[House Hearing, 108 Congress] [From the U.S. Government Publishing Office] EASING PAIN AT THE GASOLINE PUMP: FINDING SOLUTIONS FOR WESTERN WOES ======================================================================= HEARING before the SUBCOMMITTEE ON ENERGY POLICY, NATURAL RESOURCES AND REGULATORY AFFAIRS of the COMMITTEE ON GOVERNMENT REFORM HOUSE OF REPRESENTATIVES ONE HUNDRED EIGHTH CONGRESS SECOND SESSION __________ MAY 28, 2004 __________ Serial No. 108-203 __________ Printed for the use of the Committee on Government Reform Available via the World Wide Web: http://www.gpo.gov/congress/house http://www.house.gov/reform ______ U.S. GOVERNMENT PRINTING OFFICE 96-091 WASHINGTON : 2004 ____________________________________________________________________________ For Sale by the Superintendent of Documents, U.S. Government Printing Office Internet: bookstore.gpo.gov Phone: toll free (866) 512-1800; (202) 512�091800 Fax: (202) 512�092250 Mail: Stop SSOP, Washington, DC 20402�090001 COMMITTEE ON GOVERNMENT REFORM TOM DAVIS, Virginia, Chairman DAN BURTON, Indiana HENRY A. WAXMAN, California CHRISTOPHER SHAYS, Connecticut TOM LANTOS, California ILEANA ROS-LEHTINEN, Florida MAJOR R. OWENS, New York JOHN M. McHUGH, New York EDOLPHUS TOWNS, New York JOHN L. MICA, Florida PAUL E. KANJORSKI, Pennsylvania MARK E. SOUDER, Indiana CAROLYN B. MALONEY, New York STEVEN C. LaTOURETTE, Ohio ELIJAH E. CUMMINGS, Maryland DOUG OSE, California DENNIS J. KUCINICH, Ohio RON LEWIS, Kentucky DANNY K. DAVIS, Illinois JO ANN DAVIS, Virginia JOHN F. TIERNEY, Massachusetts TODD RUSSELL PLATTS, Pennsylvania WM. LACY CLAY, Missouri CHRIS CANNON, Utah DIANE E. WATSON, California ADAM H. PUTNAM, Florida STEPHEN F. LYNCH, Massachusetts EDWARD L. SCHROCK, Virginia CHRIS VAN HOLLEN, Maryland JOHN J. DUNCAN, Jr., Tennessee LINDA T. SANCHEZ, California NATHAN DEAL, Georgia C.A. ``DUTCH'' RUPPERSBERGER, CANDICE S. MILLER, Michigan Maryland TIM MURPHY, Pennsylvania ELEANOR HOLMES NORTON, District of MICHAEL R. TURNER, Ohio Columbia JOHN R. CARTER, Texas JIM COOPER, Tennessee MARSHA BLACKBURN, Tennessee ------ ------ PATRICK J. TIBERI, Ohio ------ KATHERINE HARRIS, Florida BERNARD SANDERS, Vermont (Independent) Melissa Wojciak, Staff Director David Marin, Deputy Staff Director/Communications Director Rob Borden, Parliamentarian Teresa Austin, Chief Clerk Phil Barnett, Minority Chief of Staff/Chief Counsel Subcommittee on Energy Policy, Natural Resources and Regulatory Affairs DOUG OSE, California, Chairman EDWARD L. SCHROCK, Virginia JOHN F. TIERNEY, Massachusetts CHRISTOPHER SHAYS, Connecticut TOM LANTOS, California JOHN M. McHUGH, New York PAUL E. KANJORSKI, Pennsylvania CHRIS CANNON, Utah DENNIS J. KUCINICH, Ohio NATHAN DEAL, Georgia CHRIS VAN HOLLEN, Maryland CANDICE S. MILLER, Michigan JIM COOPER, Tennessee PATRICK J. TIBERI, Ohio Ex Officio TOM DAVIS, Virginia HENRY A. WAXMAN, California Barbara F. Kahlow, Staff Director Melanie Tory, Professional Staff Member Lauren Jacobs, Clerk Krista Boyd, Minority Counsel C O N T E N T S ---------- Page Hearing held on May 28, 2004..................................... 1 Statement of: Burdette, Richard, energy advisor to Governor Kenny Guinn, State of Nevada; William Keese, chairman, California Energy Commission; and Lynette Evans, policy advisor regulatory affairs, Office of Governor Janet Napolitano, State of Arizona.................................................... 28 Sparano, Joseph, president, Western States Petroleum Association; Sean Comey, media relations representative, AAA of northern California, Nevada and Utah; David Hackett, president, Stillwater Associates; and Tyson Slocum, research director, Public Citizen's Energy Program......... 68 Letters, statements, etc., submitted for the record by: Berkley, Hon. Shelley, a Representative in Congress from the State of Nevada, prepared statement of..................... 133 Burdette, Richard, energy advisor to Governor Kenny Guinn, State of Nevada, prepared statement of..................... 31 Comey, Sean, media relations representative, AAA of northern California, Nevada and Utah, prepared statement of......... 80 Evans, Lynette, policy advisor regulatory affairs, Office of Governor Janet Napolitano, State of Arizona, prepared statement of............................................... 50 Gibbons, Hon. Jim, a Representative in Congress from the State of Nevada, prepared statement of..................... 130 Hackett, David, president, Stillwater Associates, prepared statement of............................................... 88 Keese, William, chairman, California Energy Commission, prepared statement of...................................... 39 Ose, Hon. Doug, a Representative in Congress from the State of California, prepared statement of....................... 18 Slocum, Tyson, research director, Public Citizen's Energy Program, prepared statement of............................. 96 Sparano, Joseph, president, Western States Petroleum Association, prepared statement of......................... 72 Tierney, Hon. John F., a Representative in Congress from the State of Massachusetts, letter dated May 25, 2004.......... 7 EASING PAIN AT THE GASOLINE PUMP: FINDING SOLUTIONS FOR WESTERN WOES ---------- FRIDAY, MAY 28, 2004 House of Representatives, Subcommittee on Energy Policy, Natural Resources and Regulatory Affairs, Committee on Government Reform, Henderson, NV. The subcommittee met, pursuant to notice, at 10 a.m., in Henderson Convention Center and Visitor's Bureau, 200 South Water Street, Henderson, NV, Hon. Doug Ose (chairman of the subcommittee) presiding. Present: Representatives Ose, Schrock, and Tierney. Also present: Representatives Porter and Gibbons. Staff present: Barbara F. Kahlow, staff director; Melanie Tory, professional staff member; Megan Taormino, press secretary; Lauren Jacobs, clerk; and Krista Boyd, minority counsel. Mr. Ose. Good morning. I want to welcome everybody to today's hearing of the Subcommittee on Energy Policy, Natural Resources and Regulatory Affairs. I ask consent to allow Congressman Gibbons and Congressman Porter to join us. Hearing no objection, so ordered. I would like to turn to our host, Congressman Porter. Mr. Porter. Thank you, Mr. Chairman. Good morning and welcome to Henderson, NV. We appreciate the committee being here and your staff, and on behalf of the whole Las Vegas community we appreciate this bipartisan approach to a very serious challenge that we're facing in Las Vegas and regionally in California, Arizona. I hope you all have an opportunity to enjoy our community of Henderson, Las Vegas. It is a great place and one of the fastest growing communities in the country. 5,000 to 7,000 people a month are moving into our community and with that comes numerous challenges. We're very, very proud of what we have as a community so please enjoy your stay; and, to the staff, we appreciate you being with us from Washington, and we look forward to a very productive meeting this morning with solutions to help families in Nevada. Thank you very much. Mr. Ose. Thank you, Congressman Porter. Here is the way this works. We're going to have two panels of witnesses today. First will be folks associated with the State or local governments. Second will be private citizens and the organizations they represent. There is no open testimony here. People who are testifying have been invited. They have written statements. We'll be submitting those statements to the record. There are copies of those statements outside the door if you care to follow along. The way these hearings proceed is that each of us up here will make an opening statement. Statements are limited to 5 minutes in turn. We alternate between Republicans and Democrats. I do want to compliment my friend John Tierney from Massachusetts for traveling this far. I know it's not easy, but it is appreciated. Now, there will not be questions from the audience during the course of this hearing. That's not the way congressional hearings proceed. These are invited witnesses and they will be the ones that we direct our inquiry to. With that we will proceed. Mr. Gibbons, you are our co-host here. I'll turn to you next. Mr. Gibbons. Mr. Chairman, I want to thank you and this committee for allowing me, a nonmember of this committee, the generous opportunity to appear and be a panel member with you and I do thank you and Mr. Tierney for that courtesy. I also want to thank my colleague Jon Porter for spearheading this effort to bring attention to a national level problem, high price of gasoline as it affects not just Nevada but every American over this holiday and preceding days. As we all know, the price of gasoline in Nevada alone has risen 60 cents since January of this year and it's anticipated that it will rise and continue to steadily increase over the next several months. This has brought a great deal of concern to many Nevadans because we are a tourist industry based State. In order to have our economy flourish we need to be able to bring tourists to Nevada. One of our principal means by which tourist arrive in Nevada, of course, is by the vehicle and we are beginning the Memorial weekend, a period of time when Las Vegas and Nevada alone flourishes with tourism in an effort to seek an entertainment value for their time over the weekend. So Nevada, like California, is suffering from high gas prices, and I want to say there are several causes of that high gasoline cost, one of which of course is the fact that OPEC does control a great deal of the supply and has actually a hostage holding effort and effect on the price of gasoline. I know that in the 108th Congress I and our colleagues have made a strong effort to pass an energy policy to give the United States an opportunity to create meaningful efforts to regulate and control the price of fuel that affects each and every one of our lives. We need to have that bill passed both through the Senate. There are disagreements among individuals, disagreements among bodies, disagreements among parties with regard to the passage of the energy bill, but nonetheless, the energy bill is the basis by which a sound policy for energy problems in this country must be addressed. We're hoping today that by this hearing we can allow more dialog to be brought forward that will allow for us to understand the energy problem, and to understand why the fuel costs in this Nation are rising dramatically, and we hope that through the testimony that is also going to be presented here today that we'll find solutions to those problems. Whether those solutions are government, regulatory, restricted permitting, needs to expand our own domestic production of oil and gasoline for this country's energy problem, a need to back away from our dependence upon foreign supplies of oil and gas which in fact do change the market conditions dramatically, and we also need to look at, in my view, a broad effort alternative energy solution to our dependence on fossil fuels in this country. Mr. Chairman, I'm looking forward to the testimony of the witnesses that will appear before you today and again I want to thank the committee for holding this hearing in Nevada, holding it here in Henderson. I want to thank Mr. Porter one more time and I want to thank the audience for being here and the people who are going to be testifying before you today. Again, it's a real honor and privilege for me to be here on your committee. Thank you, Mr. Chairman. Mr. Ose. Thank you. Gentlemen, I would like to ask your consent to enter into the record the statement of Congresswoman Shelley Berkley regarding this hearing. Shelley is actually engaged in activities related to another of her committees, International Relations, and is not able to join us today, but we will put this statement in the record. I would now like to recognize my friend from Massachusetts, Mr. Tierney, for purpose of opening statement. Mr. Tierney. Thank you, Mr. Chairman, thank you, Mr. Porter, for hosting this out here and the people of Henderson, NV, for their courtesies. I enjoy being out here, and I want to thank you, Mr. Chairman, for having another in a series of hearings on the important issue of energy and the cost of energy. We've done it at several locations, one in my district up in Massachusetts and seems to be an issue that periodically raises its head as we'll see in some of the testimony. I don't think I need to repeat what might also be mentioned by others here but obviously between January of this year and May the U.S. average gasoline price has increased 50 cents or more. It's been most dramatic in the West, I believe, but in Massachusetts you should know our current price is $2.06 a gallon. That's about 57 cents higher than it was last year at this time. Families are going to spend about $375 on average more for gas this year than they did last year and about an average of $540 more per year than they did in 2002, eating up just about all of any tax break they may have gotten over the last several years. This affects the family car but also truckers, shippers, and many small businesses, all who are suffering from these skyrocketing prices. Comments from the industry and from the Bush administration run the gamut, run from somewhat plausible contributing reasons all the way to flat-out excuses. Mostly, as studies like that done by the Consumer Federation of America and Consumers Union earlier this year show, the explanation for the high and volatile price of gasoline offered by the industry and the Bush administration is so oversimplified and incomplete that it must be considered at best misleading. At worst, it's wrong because it points to policies that do not address important underlying causes of the problem and, therefore, will not provide a solution. First, let me say there may well be merit to the issue raised by Mr. Ose and others from his delegation. California has been a pioneer in environmental policy and generally they have found the price to be higher but acceptable. In