.  Chapters 2 through 28 are organized vertically by industry phase, beginning at the wellhead (Part I) and continuing downstream through transportation (Part II), refining (Part III), and retailing (Part IV).  Unlike with oil, natural gas is segregated only into wellhead (chapter 8) and pipeline (chapter 15) regulation.  Distribution (municipal) regulation is integrated into chapter 15 because of its complementary nature to natural gas pipeline regulation.   This integration is also necessitated by a relative dearth of research, city by city and state by state, of the rise of public utility regulation in the manufactured/natural gas business.

Part I, Intervention in Exploration and Production, contains nine chapters.  The wellhead is the center of the oil industry, and it is not coincidental that more intervention has taken place here than in any other industry sector.

Chapter 2, Early Years and Legal Development, sketches the birth of the oil industry and the formation of property rights in oil and gas extraction.  This chapter develops an alternative legal framework for first title to oil and gas production based on the homestead principle.  This reformulated private property assignment, assigning first title of contiguous reservoirs to the first finder with certain stipulations, is able to overcome the multiple-ownership problem common under the rule of capture.

Chapters 3 and 4 on state petroleum conservation regulation trace controversies over oil and gas extraction under the rule of capture and ensuing regulation.  While many writers have interpreted the episode as a case study of market failure–and consequently have been sympathetic to oil-state regulation of output–the analysis herein paints a far different picture.  It is found that a variety of government activities, from taxation to first-purchaser regulation to the “solution” of conservation law itself, created obstacles to cooperative solutions for overdrilling and overproduction well in excess of what incentives under the rule of capture did.  It is also determined that imperfect knowledge of hydrocarbon reservoirs and extraction created an inherent problem that the market cannot be blamed for and government intervention could not solve.  The revisionist interpretation in chapters 3 and 4, and the alternate private property legal framework introduced in chapter 2, constitute a challenge to the widely held view of the necessity of government intervention to rationalize petroleum extraction within a private property framework.

Chapter 5 examines wartime regulation of oil and gas production.  While government planning has been sanctified as necessary in emergency situations such as wartime, the actual results of intervention are shown to be unnecessary and counterproductive.  After the historical record of World War I, World War II, and the Korean conflict are examined, and the contingency planning efforts of the 1950s and 1960s are reviewed, the chapter concludes with a theoretical discussion of the inherent problems of substituting central planning for market entrepreneurship.  This theoretical detour becomes particularly relevant in Chapter 6, Petroleum Lease and Environmental Policy on Government Land, which examines the major example of government resource ownership in the U.S. oil and gas experience.

Chapter 7 is dedicated to taxation issues surrounding oil and gas extraction.  Excise taxation, prominently including the Crude Oil Windfall Profits Tax, is studied along with controversial oil-related deductions from the corporate tax–the depletion allowance, intangible drilling costs, and the foreign tax credit.  State and Indian tribe taxation prominently involving wellhead production are also reviewed.

Chapter 8 traces the history of wellhead natural gas price regulation, which began with judicial interpretations of the Natural Gas Act of 1938 and continued under the Natural Gas Policy Act of 1978.  The tumultuous experience with price ceilings, featuring the interplay between administrative regulation and the political process, has been one of the most academically scrutinized episodes in the U.S. energy experience.  Chapter 9, Crude Oil Price Regulation and Decontrol, studies maximum price ceilings on oil production that began with President Nixon’s price control program in 1971 and continued until 1981 under the Emergency Petroleum Allocation Act of 1973.  The lessons of oil price controls were not dissimilar from wellhead controls on the natural gas side, demonstrative of the inert workings of economic law.

Chapter 10 concludes Part I by examining residual state and federal intervention relating to wellhead oil and gas production–labor market regulation, government loans, securities regulation, accounting regulation, and synthetic fuel subsidization.  Despite the variety of intervention, some commonalities are uncovered in terms of the detrimental consequences from forgone reliance on market processes.