California refiners truly can, if they can truly produce gasoline that is cleaner or as clean an alternative as that comprised of 2 percent ethanol by weight, then the EPA should act on the State's request for relief. We've had other hearings on that and I think we'll talk about that again today. With that said, eliminating the small gasoline markets that result from efforts to tailor gasoline to microenvironments of individual cities will not increase refinery capacity, nor improve stockpile policy to ensure lower, less volatile prices if the same handful of companies dominate the regional markets. Markets should be expanded by creating more uniform product requirements. These should not result in a relaxation of clean air requirements. Blaming tight refinery markets on the Clean Air Act requirements to reformulate gasoline ignores the fact that in the mid-1990's the industry adopted a business strategy of mergers and acquisitions to increase profits that was intended to tighten refinery markets and reduce competition at the pump. Blaming high gasoline prices on high crude oil price also ignores the fact that over the past few years the domestic refining market and marketing sectors have imposed larger increases on consumers at the pump than crude price increases would warrant. In other words, while they pass on the cost of higher crude prices, they don't stop there. They jack the prices up higher still, padding their profits. Claiming that the antitrust laws have not been violated in recent price spikes ignores the fact that forces of supply and demand are weak in the energy markets and that local gasoline markets have become sufficiently concentrated to allow unilateral actions by oil companies to push prices up faster and keep them up longer than would normally be warranted in a vigorously competitive market. What price increases are not caused by cost increases are the result of profit increases, a sign of the exercise of market power and the market failure. Net operating income for the domestic downstream industry, refining and marketing side of the business, have tripled from 1997 to 1999 to 2001. While profits were down in 2002, due to the serious economic downturn and the post September 11, 2001 travel slowdown, they have skyrocketed since. In 2000, the petroleum industry reported a return on equity of 25 percent, more than twice the historic average for the industry and about 50 percent more than what other large corporations earned. 2003 was the equivalent of another year of record profits. So far, the first quarter of 2004 has also been incredibly profitable, especially in the downstream operations. A good part of the reason for these spikes in price come from mergers and acquisitions. This wave of mergers and acquisitions in 2003 saw 52.2 percent of the U.S. oil refinery industry controlled by just five companies, that compared to 34\1/2\ percent in 1993. 78\1/2\ percent was controlled by the top 10 companies in 2003 as compared to 55.6 percent in 1993. Companies have let supplies become tight in their area and they have kept the stocks low. There is too few competitors to counter this strategy. Companies can simply push prices up when demand increases with no fear the competitors will keep their prices down to steal customers. Individual companies don't feel compelled to quickly increase supplies with imports because their control of refining and distribution ensures that competitors won't be able to deliver supplies to the market in their area. Operating at very high levels of capacity places strains on the physical infrastructure and renders it susceptible to accidents. Let me make one point, Mr. Chairman, refineries have been closed by business, not by government. In the 1980's the policies of support for smaller refineries ended. That accounted for the loss of over 100 refineries from 1980 to 1983. Since then scores of others have been shut down. In 1990 alone 50 or more refineries were closed. Since 1995 more than 20 have been shut. The number of operating refineries have been reduced 13 percent since just 1995. Refineries get larger but they get smaller in number and they're owned by fewer and fewer entities. Over the period of 1980 to 2000 the number of firms engaged in refining in the United States has declined by two- thirds. Let me make another point. Blaming the decline of capacity relative to demand on the Clean Air Act does not stand close scrutiny. Consolidation of the industry is a business decision that began long before the changes in the Clean Air Act amendments of 1990 and continued after the adjustment to changes in gasoline formulation. Moreover, stock levels are down. Number of days of demand for gasoline that is held in storage has gone from 4 to 5 days down to just 1 or 2 days. Any stock levels are no accident. They are a result of business decisions. In the face of all this industry activity, the Bush administration stands idle, merely watching as prices on regular Americans rise and profits on the President, Vice President Cheney's cronies skyrocket. The President continues to divert oil for the Strategic U.S. Petroleum reserve, even though it's at an all-time high, 660 million barrels. This purchases 170,000 barrels per day. According to Valero Energy Corp. CEO William Greehey, if the President stopped purchasing for the oil reserve it would signal to the commodity traders that the White House is serious about oil prices and the prices would fall fast. The President's administration sanctions refinery mergers. They've approved 33 oil refinery takeovers worth $19\1/2\ billion and haven't even tried to block one. The President continues to fail to jawbone OPEC or the Saudis into increasing supplies despite the fact that there is a 2000 campaign promise to do just that and criticized President Clinton for not doing that. We can only hope the administration is not waiting for a politically opportune time to take action as was asserted in Bob Woodward's book Plan of Attack, in essence that the Saudis would act to lower prices closer to election time. Finally, the President's energy bill does nothing to address overconcentration or conservation. It does nothing that would lower prices much. Instead, it gives billions of dollars of taxpayers' money, large oil companies in the form of subsidies and tax breaks with no real conservation requirements. The administration's own analysis concludes that the legislation's incentives to reduce our reliance on foreign sources of oil will have only negligible success. In fact the administration's own analysis indicates it will reduce net imports only 1.2 percent between now and 2025. It's hard to think that's worth billions of dollars in taxpayer money in subsidies and tax breaks. The Department of Interior concluded only 15 percent of the oil in the 104 million acres of Federal land between Montana and New Mexico is currently unavailable due to wilderness designation and other environmental restrictions. So we can, therefore, conclude that the vast majority of oil reserves on Federal land are easily accessible for drilling. Environmental laws do not need to be weakened in order for America's needs to be supplied. Mr. Chairman, I've joined a number of colleagues in writing the President seeking action, and I'd like with unanimous consent to submit a copy of that letter. Mr. Ose. No objection. [The information referred to follows:] [GRAPHIC] [TIFF OMITTED] T6091.001 [GRAPHIC] [TIFF OMITTED] T6091.002 [GRAPHIC] [TIFF OMITTED] T6091.003 [GRAPHIC] [TIFF OMITTED] T6091.004 [GRAPHIC] [TIFF OMITTED] T6091.005 Mr. Tierney. Here are some of the things we believe we should do. We should require the oil companies to expand storage capacity, require them to hold significant amounts in that storage, and reserve the right to order the companies to release the stored gas to address supply and demand fluctuations. We should block mergers that make it easy for oil companies to manipulate gasoline supplies and take steps, such as forcing asset sales, to remedy the current highly concentrated market: Discontinue filling the strategic petroleum reserve while the prices are so high; consider building crude and product reserves that can be used as economic stockpiles to dampen price increases. We did that recently in the Northeast and it worked quite well. We should consider doing it in other areas. Reduce oil consumption by implementing strong fuel economy standards. Substantially improving CAFE standards over a 10 year period to reduce the oil used by a third in 2020 and save consumers $16 billion at the gas pump. We should re-regulate energy trading exchanges that were exploited by Enron and continue to be abused by other energy traders. We should have the Federal Trade Commission study the reasons why the market forced the closure of over 50 predominantly small and independent refiners in the past 10 years and assess how to bring fair competition back to refinery market and thus expand competition. Mr. Chairman, it's strategies such as these, not the administration's billions of dollars in giveaways to its cronies in faulty legislation, not the industries crying wolf over environmental regulations when in fact it's the industries' decision to cause less competition and decreased supply and capacity that result in the higher prices. That's what we need and hopefully there will be other suggestions. Thank you. Mr. Ose. Thank you for his comments. We're now going to our host for purpose of an opening statement. Congressman Porter. Mr. Porter. Again, thank you, Mr. Chairman. I appreciate you being here today. I'm looking across the room and wondering how many were around when we were paying about 20 cents a gallon for gas. I think there are a couple here. I can remember filling my 1968 Volkswagen. I think it cost me about $3 or something to fill the tank. That gives my age. I'm a ripe old age of 49. I remember the early seventies, 1973, 1974 with the oil embargo. I do not wish for that to ever happen again to the United States of America although I would love to have 20 cents or 25 cents a gallon. The Nevada economy, Las Vegas, Henderson specificly, is tourist dependent. How do tourists get here? They either come by car or by air; almost 50/50. Close to 40 million visitors a year come into Nevada economy. Add to that the fact that we're growing at 6,000 to 7,000 people a month. Although we may have a State of a little over 2 million people, with an additional 40 million in tourist, we are very, very dependent upon the cost of fuel. Not only for our economic future, to make sure that tourists can visit Nevada at a reasonable cost, but for our residents, moms and dads and families that are trying to get to work. Nevada is truly a part of a regional economy. What happens in California directly impacts Nevada. What happens in Arizona directly impacts Nevada. Our sister States, although much larger, have a huge influence over our economic future, whether it be visitors or whether it be the cost of fuel. There are a number of issues that have come forward in light of the increased prices in Nevada and in the region in the past few months and I've asked staff to come up with a few key areas that appear to have caused a major increase in our fuel. One, of course I mentioned that we're a part of the whole region, but with gas tightening the markets around the world, the U.S. growth in gasoline supply is not keeping pace with the growth in demand. One of the serious challenges is truly supply and demand. Over the last 20 years many refineries have closed. I think there are different opinions and we'll probably hear many opinions as to why, but the fact is they've closed. And, no refineries have been built since 1976. However, demand for gasoline has remained strong and continues to increase at about 2 percent a year. The result is an ever-increasing imbalance between supply and demand. It's my understanding that the current refineries are operating at about 95 to 96 percent of their capacity. There is ample crude oil available but we don't have the refineries to process that for whatever reason. I'm sure we're going to hear about it this morning. The ethanol mandate in California. From January to March, refineries in California transition from winter-grade gasoline to harder to produce summer-grade gasoline. This year, because of overlapping Federal and State regulations, California refineries were required to begin blending their gasoline with ethanol. There are lots of opinions on ethanol as to how it impacts the environment, but the fact remains that they began blending this year. As a result of the blending properties of ethanol, California gasoline productions ability was decreased by almost 10 percent, causing upward pressure on gasoline prices in California, Nevada, and in the Southwest. Because Nevada receives almost all of our gasoline from California, these changes also exert upward pressure on Nevada's gasoline prices. The cost of crude oil, you know, as I talked about my 1968 Volkswagen in the early seventies and the oil embargo, at that time about 30 percent of our resources in this country were dependent upon foreign oil. Now, in 2004, we're more dependent than ever, at almost 63 percent on foreign oil. Now, let's use a little common sense. Sixty-three percent dependency on other countries and their economies and their political problems and their challenges can and do hold us hostage. The cost of a barrel of crude oil has increased from about $25 to an all-time high of $41.85. This is due to a strong demand in the United States and China. China is importing all it can find. They don't care about the grade. We do as we should be very cautious and be careful with the crude that we bring into the States. They don't care. Production cuts by the Organization of Petroleum Exporting Countries [OPEC], political instability in Iraq and Venezuela. As a rule of thumb a dollar increase in the cost of a barrel of crude oil translates into about 2\1/2\ cent increase at the gas pump. Those are some of the key areas that I think specific to Nevada. Also, we have a challenge here with storage in Nevada. We have limited storage space, which is another challenge as I've heard from the wholesalers and suppliers here in the great State of Nevada. What can be done to address some of these prices in the short-term? Because today we're here to talk about some short- term fixes but really some long-term solutions as the morning unfolds. But what are some of the things we can do in the short-term? Well, there are a few things that we can take, that consumers can take to decrease the amount of their hard-earned money that goes to the cost of gasoline, things that we have taken for granted. One, we certainly can combine some of our trips to the grocery store, but in reality simply checking inflation in tires would help immensely right now, here and today. Now, this isn't a big government suggestion. This is just some common sense approach. Of course carpooling, and I applaud the Regional Transportation Commission here in Nevada for working on the monorail, an additional resource that's being proposed here in the Henderson corridor. All of these things are actually in the works today, and I consider some short-term solutions. Long-term I believe is why we're here today also and probably most important. Some possible solutions that will be addressed today include expanding and enhancing the petroleum infrastructure, including additional refineries and being able to expedite regulations. I want to make it clear, when I talk about expediting approval process, it's not about changing or weakening or making our environmental regulations more lax. We must preserve and protect the environment and that's the priority. But we all know how government can be. It can be very slow, inefficient. We need to elevate the priority of oil production as we have energy in the Southwest over the last 24 months. The fuel challenge we're having today is almost parallel to the electricity problem we're having in the Southwest. The difference is when it comes to fuels, we can't bring in fuel from the Northwest, from Oregon or Idaho, or from other States, because there are over 60 different fuels being used in different communities. Now, in fairness, they follow the proper regulations that have been proposed. I applaud Christine Robinson here, the Air Quality Control Board of Clark County. As you know, I helped reorganize that agency just last year. But, each community has different options. One of the possible solutions, as we're looking at the supply side solution, is to make sure that we look at some of these regulations in a regional basis. So, we may not need 60 different boutique fuels across the Southwest or the West. We can combine and still meet the important stringent requirements of the Clean Air Act. Increasing imports of finished gasoline, that's another option. I'm not suggesting necessarily that we do that, but we can purchase additional gasoline that's already been refined from other countries. And fuel blending, of course the number of boutiques as I mentioned and the blending of components, but No. 4 which is really important to Nevada is finding a way to have additional gasoline storage and capacity right here in southern Nevada. The demand side is critical. Improving vehicle fuel economy, encouraging the use of alternative fuels, hybrid vehicles, providing in public incentives for public transportation and carpooling. These are some of the solutions that I think will be mentioned today. In conclusion, Mr. Chairman, during the hearing we're going to investigate why consumers are paying so much at the pump. More importantly we'll discuss potential short- and long-term solutions to address the rise in gasoline prices. By the end of the day only clean renewable energy sources can meet our growing energy needs while protecting the economy, freeing us from foreign suppliers and maintaining our commitment to the environment. Thank you, Mr. Chairman. Mr. Ose. Thank you, Congressman Porter. I want to add my compliments to the others. I don't know whether your people here in Clark County or Henderson know exactly the type of Member you are, but the reason we're here today is to get you off my back. That's why we're here. Jon Porter has dogged me to death about the importance of this issue to this area and I thank the gentleman for being persistent in that regard. Mr. Porter. Thank you. Mr. Ose. I want to ask unanimous consent, actually I think this is normal, unanimous consent that Mr. Gibbons' written statement be entered into the record; without objection, so ordered. I want to recognize the vice chairman of the subcommittee from Virginia, gentleman, who is recognized, Mr. Schrock. Mr. Schrock. Thank you, Mr. Chairman. Thank you for holding this very timely and important hearing. I also want to thank our Nevada colleagues, Congressman Porter, Congressman Gibbons, for having us in their wonderful State and I was amused, Jon, when you said you were bemoaning the fact that you were at the ripe old age of 49. I would kill to be 49 again. So don't feel so bad. There is a lot of life ahead of you. I wasn't going to come here today because I live in Virginia; it was a long haul. I didn't get here until last night, and I have to speak at a commencement ceremony at 9 a.m. tomorrow at home. But like the chairman, Jon Porter said you will be here because this is such an important issue, and it really is. As I left home, we were well into our $2 range as well, and I never thought we'd see that in Virginia. I can assure you that's why I'm here because Jon said for me to be here, and, consequently I am. We all know why we're here. That's because gas prices have reached record highs and Americans want to know the answers to two very important questions: How did we get to this point and what do we do about it now? To answer the first question of how we got to this point, the answer is that America has gone too long without a national energy policy and we have all been forced to adopt a fly by- the-seat-of-your-pants approach. Though Congress and the administration have tried over the last few years, we have not been able to agree on a plan that sets the course in the right direction with regards to an energy plan. This lack of policy have forced Americans to be beholden to foreign producers, to their oil supply, and we have been held hostage by the decisions of OPEC so that our loss is their gain. In May 2001, the administration came out with a policy statement outlining their plan for tackling America's energy needs. The bulk of these initiatives required congressional action, which has not yet taken place 3 years later. It is clear that some have chosen to make this stalemate and the resulting energy crisis a political issue rather than seeking out real solutions. The House passed an energy bill conference report last year. The Senate has yet to pass that legislation. The House has done its part in establishing a national policy, but like any other issue, we're waiting for the Senate to take issues. So where do we go from here? Well, I think that passing the current energy bill would be a giant step in the right direction and while not including all the policies that will get gas prices and other energy sources on track, it will put in place a number of measures to boost production, curb consumption, and encourage the use of alternative fuel. Once we get the energy conference report out of the way, we can move on to the more difficult issues of boosting domestic production by drilling in Alaska and increasing the refinery capacity right here in America. We're here today to hear from our witnesses and to get their input from where we are heading and how we can point this ship in the right direction. I was in the Navy for 24 years. I understand how important it is to have a ship aimed in the right direction. The same is true with this energy policy. I thank my colleagues again for hosting us in their fine State and I look forward to hearing from our witnesses this morning. Thank you, Mr. Chairman. Mr. Ose. Thank you, gentleman. First of all I want to say how much fun I had a year and a half ago when I brought my family through this part of the country on a Christmas vacation. We actually went right down Lake Mead Boulevard and on over to Hoover Dam. We were inspected just like everybody else. Doing their job. My family did spend the evening here, and we had a great time. This is a great part of the country and my kids and I and my wife thank you for the opportunity to come here. As we were driving out here today, I was watching the gasoline stations on the corners trying to keep track of the different pricing. It was clear that the pricing here is no different perhaps than it is in California. Everybody is above $2.25 for regular. It's as high as $2.43 for premium. I think we're all somewhat unsettled by that. The purpose of this hearing is to try and examine the root causes of that. Why is it that we're in this situation where we find few alternatives and the only near term or immediate thing we can do is pay through the nose for fuel? Now, Congressman Tierney and I have been on the road for 4 years looking at this, different areas, different times of the year, and while we may differ in terms of a number of things, some of the things we have found I think we consistently understand. No. 1, we have an imbalance between supply on one hand and demand on the other. We have growth in demand that is exceeding growth in capacity to refine. So the differences, the imbalance, are growing, not shrinking. As Congressman Porter said, we're impacted by events in Venezuela, Iraq, and Indonesia, and by growth in the economy in China where demand for oil has gone through the roof. In effect, we find ourselves in a marketplace where we're having to bid against people who previously could not afford to bid against us. There are a any number of ways to address this. We can talk about CAFE standards, which are the fuel efficiency standards. We can talk about increased production domestically. We can talk about increased ability to import. We can talk about alternative means of propulsion, whether they be carbon based or otherwise for our vehicles. But whatever, whatever you want to do, the reality is that 97 percent of the means of propelling our vehicles remains based on petroleum. That's a fact. Cannot get around that. It's not going to change by tomorrow. In order to increase supply, there are estimates as high as $20 billion being needed to upgrade facilities that refine petroleum into fuel, whether it be diesel or regular or premium or what have you. Now, others have spoken about the winter to summer changeover in fuel and I'm sure a number of our witnesses will testify about that today so I'm not going to touch on that. Over in California there is a refinery that's being closed. Shell Oil is closing its Bakersfield refinery. Stated reasons appear to be they can't get enough heavy fuel oil out of the Kern County supply source to efficiently supply the Bakersfield refinery. I want to explore that today. I want to ask the people who are experts in this field whether that's the case. Frankly, if Shell is going to close their refinery, why don't they put a price on it and sell it? Now, it's my understanding that there have been 21 inquiries made as to the status of that refinery, its condition, what the price is, but there has been no final closure on that. I would hope to have some of our witnesses speak to that today. [The prepared statement of Hon. Doug Ose follows:] [GRAPHIC] [TIFF OMITTED] T6091.006 [GRAPHIC] [TIFF OMITTED] T6091.007 [GRAPHIC] [TIFF OMITTED] T6091.008 [GRAPHIC] [TIFF OMITTED] T6091.009 [GRAPHIC] [TIFF OMITTED] T6091.010 [GRAPHIC] [TIFF OMITTED] T6091.011 [GRAPHIC] [TIFF OMITTED] T6091.012 [GRAPHIC] [TIFF OMITTED] T6091.013 [GRAPHIC] [TIFF OMITTED] T6091.014 [GRAPHIC] [TIFF OMITTED] T6091.015 Mr. Ose. I do want to just go through and introduce our witnesses here. We're going to have two panels of witnesses. Our first panel is comprised of the following individuals: Richard Burdette, who is the energy adviser to Governor Guinn here in the State of Nevada, William Keese, who is the chairman of the California Energy Commission, and who has testified in front of this subcommittee regularly, and Lynette Evans, who is the policy advisor on regulatory affairs for Governor Napolitano in the State of Arizona. Our second panel, four individuals, is comprised of Joe Sparano, president of Western States Petroleum Association; Sean Comey, media relations representative of AAA of Northern California, Nevada, Utah, an organization I used to be on the board of directors for; Mr. David Hackett, president of Stillwater Associates; and, Tyson Slocum, research director for Public Citizen's Energy Program. Again, we're taking testimony from these invited witnesses who have statements for the record which will be entered into the record which we have copies of outside that door back there for anybody who wants to follow along as they summarize. With that I would ask the first panel, Mr. Burdette, Mr. Keese, Ms. Evans to come forward and join us up here. Standard practice in our subcommittee as well as full Committee on Government Reform is to swear our witnesses in. If you all will please rise. [Witnesses sworn.] Mr. Ose. Let the record show the witnesses answered in the affirmative. The first witness on the first panel is Mr. Dick Burdette, who is the energy advisor to Governor Kenny Guinn here in the State of Nevada. He is also the director of the Nevada State Office of Energy. Sir, welcome to our subcommittee hearing. You're recognized for 5 minutes. STATEMENTS OF RICHARD BURDETTE, ENERGY ADVISOR TO GOVERNOR KENNY GUINN, STATE OF NEVADA; WILLIAM KEESE, CHAIRMAN, CALIFORNIA ENERGY COMMISSION; AND LYNETTE EVANS, POLICY ADVISOR REGULATORY AFFAIRS, OFFICE OF GOVERNOR JANET