Part II, comprised of chapters 11 through 17, details oil and gas transportation and allocation intervention.  The opening chapter describes the dawn of the petroleum transportation phase in the 1860s and related rail, pipeline, and waterway regulation until the turn of the century.  Chapter 12, one of the more historically significant chapters in the book, covers varied episodes of petroleum allocation regulation, beginning with World War I planning and continuing with the East Texas “hot-oil war,” World War II planning, Korean-conflict planning, and 1970s energy-crisis regulation.  Of particular significance is the detailed study of the oil reselling industry that blossomed under the regulatory incentives of the Emergency Petroleum Allocation Act of 1973.  This episode unlocks the mystery of why U.S. consumers paid world prices for petroleum products despite tip-to-tail oil-price regulation designed to ensure the opposite.

Chapter 13 summarizes the long history of petroleum protectionism from the Civil War to the present that prominently includes tariffs enacted in the Revenue Act of 1932 and quotas established in the Mandatory Oil Import Program of 1959.  Traditional arguments for and against oil tariffs and quotas are reviewed in light of their frequent promulgation.  The chapter is followed by an appendix reviewing oil-export regulation.

Chapter 14 reviews oil pipeline regulation on the state level after the turn of the century and federal regulation that began for interstate carriers in a 1906 amendment to the Interstate Commerce Act.  The chapter concludes by critically reviewing ongoing arguments for applying traditional public-utility regulation to federally regulated carriers.

Chapter 15 covers both natural gas pipeline and gas distribution regulation.  The censure of public-utility regulation for gas pipelines embellishes a similar discussion in chapter 14.  Two appendices follow chapter 15.  The first appendix surveys the transportation/spot gas revolution that began in the 1970s to alleviate curtailments and came into full bloom with the natural gas surplus of the 1980s.  The second appendix examines the regulation of natural gas imports that became controversial as a high-priced supply source during gas shortages caused by domestic price controls.

Chapter 16, beginning where chapter 11 leaves off, reviews railway, motor carrier, and waterway regulation after the turn of the century.  Chapter 17 examines remaining miscellaneous transportation/allocation intervention–storage intervention (including the Strategic Petroleum Reserve) and futures market regulation.

Part III on refinery intervention is composed of four chapters.  Chapter 18 relives the Standard Oil Trust controversy that revolved around John D. Rockefeller’s consolidation of the refining (and pipeline) phase.  The state antitrust suits and the famous federal suit that led to the dissolution off the Trust in 1911 are examined.  Chapter 19 focuses on refinery regulation that occurred between World War I and the Korean conflict.  Intervention from 1953 to the present, prominently including the Mandatory Oil Import Program from 1959 to 1973 and the buy/sell and entitlements programs under the Emergency Petroleum Allocation Act of 1973, are the subject of Chapter 20.  Chapter 21 concludes Part III by studying refinery-related land and air pollution.  A free-market approach toward dealing with pollution externalities is presented as an alternative to the “command and control” approach of regulation.

Part IV consists of 7 chapters on petroleum product and service station regulation.  The length and detail of the chapters are inspired by the fact that there has been relatively little written on gasoline marketing from both a business-history and regulatory viewpoint, quite unlike the other areas of the industry.  Thus, not only are the effects of regulation scrutinized, the rivalry of free-market competitive and the end result of spontaneous order come into view.

Chapter 22 revisits Standard Oil to examine some of the Trust’s marketing controversies as well as other related intervention of the period.  Chapter 23 studies the first period of gasoline regulation that began prior to World War I and continued through the New Deal in a “quest for stability.”  The opening stanza of gasoline taxation is also described.  Chapter 24 chronicles wartime planning with gasoline and fuel oil that included the nation’s only major experiment to date with coupon rationing during World War II.  Wartime controversies are summarized, including the aborted planning effort during the Korean conflict.  Chapter 25 describes market rivalry and respondent regulation that flowered in the 1950s and 1960s.  Many interventions introduced in prior decades accelerated in this period, as did motor fuel taxation and public road building.

Applications of antitrust law in gasoline marketing are the subject of chapter 26.  The origin of federal antitrust statutes and price fixing, discrimination, exclusive dealing, and merger policies are examined.  The chapter ends with an appendix  discussing a debated question in academic circles:  has there been too much or too little competition in gasoline retailing?

Chapter 27 reexamines the 1970s energy crises from the wholesale/retail side. Price and allocation regulation of petroleum products are surveyed with particular attention paid to the created economic distortions that culminated in two episodes of motor fuel shortages.  Chapter 28 traces the continuance of gasoline regulation and taxation in the 1972-84 period that was independent  of, but influenced by, energy-crises price and allocation controls.

Chapters 29 and 30 on economic and political conclusions respectively tie together major themes that were previously  addressed in individual chapters.  On the economics side, it is found that interventions not only distorted market processes responsible for consumer welfare but lead to complementary regulation creating an interventionist dynamic.  Politically, it is found that except in rare instances, government intervention was conceived and implemented with active industry support.

Chapter 31 promulgates a market-driven oil and gas policy for the local, state, and federal level.  A  comprehensive free-market application is found to be in the self-interest of a wide cross-section of the industry in addition to consumers to give them political life.

Prolepsis

Two distinguishing characteristics of the book should be acknowledged at the outset.  One concerns the methodology of the social sciences and applied economics in particular; the other concerns the book’s consistently negative spotlight on government intervention in the oil and gas market.

The applied economist is part historian and part economist.  He or she must not only sift through the statistical information of a situation (the outside of an event) but thoroughly understand the anecdotal or inside of an event.  The motivations of the economic actors are key.  As R. G. Collingwood states [The Idea of History (Oxford: Clarendon Press, 1946), p. 213]: “[The historian’s] work may begin by discovering the outside of an event, but it can never end there; he must always remember that the event was an action, and that his main task is to think himself into this action, to discern the thought of its agent.”  This point is emphasized because of the preoccupation of applied economists to neglect and even sacrifice the “inside” of events to model, measure, and “test” the “outside” of events for hypothesis falsification and forecasting.

While a technical approach to economic episodes is not to be discarded, it has inherent limitations that make it a secondary tool for understanding compared to a broader, anecdotal approach for several reasons.  First, many relevant and informative statistics have never been gathered and are past the point of being compiled.  Second, collected statistics have a range of error that often precludes a “tight” interpretation.  It is much safer to use statistics to generally support a logically defensible hypothesis, in other words, than to rigorously defend a speculative judgement. 

Third, assuming for the sake of argument the completeness and accuracy of the relevant statistics, econometric model specification is always problematical.  In terms of explaining a dependent variable, reality is always more complex than the model’s finite number of independent variables.  Restated, the real world is not a laboratory where the social scientist can know that a particular cause created a measurable result.  Therefore, the resulting statistical relationships must remain imprecise and tentative.  It is not a mystery why applied economics has never found a constant in purposeful human action, and forecasting remains an art and not a science.

The “first cut” and core of applied economics, consequently, is “inside,” not “outside,” analysis.  Understanding the situation from general motivations and facts, interpreted with sound economic theory, takes precedent over more empirical methods that ape the laboratory sciences.  Primary reliance on quantitative cost/benefit analysis is to demand perfection at the expense of the achievable.  It is only a tool, a secondary and tentative tool, compared to the realism and understanding provided by the “inside” method.  This focus of this book, consequently, is more qualitative than quantitative.

Turning from methodology to public policy, this book will be recognized by friend and foe as highly critical of government intervention into oil and gas markets.  Given the unsatisfactory outcomes of 1970s federal energy regulation, a free-market outlook is anything but controversial.  In fact, the burden of proof has been thrust on the shoulders of those who espouse government intervention in energy markets.  What will be controversial to some is the consistent negative descriptions of government intervention in this book–spanning decades, industry phases, and geographical settings.

This uniformity reflects the overlap of different applications of the same economic principles.  The knowledge problem (defined in chapter 1) inherent in government intervention applies to a wide variety of situations.  The political problem of government intervention (also defined in chapter 1) typically makes the result inferior from intentions and goals.  The alternative of market reliance recognizes the self-ordering nature of the market process and the positive role of entrepreneurship that, while imperfect and occasionally resulting in what the critic calls “market failure,” is superior to government planning as a rule.  Thus it should not be surprising that the many case studies of government-versus-market reach similar conclusions and reinforce a general one–the efficacy created from well-defined private property rights and voluntary exchange versus its opposite of government subsidization, taxation, and regulation.

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[1] Other back cover quotations are from D. T. Armentano, Arco lawyer and libertarian presidential candidate Edward Clark, economist Richard Gordon, and libertarian industrialist Charles Koch.