NAPOLITANO, STATE OF ARIZONA Mr. Burdette. Thank you, Mr. Chairman and members. Let me add, Governor Guinn welcomes you and thanks you for offering us the opportunity to talk a little bit about our views and the continuing challenge of gasoline prices in Nevada, California and Arizona. We are linked pretty closely together. Nevada is greatly dependent on the availability and price of gasoline, diesel fuel, and jet fuel, and as the prices of those fossil fuels rise it directly affects our employment, our tax base, and, of course, nearly every one of our citizens. It is going to take a little bit of an academic tack here because I think the problem is academic. Much has been said about the preference for using the free market to allocate products to consumers. This, of course, is what markets do. When this is done efficiently, we call them competitive or free. When markets are not free, goods and services are not allocated efficiently and economic rents, that's a term that is less inflammatory than excess profits, economic rents are collected usually by suppliers. The truth is that there are virtually no free markets or competitive markets in the classical sense. To an economist the word implies a series of standard assumptions such as the market allows easy price discovery. The price discovery during the Western energy crisis 3 years ago, electricity, was exceedingly difficult because as FERC determined some market participants manipulated the electricity market and extracted substantial rents that nearly bankrupted Nevada's electric utilities and the State of California. Nevertheless, we still refer to those markets as free or for those who like to hedge their bets as governed by free market principles. Unfortunately, there exist a crucial defect in the gasoline market that is even more fundamental. In a reasonably free gasoline market, when supply shortages occur, prices increase until they are high enough to allocate available gasoline to its most efficient use. Generally this means that some refiners will collect rents, ordinarily a bad thing. But in a free market these rents are used to provide the capital needed to expand, to build new refineries, and to attract new capital. Those who fail to make those kind of investments would lose market share and profitability. Most importantly when that happens consumers benefit. We can spend a lot of time pointing fingers at who created the market that we have now, but in my opinion we in the West have allowed ourselves to drift or perhaps be nudged into a situation that is economically unsound. We don't want the government to ration gasoline but we are increasingly aware that the rents collected, principally by refiners, are not being used to serve the public interest as they would be in a free market. The international crude market is not a free market either. It's characterized by institutional collusion of OPEC. The consequence is higher crude prices now exceeding $40 a barrel. If we had known that crude prices would remain high, the domestic supply of crude would increase substantially. After all, there is a whole lot more $40 a barrel oil than there is $23 a barrel oil. Unfortunately we don't know that. And, the ability of OPEC to drop prices is very effective in minimizing competition from renewable energy development, hydrogen technology and other methods we would take here in the United States. Crude prices, however, are like the tidal forces beneath waves. The waves are the price spikes generally caused by conditions unique to our Western market and are similar to State taxes and gasoline environmental attributes that affect the price level but generally, not always but generally do not affect price spikes. Price spikes are caused by excess demand, when demand exceeds supply. But because refiners are operated so close to full capacity it is sometimes possible, not possible for them to make enough product for peak demand. Supply interruptions cause--also result in price spikes and unwarranted collection of rents. Unplanned maintenance of refineries is an especially troublesome type of interruption. It is very difficult to ascertain whether the occurrence or duration of an unplanned maintenance outage was the result of a legitimate problem or withholding capacity. The situation is uncomfortably close to the electricity crisis of 2000 and 2001. But, in this market it may not even be illegal to withhold capacity. Governor Guinn and Senator Reid had just such concern in mind when they jointly asked the FTC for a systematic method of overseeing the western petroleum market. With regard to solution, the most direct solution for our refined products supply problem is to build more refineries. While it may still be possible, this is very unlikely and improving the short-term refining capacity has been largely a matter of relying on imports. There is one potential mid-term solution which is not fully developed: ethanol and biodiesel, not generally available. With regard to demand-side problems, demand-side options, the easiest thing to do is to get people to live closer to their job, to have cars with higher mileage, or to offer public transportation. But, in any event, changing behavior is a long- term process. That would be helped most by what we want the least, high gasoline prices. [The prepared statement of Mr. Burdette follows:] [GRAPHIC] [TIFF OMITTED] T6091.016 [GRAPHIC] [TIFF OMITTED] T6091.017 [GRAPHIC] [TIFF OMITTED] T6091.018 [GRAPHIC] [TIFF OMITTED] T6091.019 [GRAPHIC] [TIFF OMITTED] T6091.020 [GRAPHIC] [TIFF OMITTED] T6091.021 Mr. Ose. I thank the gentleman. Our next witness, chairman of the California Energy Commission, has been before us in the past, testified on any number of things, and is a welcome guest here. Mr. Keese, you're recognized for 5 minutes to summarize your testimony. Mr. Keese. Thank you, Mr. Chairman, members of the committee. I was noticing that we have an AAA chart over here on the wall. I believe our last hearing was at the last peak we had. The good news, I guess, it looks like says $2.40 is as high as it will go. That's as high as their chart goes. I'm going to briefly summarize what has happened on our price increases, what the impacts have been, and the measures that California is looking at. Crude actually does contribute to the price, as we heard when the barrel goes up $1, the price of gas goes up 2\1/2\ cents. That's a cost factor that the refineries have. It's OPEC but California relies on Kern and California relies on Alaska. The oil isn't quite as good but our price goes up commensurate. They've gone up 25 percent since January 1st and our prices have gone up pretty much the same as we've heard from the members of the committee. We had a particular problem this spring because with the turnaround from using MTBE to switching to ethanol, coinciding with the turnaround that refiners take to move from winter- grade to summer-grade gasoline, 9 I believe of our 13 refineries decided to have major outages. They put away inventories to cover their needs during that time. So we went in to the turnaround time with historically high inventories. Well, a number of the refineries that weren't going to go out went out at that time. A number of the refineries that were going to come back on in 2 or 3 weeks didn't come back in 2 or 3 weeks. We went through historically low level of inventories which started our price spike. We do import product and we import the ingredients for gasoline. Unfortunately, our capacity to import liquid products has been going down as our ports have been shutting down their tankage. We had tankers that couldn't get into port and had to divert to other ports. Our price reached $2.27 last week. We may hear higher from AAA. It's a little higher. We see a leveling out about this time. The diesel situation was actually worse and coincided with the time for spring planning which is a heavy demand time. As you know, up in the Sacramento area we had a rupture of the Kinder Morgan pipeline. That and a rumor that the Energy Commission was on the verge of declaring an energy emergency, which we can do drove prices up another nickel or dime. We were not. We were in the investigative stage, not about to declare an emergency. Diesel got to $2.34. We are an island, somewhat, but we are affected by conditions in other regions. We routinely import from out of the country, out of the State, but they have to give a fuel that will meet our specifications. We compete with imports for these other areas. Most of their markets are closer than California. We have to pay a premium to get it shipped to us. That adds money. I'd like to say just one thing about ethanol. We did add ethanol. We like the flexibility of not having to add ethanol. Ethanol does not contribute to the price, however. Ethanol ingredients today are cheaper than gasoline ingredients. So, we do not expect if there is a major change in Washington and they give us the waiver, we do not expect to see California refiners leaving ethanol. It's the cheapest ingredient. We would like to see them have an alternative to import alkylates. If they can import alkylates that will probably keep the price of ethanol down and the price of gasoline down. Price is up 65 cents. I think I'll just stop right there. We do supply virtually all of Nevada's fuel. We supply most of Arizona's fuel and we supply much of Oregon's fuel. The alternatives available to us are to restrain prices, increase refinery capacity. We're not going to build a new one. We need to change the rules so we can expand the ones we have. Increase imports. We have to change the rules in the ports, let more product get in. Perhaps we have to pipe it from the coast inland to store it, but we have to counteract this idea that the ports want to move to container cargos for some liquid cargos and we have to reduce demand. We've asked for the waiver. We certainly hope that rumored discussions taking place back in Washington will culminate in getting the waiver. The flexibility, as I say, of a refiner to either use ethanol or not is what will bring down the price. We need to have permission to study about the problems in the ports. We're going to have workshops in the next month on that issue and we hope to solve that problem. I'm going to defer discussion of the Shell refinery to others who would like to talk about that. I guess our other hope is that the Federal Government will look at CAFE standards. CAFE standards can help, and we'd like to see fuel cell light-duty vehicles incentive as another strategy. Thank you. [The prepared statement of Mr. Keese follows:] [GRAPHIC] [TIFF OMITTED] T6091.022 [GRAPHIC] [TIFF OMITTED] T6091.023 [GRAPHIC] [TIFF OMITTED] T6091.024 [GRAPHIC] [TIFF OMITTED] T6091.025 [GRAPHIC] [TIFF OMITTED] T6091.026 [GRAPHIC] [TIFF OMITTED] T6091.027 [GRAPHIC] [TIFF OMITTED] T6091.028 [GRAPHIC] [TIFF OMITTED] T6091.029 [GRAPHIC] [TIFF OMITTED] T6091.030 Mr. Ose. I thank the gentleman. Our third witness on the first panel is Ms. Lynette Evans. She is a policy advisor for regulatory affairs to Governor Napolitano in Arizona. Ma'am, welcome. It's a pleasure to have you here. We do have your statement, and we've read it. We recognize you for 5 minutes to summarize. Ms. Evans. Chairman, members of the subcommittee, thank you for inviting me here today to testify about the impact of high gas prices on the State of Arizona. I just wanted you to recognize that also present with me today is the assistant attorney general, Emma Lehner, representing the Arizona Attorney General's Office, and they submitted written testimony for the subcommittee. Needless to say, this is a timely topic. In fact, since March when our office was initially asked to testify until early this week, the average price throughout the Nation has risen more than 18 percent and it seems we set new records every day. Usually Arizona prices tend to be among the highest in the country. Our retail prices typically track the ups and downs of the California market minus 10 to 20 cents. This pattern is largely due to our State's dependence on California refineries. Arizona has no refineries, no shipping ports, and as a result we import all of our gasoline and are dependent on two pipelines to supply almost all of our fuel. Approximately 60 percent of the fuel consumed in Maricopa County comes from California and remaining 40 percent from Texas and New Mexico. The Phoenix area alone consumes 65 percent, roughly 109,000 barrels of the State's average daily gasoline supply. Our relative isolation from the primary supply sources became painfully clear last summer when the east pipeline ruptured and seriously disrupted the gasoline distribution system in Phoenix for several weeks. At the peak of the disruption, we estimate that more than half of all the gasoline stations in Maricopa County were forced to close and ran dry. At the same time, pump prices rose approximately 60 percent. Now, at the beginning of this year the average price for a gallon of gas in Arizona was $1.53. By early this week, it had increased a total of 40 percent to $2.15 a gallon and I think it's even up more today. Even recognizing seasonal variations, the price is still 47 cents more than the same point last year. Now, at the same time there has been lots of media coverage about the increased profits enjoyed by the oil industry. The Oil Price Information Service data indicates that refinery margins are currently above 35 cents a gallon, which is significantly above the 2000 through 2003 average of 15 cents per gallon. Now, interestingly, despite these high prices, driving behavior does not change much. According to a recent survey conducted by AAA, record numbers of drivers are expected to hit the road for this weekend and hotel occupancy rates in Arizona are expected to be higher than average. Instead, consumers do appear to be responding in other ways. Last week CNN reported that SUV sales have slipped 22 to 33 percent over the last quarter. While this is definitely encouraging to hear that consumers may be adjusting their behavior, it's difficult to predict whether this apparent move toward fuel conservation will last. There are some industry concerns that our State has. According to Bloomberg News there have been 33 mergers in U.S. oil industry, I think that was mentioned earlier, during the last 4 years alone. Unlike other markets the petroleum industry offers the greatest benefit to consumers when they have options. I am concerned that the continuing consolidation of the industry is decreasing choice and depressing competition. We need to take a more careful and holistic look at mergers as they're being proposed and better analyze how they will impact the overall market. In the short-term, the Governor in February wrote to President Bush requesting an investigation of the high prices. Nine of the Governors later joined the request and sent a second letter to President Bush. Unfortunately, the administration has declined to undertake such an investigation. Needless to say, we are disappointed by this decision, and Governor Napolitano along with 10 other Governors have written the President to urge reconsideration and several State attorney generals have made similar pleas. There is no reason why the Federal Government should not begin an immediate inquiry into why prices and profits have risen simultaneously at the expense of American consumers. Long-term, we need to reevaluate our overall energy policy. In Arizona, there has been some discussion about the possibility of a new in-State refinery. I'll say that our office is certainly receptive to exploring opportunities that would increase the fuel supply for Arizona and our regional sister States. In order to successfully address this issue we need to look beyond today, even the next year, and do some real long-term planning. That means increasing CAFE standards, promoting the manufacture and purchase of fuel-efficient hybrid vehicles, and exploring nonconventional fuel sources. Hybrid vehicles are proving to be popular with buyers despite the limited production of these cars to date. Continuing existing Federal tax incentives for these kinds of vehicles will encourage drivers to purchase more hybrids. I also recommend we reexamine current tax laws that offer tax deductions for the purchase of fuel inefficient vehicles like Hummers. Without long-term solutions we may end up like policymakers nearly 30 years ago who were faced with supply shortages during the 1970's. That fuel crisis was followed by lots of talk of reducing our dependence on foreign oil and fossil fuels, but ultimately very little has changed. Fossil fuels are a finite resource that we should be weaning ourselves from. We must be proactive now or our future gasoline crises will be even more devastating to consumers and our economy. Thank you. [The prepared statement of Ms. Evans follows:] [GRAPHIC] [TIFF OMITTED] T6091.031 [GRAPHIC] [TIFF OMITTED] T6091.032 [GRAPHIC] [TIFF OMITTED] T6091.033 [GRAPHIC] [TIFF OMITTED] T6091.034 Mr. Ose. Thank you, Ms. Evans. Now what happens next is we go through a round of questions for our witnesses. Typically, the questioning proceeds in 5 minute increments. We'll just go one, one, one, one, one. The panelists are asked to keep their answers brief, again, to respect the Member's 5 minutes. We can always followup in writing with clarification and the like. We're going to recognize our host for the first round of questions. Congressman Porter, I recognize you for 5 minutes. Mr. Porter. Thank you. I'm going to come to the home team here for a second. Mr. Schrock. Smart move. Mr. Porter. This past December, seems to me it was somewhere around Christmas, in our big sister State of California there was a challenge in that there were floods that caused the pipeline to break, our single pipeline into southern Nevada for fuel. I know that there is a certain finite amount of storage in Nevada to help allow for emergencies in the line. My question would be should we be looking at additional pipelines into Nevada also? Mr. Burdette. Mr. Porter, absolutely. We have three pipelines into Nevada from California. There are actually two. There are two right together in the south and one up north. Actually, the pipe didn't break in December, but it shut down because they had to fix the overlayment. But, the point is very well taken. Obviously, capacity is helpful, storage capacity is helpful to the distributor, both the distributor market, wholesale market and retail market. Yes, we should have more pipelines and yes, it would be nice to have one from a different source than California. Take some of the pressure off them and give us some reliability. Mr. Porter. Can you cover for us briefly and followup at some point what steps the Governor is taking in Nevada today to help with the fuel crisis? Are there some things that we need to know as Members of Congress to put into our findings? Mr. Burdette. Well, I think, to be frank, there are limited options available to the Governor. I think the primary initiative is we want to make sure that no matter how flooded the market is, that there is some oversight at the Federal level, some access to books and records or some effort to deal with the principal problem. The principal problem is the investment of the excess profits that are earned, I'm sorry, rents that are earned are not plowed back into something that benefits people, benefits our consumers and California's consumers and Arizona's consumers, and an effort that would somehow try to deal with that constructively we would be very enthusiastic about supporting. We are interested in much of the research that my colleague to my left and the CEC is doing. CEC does very fine work and is very helpful not only to California but it's helpful to us as well. We have begun to try to work more closely, and I think that's important for us. We can learn a lot from California and not always from mistakes either. Mr. Porter. We know someday they're going to fall off into the ocean so we want to be prepared, right, when California drops into the ocean. I ask those questions to make sure we're not duplicating some of our efforts and make sure we can coordinate. The storage situation has come up in our research from Washington but also from those suppliers here in southern Nevada. Any thoughts on the storage and things that we can do to help with that? Mr. Burdette. There are private forces that have increased the amount of storage, particularly after the problem we had with pumping power during the energy crisis. There were approximately 120,000 barrels of storage capacity increased in the Las Vegas area, largely for regular gasoline and commercial diesel, plus, and I don't have the number for the airport, but we did increase airport jet fuel capacity storage as well. I think private forces are working reasonably well there but we are short. We would certainly be supportive and helpful if we can in that regard. Mr. Porter. One additional question, Mr. Chairman? Mr. Keese, from a regional perspective, California, Nevada, with the boutique fuels, I understand the Clean Air Act and believe that those steps should be followed. Is there some things that we can do more regionally to make sure that there is additional fuels available between the two States? Mr. Keese. Actually, yes. I was interested to hear the line of your questioning because over the last 2 or 3 years in California we looked at three alternatives that the legislature asked us specifically to look at. New refinery capacity perhaps, perhaps State owned, storage capacity, and a pipeline from Houston. New refinery, probably impossible. We are going to be working very actively on allowing more expedited permitting process on current refineries. Storage is a major problem because the fuels are fungible. You have to keep moving them through. Yes, some enhancement but it does add to the cost of the product. We wind up thinking that we'd like to see the pipeline from Houston and if the pipeline from Houston even only goes to Phoenix and Las Vegas and meets your needs, it frees up plenty of supply in California. So, the pipeline is a very viable thought. We would love to talk to you about the pipeline. Mr. Porter. Thank you. Thank you Mr. Chairman. Mr. Ose. Gentleman from Massachusetts. Mr. Tierney. Mr. Burdette, you were talking during your testimony about outages. I understand it's so concentrated refineries now, so few being around and the stress under which they're working that we're liable to have more accidents, really working at capacity for a good deal of time. I suppose outages are somewhat a necessary part of the business during particular times. At some point, when we start to see the number of unplanned outages happen with the frequency that we've been witnessing, particularly this past year and others, should we be concerned about probably having some sort of investigation as to whether any of these are planned outages as opposed to accidental or coincidental outages. Mr. Burdette. Congressman, I guess a couple of things about that. First off, it isn't surprising equipment as complicated and as old as the equipment to see unplanned forced outages we call them in the electric business, forced outages, unplanned outages, but I'm not, I'm not an expert on refineries. I don't have credentials that could comment technically about what you said. As an economist, I look at it though and I am very worried about whether these unplanned outages are as unplanned as perhaps they may have been described. The problem I think is that it's not illegal for them to be withheld. Mr. Tierney. I would agree. I would agree. The other part of your testimony, these rents as you like to call them, you're much nicer than I am I guess, these excess profits, most industries in a free market would reinvest some of that money into capital needs of their business. You would want to fix your refineries or make storage capacity, whatever. That's not happening in this industry, is it. Mr. Burdette. That's correct, it's not. Not in the refineries that serve our State. I'm not sure about elsewhere but it's not happening here. Mr. Tierney. Mr. Keese, you indicated that you don't think there will be any refineries in California. Would you explain to me why that's the case? You think society won't allow it or the industries won't invest the money or what is it? Mr. Keese. Correct. Mr. Tierney. Both of those. Mr. Keese. Society won't allow it and, therefore, it becomes easier to do it in New Zealand or Australia or someplace else. There is investment taking place a broad. Mr. Tierney. So, not in my backyard. Mr. Keese. Not in my backyard. Mr. Tierney. How many refineries have been closed in California during the last 5 years. Mr. Keese. I'm going to guess one. Mr. Tierney. In the last 10 years. Mr. Keese. Probably two or three small ones and then we have Shell, looks like it's going to go down. That's of great concern to us, and I guess where I come from I can understand shutting down a 7-year-old essentially refinery that was three small refineries on different pieces of property combined. I can understand the economics of it. What I want to see is that 6 percent of California's diesel and 2 percent of California's gasoline that came out of that is replaced. I'd like to see a commitment to do that. Mr. Tierney. From the industry. Mr. Keese. Yes. Mr. Tierney. I'm a little concerned. I do think we need to streamline the whole process, permitting process. I know most of these refineries have been expanded. A lot of them have been expanded. We have fewer refineries but they're larger and controlled by fewer and fewer people on this and it gets to be an issue there. The other way to go about it, of course, Ms. Evans, is to do more conservation in the CAFE standards out there. What is your State doing about the standards and conservation? Ms. Evans. Actually Arizona is one of the leading States when it comes to purchase of the State vehicles that are alternative fuel regarding the vehicles. The only problem with that is apparently one of the big national producers, Chevy, is going to be not producing the Cavalier which is one of the common vehicles we use, but we've been very proactive in making sure the State buys those type of vehicles and less dependent on gasoline. Mr. Tierney. I was just sharing with the chairman that we've had people that talk about increasing the fuel efficiency standards generally get jumped on both by the industry and by labor unions because everybody has worked together, decided this is a bad thing. In fact, I was hoping they would join together and ask us help retooling facilities and keep the industry going, keep the jobs going and move in that direction so we can make the kind of vehicles we would. It makes a lot more sense to me than giving out subsidies to everybody, doesn't make a lot of sense to me to look at the President's energy bill who moves away from conservation, away from alternatives, loads it up on fossil fuel industries and subsidies that don't do much for anybody. In the long-run, we have to look at that industry perhaps not making fuel-efficient cars, let them retool. Got other countries do it. Perhaps we ought to look in that direction. Thank you. Mr. Ose. Thank you. Gentleman from Nevada, Mr. Gibbons. Mr. Gibbons. Thank you very much, Mr. Chairman, Ms. Evans and gentlemen. Thank you very much for your testimony today. It's been very helpful. Mr. Burdette, maybe I'm going to ask you a question that you know or do not know. If you don't, that's fine. Would you for us, for me individually, break down the cost of a gallon of gasoline for us. Tell us what the various percentages are that are related to taxes, production, refinery, transportation, etc., and then tell us the second part of that question, which ones can we control? Which ones can we affect that are under our control that will make a difference in the price of gasoline today? Mr. Burdette. Thank you, Mr. Gibbons. First of all, we're only talking about 25 percent that we can directly affect because roughly half or a little bit more is the price of crude. That obviously goes up and down as the price of crude goes up and down. About a quarter or more, maybe 30 percent, is taxes. In Nevada we have fairly high taxes and the--I believe there is good reason for that. We are a pretty partially populated State. We have long roads and we have in places where we do have lots of people, a lot of growth, a lot of capital required. So taxes and cost of crude are the overwhelming majority of the cost we deal with. They're not always the cause of the spikes that we see. The cause of the spikes that we're seeing, in my opinion, is in that last 25 percent where we're talking about the cost of refining and the cost of distributing, storing it, piping it and finally making it available at retail. We have some ability to control that but this is a free market. Particularly the distribution and the retail side of that market there is a fair amount of competition in our State and that folks have different places to go. So there is probably not a great deal that can be done to effect the price there which is why I focused mostly, at least my comments, on refining and the fact that the market seems to absolutely forget those, the rents that are collected there that should be helping us that aren't. Mr. Gibbons. Let me ask a followup question if I may. Perhaps either Mr. Keese or Ms. Evans would like to add to this. If we cap those rents or production profits that you're speaking of, what would be the short-term and indeed the long- term effect of such an action. Mr. Burdette. Frankly, Mr. Gibbons, I'm not sure how the Governor would answer that so I'm going to answer it for myself. I really don't believe that caps are a good idea. They may sound great and may work just fine for 6 months or a year, but eventually they get you in trouble because they skew investment also. Because our markets aren't perfect, we try to gain from our markets those things that a free market would give us. So, what I believe we need is a method of perhaps even working with refiners, working with the other States to find a way to use those profits, and it would be hard to define but use those profits in a constructive way that would help relieve the supply shortage. Perhaps to purchase the diesel that is going to hurt Nevada, by the way, just as badly as California when and if Bakersfield shuts down. Mr. Porter. Mr. Chairman, if I can yield time. Mr. Ose. Gentleman from Nevada would yield. Mr. Gibbons. I'll yield. Mr. Ose. Stop the clock for a minute. Mr. Porter. Thank you. I appreciate that. I could possibly help with the question of the cost of fuel on the taxes. We're the fifth highest in the country. Federal tax of course is 18.4 cents per gallon. Second highest. Sorry. State taxes are 18 cents. County and sales tax is 14.4 which equals about 15.8 cents per gallon. Now, let's define a little step further. I applaud local governments. In the early 1990's in southern Nevada they put forth a petition, initiative petition that was voted on by the people of Nevada, to help fund our streets and highways. So, this is an example of how Nevada has been paying its own share and its fair share if not more than its fair share. But part of the reason that we are some of the highest is because of local initiative petitions that were exerted by the community to help fund our streets and highways. I want to enter that for the record. Mr. Ose. Senior member of Nevada delegation. Mr. Gibbons. Thank you, Mr. Chairman. I appreciate Mr. Porter's clarification on that issue as well. It was a very important point to have been made. I don't know if I gave Mr. Keese or Ms. Evans an opportunity to answer the final question about the controlling of profits, capping of those profits. Your philosophy, your ideas, should it be done? Because it seems to me that part of the issues, part of the concerns are in fact the mergers of companies; therefore, the ability of these companies to make larger profits which seems to be economic stimulus of American economy to begin with. But what's your individual thoughts on capping those? Should we do it in fact? Mr. Keese. I'll answer specifically. I think it would be extremely difficult. I also have electricity under my purview. Let me make a quick distinction here. If you have three or four generating plants and you shut one down, we saw that you can drive the price up and profit. If you have an oil refinery, you have contracted, committed to supply everything that comes out of that refinery. If you have an inadvertent shutdown, you go next-door to your neighbor and you pay that economic rent to them to buy the product at a higher price to meet what your commitment was. You lose. Mr. Gibbons. So it's not---- Mr. Keese. Unforced outage at a refinery is a loss. Now, if Chevron has to go to Shell and pay an extra 30 cents a gallon to buy it because that's what Shell wants, is that an excess profit? And then, when Chevron does the same thing to Shell when Shell goes out and Chevron says, well, I want 40 cents. There is winners and there is losers is what I would say. It seems to me it would be very difficult to try to figure out. You get taxed when you win. You get a credit when you lose. Mr. Gibbons. Mr. Chairman, I know my time is up. Mr. Ose. Ms. Evans, I think Mr. Tierney and I are interested in Ms. Evans' answer. Ms. Evans. Absolutely. I have the same caveat that Mr. Burdette had is that haven't had a direct conversation with the Governor about this particular issue, but I think from our perspective we would like to see a little more transparency to understand exactly what's going on in marketplace to ensure we don't have market manipulation going on, that we don't have refineries that are purposely making decisions to shut down to increase their profits. So at this time, I'd hate to speak to whether or not we would need a cap that is a little more down the road. Transparency first. Mr. Tierney. Yield the floor. Mr. Ose. Certainly. Mr. Tierney. Mr. Keese, are you telling me you don't think that industry raises its prices to recoup that loss at some point down the chain. Mr. Keese. Oh, I think throughout many different segments, production, refining, distribution, it does, and I don't want to be misunderstood. You see those spikes over there, we want them down. We don't want those spikes. Mr. Tierney. I want to make sure I was clear with your answer. They may temporarily have to go somewhere else and use those rents to replace them, but in the long run they can charge more for the product they do generate. Mr. Keese. Certainly try to recoup it. Mr. Tierney. Thank you. Mr. Ose. Gentleman from Virginia. Mr. Schrock. Thank you, Mr. Chairman. Ms. Evans, for whatever it's worth if you can't get Chevys, Ford in 90 days will be coming out with the new Escape. Ms. Evans. I've heard it. Mr. Schrock. It's going to be a hybrid. My wife drives a current Escape. My son is No. 4 on the list of 20,000 to get the new Escape and I'm dying to see what it's going to look like. It's good that they're doing that. It's going to be interesting to see when that happens. We're talking about these rents and such and I understand that. The refineries are just saying they're playing by the rules that Congress set up for them. There is an FTC report from 2001. Long time ago. It said the commission found no evidence of conduct by the refiners. Are we the problem? Is Congress the problem? Could we fix this? Don't be politically correct. Tell us what you think. Mr. Burdette. I'm sorry, are you addressing the question to me. Mr. Schrock. All three of you. If we're the problem we need to know it because everything emanates from there that causes some of these problems. If we have to change the way the game is played then so be it. Mr. Burdette. I personally don't believe that Congress is the problem, although, by the way---- Mr. Schrock. I was hoping you would say we were. We could fix it. Mr. Burdette. The new Ford hybrid won't count. It's not an alternative fuel vehicle. Now that's controlled by the feds, not by the government. Mr. Schrock. What do you mean ``won't count.'' Mr. Burdette. We can't use Prius or Ford, the new Ford because it doesn't comply with the Clean Air Act. We're a clean cities initiative, which requires alternative fuel. The definition of alternative fuel doesn't include savings of fossil fuel. But that's---- Mr. Schrock. But that's our fault, right. Mr. Burdette. Well, I think it's EPA. Mr. Schrock. That is our fault, yes or no. Mr. Burdette. Yes, sir, it's a Federal problem. Mr. Schrock. Good. If we're truly interested in getting people into hybrid cars we need to change the rules of the game so they can get in them. Mr. Burdette. To get the States more involved, sure, that would help out. Mr. Keese. You could fix that. Arizona buys alternative fuels, natural gas vehicles. They can't buy hybrid because they get 40 or 50 or 60 because it doesn't meet the requirement. You can change that. That's yours to change. Mr. Schrock. OK. Mr. Burdette. The broader issue is one that we fell into, I think. 1950, by the way, I remember driving in the 1950's. Mr. Schrock. Good. I'm glad there is somebody here besides me that remembers that. Mr. Burdette. Maybe Bill, too. We rely almost as an article of faith on the free market to deal with many of our markets, all of them, and true, we should and did in this market but this market has changed. This is not the same market that existed in 1950's, and the same level of faith and its ability to drive the kinds of results, the kinds of outcomes are very different, and so the Congress in 1950 faced a very different problem than the Congress of 2004. Again, the aim is to get results that mirror what a free market would give us. Mr. Schrock. In Nevada, for instance, would Nevada be prepared to build their own refinery? I'm probably going to get asked that in Virginia. Everybody says not my backyard, but if we don't do it in our backyard then we're going to have to depend on foreign oil companies to provide it. We're going to continue to have these problems. Could you or would you build one in Nevada, Arizona as well? Mr. Burdette. We have one refinery that is underutilized in Tonopah. We are much more fragile than Virginia but, yes, we'd have to go through the permitting process. Mr. Ose. If I understand the issue on the Tonopah refinery is the throughput to the refinery does not allow the refinery to actually meet its total capacity; is that correct? Mr. Burdette. That's correct. It's also a problem with the crude itself. Mr. Ose. It's a little broader than just will you build a refinery. It also relates to the infrastructure that feeds the refinery. Mr. Burdette. Absolutely. Yes, sir. Yes, Mr. Chairman. Ms. Evans. If I could speak to that point, too. I think the economics and in some other panels have mentioned is not necessarily there to afford a new refinery in United States. It's much less expensive generally for someone to go out of the country and build a refinery than have one here brand new in the United States. Mr. Schrock. How do we solve that? Ms. Evans. Well, I think---- Mr. Schrock. Tell me why you think it's cheaper out there than it is here. Ms. Evans. Well, a small portion of that, and I can't say exactly how much, probably does go to some of the permitting and those areas that do add some cost. There is labor costs that are obviously less expensive outside the United States. On the cost of importing could be offset through increased price in the United States and we've been willing to pay those prices so far. Mr. Schrock. Really no answer to it, is there. Ms. Evans. I think short-term it is a challenge. We're looking at very high prices that we're seeing this summer. Again, to think more long-term, to look at our overall demand and supply, reducing that demand, making ourselves more efficient, energy efficiency, and conservation I think will get us a long way, not all the way but a long way toward reducing our dependence. Mr. Schrock. One of the ways is using hybrid cars but the Federal Government won't allow the local jurisdiction to use it. There is something wrong here somewhere. Ms. Evans. Absolutely. Mr. Schrock. We're talking out both sides of our mouth when we say that. We up here have to get that fixed for people like you at home. Ms. Evans. Absolutely. If I could speak to I realize it's not a large percent of the market but the fact that they have a Federal tax incentive that indirectly creates an incentive for a purchase of a Hummer is not the kind of policy that we want to be encouraging. Mr. Schrock. I agree. Thanks, Mr. Chairman. Mr. Ose. Mr. Keese, I was unclear about your testimony. Was it the Commission or the State of California that was advocating for a new pipeline from Texas, Houston? Mr. Keese. The legislature asked us to study the three alternatives. We essentially came to the conclusion that the first two aren't feasible. The pipeline is feasible. As the Energy Commission, yes, we would like to encourage the expansion of that pipeline but it isn't the California part that's the problem. It's other States. Mr. Ose. Has the State of Texas said they're willing to expand the pipeline. Mr. Keese. Mr. Hackett probably knows quite a bit about this who is on the next panel. There is a segment of the pipeline that is having difficulty getting permitted to operate at a higher capacity as I understand it. Mr. Ose. In what State. Mr. Keese. We'll ask Mr. Hackett. Mr. Ose. Do you know if any inquiry has been made to the State of New Mexico that they would be willing to permit a larger pipeline. Mr. Keese. I don't know if it's been a direct request. I know our people have been in contact with the other States. Mr. Ose. Do you know anything about that? Ms. Evans. I can speak quickly. The pipeline we're discussing is the Long Horn pipeline. It comes out of west Texas. The problem that we have in Arizona is that pipeline although would expand the capacity would stop in Arizona at the Kinder Morgan pipeline which currently has an 8 to 12-inch pipeline. It would get bottlenecked basically in El Paso because there is no additional expansion on the pipeline. Although it would introduce Gulf Coast product, it wouldn't necessarily increase the amount of product that comes in in total. Mr. Ose. Would you support expanding the Kinder Morgan pipeline? Ms. Evans. Absolutely. I think I told you that seriously has to be considered. I have concerns that the estimation by Kinder Morgan about the growth of the State are a little low and they aren't anticipating the kind of growth that we should be experiencing and the expansion that we need. Mr. Ose. Do you speak for the Governor on that issue. Ms. Evans. I believe so I do. Mr. Ose. In terms of being willing to support expansion of Kinder Morgan pipeline? Ms. Evans. I believe I do, yes. Mr. Ose. What about Governor Guinn, would he have any objection to the expansion of the Kinder Morgan pipeline. Mr. Burdette. I haven't had direct conversation. I would be very surprised if he would not, that he would not support an expansion of that pipeline from Arizona to Nevada. Mr. Ose. You would be very surprised if he would not support it? Mr. Burdette. Support it. Mr. Ose. Let's put that in a positive. You would expect him to support it? Mr. Burdette. I would expect him to support it, yes, sir. Mr. Ose. When we talk about these pipelines that is jurisdictional in many respects to FERC and we actually do have a bite of that apple and I'm just trying to make sure geography of which this pipeline would pass that we're not going to have some unintended impediment places in the way. Mr. Burdette. It would pass almost entirely through Arizona. Mr. Ose. I understand that. Also, take a stem from there and head it north to Vegas. Mr. Burdette. Yes, sir. Ms. Evans. Certainly we want to have consideration for where the pipeline is, what the expansion is, proximity to homes and all those other factors. In general, with the right situation I would be surprised if we would not support its passage. Mr. Ose. At the existing right-of-way today at the Kinder Morgan pipeline seems to be that the pipeline is 8 or 12 inches. Ms. Evans. It varies between 8 and 12 inches. Mr. Ose. Seems to me if we move 1 foot over to the side we'd have room for another 8 or 12-inch pipeline. Ms. Evans. Right. Well, the concern obviously in Arizona is when we experienced a rupture--if I could give you a little more detail. The rupture that we had actually spewed gasoline over homes that were under construction. No one was in the area. We didn't have any deaths or injuries. Obviously people in the community are concerned about the safety and reliability of these lines. Mr. Ose. What's the spacing between lines that the State of Arizona would require? Ms. Evans. Well, we have not nailed down a specific number. I think right now we're at the stage where we feel like there should be adequate disclosure to the people that live near there so at least they know what they are purchasing and what risks might be associated with that but we haven't determined specific distance between a pipeline and the neighborhood. Mr. Ose. We do have an existing pipeline through this neighborhood. Ms. Evans. That's right. Mr. Ose. It did have a rupture? Ms. Evans. It did have a rupture. Mr. Ose. Did it cause price spikes? Ms. Evans. Yes, absolutely. Mr. Ose. If I understand correctly from Mr. Keese's testimony, that the creation of additional 8 or 12-inch buried pipeline bringing refined product or otherwise from Texas would allow fuel that is currently coming from California to both Nevada and Arizona to then stay in California. Is my logic correct? Mr. Keese. Yes. Mr. Burdette. Yes. Mr. Keese. It would offer both those States options to get it where it's cheaper. Get it from California if it's cheaper, get it from Houston if it's cheaper. Mr. Ose. The nature of the crude that comes from Texas westerly on the existing pipeline, is that the same type of crude that's currently usable in the refineries in---- Mr. Keese. Product. We're talking about product, gasoline, diesel, aviation gas. Mr. Ose. My time has expired. The gentleman from Massachusetts. Mr. Tierney. My reaction was a reaction to something Mr. Shrock said. I think the Federal role can be significant. One, the Federal Trade Commission can certainly look at mergers. I understand that people aren't alleging that there has been an antitrust violation, but I want to read to you a couple reports. One is the March 2001 report from the FTC. It said the completed FTC investigation uncovered no evidence of collusion or any other antitrust violation. In fact, the varying responses of industry participants to the gasoline price spike suggest that the firms were engaged in individual, not coordinated conduct. Prices rose both because of factors beyond the industry's immediate control and because of conscious but independent choices by industry participants, each industry participant acted unilaterally and followed individual profit and acquisition strategies. One firm increased its summer-grade gasoline production substantially, as a result had excess supplies of RFG available and had additional capacity to produce more RFG at the time of the price spike. This firm did sell off some inventory RFG, but it limited its response because selling extra supply would have pushed down prices and thereby reduced the profitability of the existing RFG sales. I think what you're talking about there is no current law against that except that as I read and as the FTC's own merger considerations, rules and regulations allow for they can still decide that this consolidation of the market is too extreme. It may not amount to a monopoly of the antitrust law but would be too extreme. An executive of a company made clear that he would rather sell less gasoline and earn a higher margin on each gallon sold than sell more gasoline and earn a lower margin. So, on that theory a RAND study which came out in 2003 made pretty much the same point. The central tactic is to allow markets to become tight by relying on existing plant and equipment to the greatest possible extent, even if that ultimately meant curtailing output of certain refined product, again not investing the profits that are made on that. Talking about having some storage capacity. We did that with the Northeast oil during the winter season and it worked out pretty well. We Ought to perhaps think about having more of those storage capacities around, ability to have that when the fluctuations are coming in. Things like that I think that the government can do, some minor regulations on that. Otherwise, I'm not sure that this industry is ever going to reinvest the resources it needs into its capital, do what it has to do to get the NIMBY, not-in-my-backyard attitude resolved. This industry may decide that profit going up is a happier day for them. It's not a totally free market. There has to be some modicum of regulation when we let them make the same--reasonable that somehow serve the public good. The length of a filing as necessary to our human existence as these fuel products have become and I think that may be appropriate for us to make sure we do some modicum of regulation. Thanks, Mr. Chairman. Mr. Ose. Mr. Gibbons. Mr. Gibbons. Mr. Chairman, I, first of all, want to thank our witnesses on this panel for being here today. Mr. Ose. We're not done with them yet. Mr. Gibbons. This is my one last opportunity to ask a question before I got shut off. I wanted to thank them. Mr. Schrock. Just like the oil. Mr. Gibbons. Before they shut it off. I guess my concern is, Mr. Burdette, I want to direct my final question to you, if we look at the price of gasoline as I asked earlier, the percentage you indicated was 50 percent of that price is due to taxes and crude oil. Was that---- Mr. Burdette. Seventy-five percent. Fifty percent for crude. Mr. Gibbons. That makes it even more difficult. When I look at the price of crude oil going up from $30 to $40 per barrel, that's a $10 barrel increase times the 2, 2\1/2\ cent gallon cost per gas, that would make it a 25 cents increase in per gallon cost. So, the overall crude oil which seems to be the villain here is only a small part if it's 75 percent of the increase in the cost of gasoline. Mr. Burdette. Mr. Gibbons, one of the things that we haven't talked about at all is speculation in how that affects the market. I know this is a very controversial subject, but speculation exists. It exists because we don't know what the Saudis will do 3 months from now. We don't know what's going to happen in Iraq. We don't know what's going to happen to political instability in Venezuela. But, there are people who are willing to take that risk and they will buy it and there is a risk premium, whether there is no market that says here is the risk premium for petroleum, but there are risk premiums in petroleum and those risk premiums are paid and they are a significant part of--and I wasn't careful about does that belong with the crude price or is that in the extra 25 percent, but the point is right now risk premiums are very high because of the instability and because of the new demand from China and because of--well, many reasons. Risk premiums are an important part of the situation today. Mr. Gibbons. Well, I agree with Mr. Tierney about the fact that we need to start looking at our production capability, building new refineries. We have all 30 year infrastructure legacy refineries that are going to be growing in their need for repairs and maintenance as they get older, as any large or aging system would. I think it behooves us, including California, to start looking at the ability to supply the demands within our region and our areas. The NIMBY issue which is something that is troubling a lot of us out here, well, it troubles everybody across America, has to be resolved politically. It is something that all of us are responsible for addressing. I think that's probably one of the biggest solutions to cause, being able to generate a given supply or a constant supply to meet a growing demand or increase in demand as we have in this country. Again, thank you, Mr. Chairman for indulging me in my questions. Mr. Ose. The gentleman from Virginia. Mr. Schrock. I don't have anything further. Mr. Ose. I want to go back to something Mr. Burdette said. Refinery at Tonopah, roughly 5,000 barrels per day production capacity. Mr. Burdette. I don't know, Mr. Chairman. Mr. Ose. Are there any plans to expand its capacity? Mr. Burdette. Not that I'm aware of. I don't expect so. It uses crude from a railroad valley in central and eastern Nevada. It is crude that is not, not particularly suited for transportation fuels. Mr. Ose. The information I have is as of 2002, it indicates the State has crude oil production of 2,000 barrels per day. Mr. Burdette. That's about right. We make about a million and a half a year is top production. It's a little bit more than that. Mr. Ose. You have a refinery in Tonopah that's processing 5,000 or can process up to 5,000 barrels per day. Mr. Burdette. I don't know that number, Mr. Chairman. Mr. Ose. What I'm trying to get at is the infrastructure that delivers the crude to the refinery, there is a difference here of 3,000 barrels per day and it's coming from somewhere. Where is it coming from? Mr. Burdette. The crude that's cracked in Tonopah is shipped out of State to finish its refining process. It's refined---- Mr. Ose. It's cracked in Tonopah. Mr. Burdette. In fact not completely. It's just an initial step in Tonopah. I'm going to have to learn more about exactly what happens in Tonopah and will be happy to supply you with additional details. Mr. Ose. As I scratch around for solutions to the problems here in Nevada that will help us in California, it seems to me that with the refinery already in operation in Tonopah, that I think your testimony a little while ago was had unused capacity because of throughput constraints. With one already established it would seem to me we could move forward with or maybe you guys more accurately could go forward with a permit application to either expand the refining process from simply the first cut on the crack or expand the capacity beyond the 5,000 barrels a day that would go to some degree toward addressing deficit here in the State. Mr. Burdette. Our problem is that we don't have crude that is suitable for making transportation fuels. Mr. Ose. Very heavy. Mr. Burdette. A lot of wax. Mr. Ose. Maybe we need to figure out how to get you a pipeline that brings you crude. Mr. Burdette. The economics, if the economics are there we have communities like Tonopah that are anxious for economic development. There is not to say that there aren't people who won't be concerned about it. Mr. Ose. Now, as it relates to the petroleum infrastructure--I know that Congressman Shrock has a plane to catch. Don't feel badly he has to leave. As it relates to Arizona, California, Nevada, each of you probably have a better understanding of the infrastructure within the State. Are each of your States looking at ways to expand the infrastructure, for instance, to allow a greater amount of throughput or to permit larger refineries from capacity standpoint? Start with Arizona. Ms. Evans. I am aware, and I mentioned in my testimony, that there is a discussion about a refinery in Yuma which is in the western part of the State. I'm not sure exactly where they are in the process. Again, I think they submitted written testimony. To the extent again that we can meet our air quality standards and end up the community is receptive we would certainly be open again to increasing the supply to the State and the region. Mr. Ose. Is the State advocating for the development of a refinery somewhere in Arizona. Ms. Evans. I don't think advocating would be the appropriate term for us at this stage. We are watching, we're monitoring, we're interested, but not necessarily advocating at this point. Mr. Ose. What about in California? Mr. Keese. As I mentioned, we have identified the problems in the ports for import and in the refineries for expansion. We use to see refiners capacity creep about 2 percent a year. It's now under half percent. That's not enough. There is an active proposal in California, the legislature and in the administration, to look at a streamlined licensing process for expansion of refineries without changing any environmental laws. Mr. Ose. How about in Nevada? Mr. Burdette. In Nevada we are actively pursuing both ethanol and biodiesel production. We currently produce about 3 million gallons of biodiesel down south. We're opening new biodiesel facilities up north. They are marginal fuels at best, marginal addition. We are concerned about the economics of ethanol. The fact is we have some renewable resources that we can use to provide energy for a refinery for ethanol that would help the cost but we still have to deal with the fundamental cost of shipping unit trains of grains into the State, processing it, and selling the byproducts and making that productive, and we haven't got somebody who is quite ready to that, frankly. Mr. Ose. Flip this question around. Instead of looking at it from the State's perspective about what the State can or should be doing, within your respective States what recommendations would you make to the Federal Government about how to help the States with their infrastructure? Mr. Keese. Mr. Keese. I would think that probably would get around to the port situation which is the ability to bring in the product that Arizona and Nevada will need to. It will probably have to come through California. There well may be something that the Federal Government can do there. We're in the analytical stage right now. I don't have the---- Mr. Ose. Mr. Burdette. Mr. Burdette. Pipelines are clearly important part of our infrastructure. We should acknowledge that California's air quality is affected by the amount of fuel they make for Nevada. We're grateful for that, but the truth is we need additional pipelines. Additional pipeline infrastructure and storage infrastructure would be helpful for us. Not sure we need a great deal of Federal help on that but certainly on the pipeline we would. That's a FERC jurisdiction. Mr. Ose. Ms. Evans. Ms. Evans. I would reiterate that in any dynamic activity, it might be changing since, but one issue we looked at in the State of Arizona is our west pipeline and east pipeline. East pipeline was older, west line was a little bit newer and the tariff was higher in the west line so we were wondering and concerned that might be creating some kind of disincentive perhaps on the part of the company to expand that pipeline. That was one issue that we were looking at and would have some FERC obviously. Mr. Ose. Mr. Tierney. Mr. Tierney. Thank you very much. The witnesses are great. Mr. Keese, if you had the port situation resolved is that going to increase the transportation costs of getting that material inland. Mr. Keese. We have to solve that, the tankage also but I don't think it would--gives you options. The option we're talking about on the pipeline is that there is excess refining capacity in Houston today. So, the pipe would be full. Mr. Tierney. Thank you very much all of you. Mr. Ose. I want to thank this panel for their participation. We have questions that may have occurred to any of the Members up here that we will forward to you in writing. We appreciate timely response. Generally once you've got them, you will have 10 days to 2 weeks to respond. We'll be in touch. We appreciate you guys participating. We'll take a 5 minute recess. [Recess.] Mr. Ose. Welcome back. I am pleased to welcome our second panel of witnesses. We are joined on the second panel by Mr. Joseph Sparano, president of Western States Petroleum Association; Mr. Sean Comey, media relations representative for AAA of northern California, Nevada, Utah; Mr. David Hackett, president of Stillwater Associates; and Mr. Tyson Slocum, research director for Public Citizen's Energy Program. Gentlemen, you saw on the first panel we swore everybody in. We do that for everybody. We're not picking on you. If you'd all rise, raise your right hands. [Witnesses sworn.] Mr. Ose. Let the record show that the witnesses answered in the affirmative. As you saw in the first panel, what we do is we ask our witnesses to summarize in 5 minutes the essence of their testimony. We have received your written statements and they have been entered into the record. I'm sure that Mr. Tierney and I have both read them. To the extent that you can briefly summarize we'd appreciate it so we can get right to the questions. Mr. Sparano, you're recognized for 5 minutes. STATEMENTS OF JOSEPH SPARANO, PRESIDENT, WESTERN STATES PETROLEUM ASSOCIATION; SEAN COMEY, MEDIA RELATIONS REPRESENTATIVE, AAA OF NORTHERN CALIFORNIA, NEVADA AND UTAH; DAVID HACKETT, PRESIDENT, STILLWATER ASSOCIATES; AND TYSON SLOCUM, RESEARCH DIRECTOR, PUBLIC CITIZEN'S ENERGY PROGRAM Mr. Sparano. Thank you, Congressman, other members of the committee. Appreciate the opportunity to testify today. The Western States Petroleum Association is a trade association that represents companies that explore for, produce, refine, transport and market petroleum products in six western States: California, Nevada, Arizona, Oregon, Washington and Hawaii. I've worked in the petroleum industry for 35 years and have held positions including CEO and chairman and president of regional businesses. We've been engaged with State policymakers exploring how to address many of the petroleum supply-side and demand-side issues that were raised in your staff report. My testimony will focus primarily on gasoline price issues and, as importantly, ways to improve the current situation. To put current gasoline prices in perspective, I used Bureau of Labor Statistics data covering 20 years to compare the real growth in gas prices to other products and services we use every day. What I found is that gasoline prices have risen far less at 19 percent than most everything else we use in our lives including food, clothing, housing, health care, electricity and college tuition which is up about 400 percent during the same period. Gasoline prices in the West are a function not only of local and regional market conditions but also worldwide petroleum market conditions. According to the Energy Information Administration [EIA], nearly one-half the price of a gallon of gasoline is a result of crude cost. Crude prices have risen dramatically over the past several months to almost $42 a barrel. They are currently settled near record highs. According to the EIA, and other experts, crude costs have increased due to surging worldwide demand and tightening of supplies by OPEC. Another reason gasoline cost more in the West is the fact that gasoline taxes are generally higher here; about 52 cents per gallon in both Nevada and California. As was mentioned earlier, higher margins, several folks mentioned higher margins, they do not equal profits. Margins do not equal profits. In addition to those comments, demand for gasoline on the west coast and cities like Phoenix and Las Vegas has grown at a significant rate. In California, demand has grown at two to four times the rate of in-State production capacity increases. This growing imbalance between supply and demand growth is due in part to regulatory barriers to expanding refineries and other infrastructure. This means there is an increasing reliance on importation of blending stocks and finished products, subsequently higher marginal costs to supply the western marketplace. This puts a lot of pressure on an already inadequate infrastructure. Whether it's in the area of refining capacity, pipeline capacity, port handling and storage equipment, marketing facilities or terminals, removal of permitting constraints and barriers to infrastructure projects are needed to improve capacity and reliability. Throughput limits on refinery equipment and ports, repetitive environmental compliance reviews and continuous permit delays when our industry wants to add refining capacity or more retail units all need immediate attention. These barriers stop or slow down construction of new petroleum facilities and upgrades to existing equipment that together would allow petroleum companies to more effectively and efficiently produce, transport and sell more gasoline in the West or to import fuels from other areas. Of course, as with any industry, projects must also meet shareholders' and boards of directors' economic criteria in order for any implementation to proceed. Well, given that, what can be done? Here are some specific observations and suggestions. Most of my remarks will focus on California State policies. This is because many of the refineries, other forms of petroleum infrastructure that are located in California provide fuel products to Nevada, Arizona and other parts of the west. The first area of improvement is to avoid counterproductive policies. For example, California State government has been sending less than positive signals to the business community in general and to our industry in particular that it does not want companies to invest in new facilities and to add new jobs. High operating and administrative costs and the challenges of complying with cost-ineffective environmental regulations have made it difficult for investments, companies and jobs to stay in the State. In addition, our industry must constantly fight back legislative proposals that would dramatically increase the cost of doing business. Permit reviews need to be streamlined. Permit streamlining and establishing policies to ensure timely processing of permits by State agencies, local air districts and regional water boards are critical components of improving business competitiveness. California Energy Commission's Integrated Energy Policy Report contains some specific recommendations for permit system streamlining. Another of the critical areas affecting permitting is the Federal New Source Review. New Source Review reforms adopted by the Federal Government but negated by the California legislature in 2003 do promote permitting and construction of critical energy projects without increasing emissions or negatively impacting the environment or local communities. Another effort that will help the situation will be to create consolidated permitting for energy projects. We strongly urge development of consolidated State-level permitting agency whose intervention could be requested by project proponents when duplicative or counterproductive regulatory requirements endanger a project. To succeed in this effort we must eliminate overlapping and conflicting regulations. Unnecessary regulatory processes that add cost without adding value environmentally should be eliminated. This can be done without sacrificing environmental standards or diminishing local control over land use decisions that affect community values. One agency could manage the permitting of many energy facilities. In fact, California Energy Commission has just launched an Order Instituting Investigation focusing on examining the causes of petroleum intrafracture development constraints. WSPA is participating in this process. Obtaining a waiver of the Federal minimum oxygenate mandate would also be very helpful. WSPA has long supported California in its effort to exempt the State from the Federal EPA's requirement that gasoline include an oxygenate. Since the removal of MTBE from California's gasoline formula, the only viable oxygenate additive is ethanol. Being forced to use ethanol entails additional costs, limits refiner flexibility and may even reduce production capacity. California's air quality agencies agree that our industry can continue to produce the cleanest gasoline on the planet without the addition of ethanol. A waiver would provide the flexibility for California refineries to produce and marketers to sell cleanest fuel available as efficiently and cost effectively as possible. What we would like is to be able to use ethanol when it is economically attractive and when market conditions support that choice. Private and public sector research into alternative fuel is also important. Our industry is working closely with California legislators to produce a bill that would help us move forward and level the playing field for new refinery and other infrastructure projects. Let me finish up here, just a couple of points to make, in California there were 33 refineries in 1985. Now there are 13. We haven't built one since 1969. Thirty-five years without a new refinery in the State. Despite that, petroleum industry in the last 20 years has met the challenge of reliably supplying our customers with all types of products despite continually growing demand and increased regulatory hurdles. I believe we can continue doing this but we really need a concerted and cooperative effort with all the parties that are involved here today. Thank you. [The prepared statement of Mr. Sparano follows:] [GRAPHIC] [TIFF OMITTED] T6091.035 [GRAPHIC] [TIFF OMITTED] T6091.036 [GRAPHIC] [TIFF OMITTED] T6091.037 [GRAPHIC] [TIFF OMITTED] T6091.038 [GRAPHIC] [TIFF OMITTED] T6091.039 Mr. Ose. Thank the gentleman for his testimony. Mr. Comey, AAA of northern California, Nevada and Utah. Welcome, sir. We've had your statement in writing, we appreciate its submittal. Please summarize in 5 minutes. Mr. Comey. Thanks. Let me start by saying that we're probably going to have to amend that chart because $2.40 may not be the top of where we go this summer. My apologies about that. AAA began tracking gas prices in the mid-1970's as a service to our members and to the public. Our survey tracks 60,000 gas stations nationwide every day and the results are released to the public and media. The price of gasoline, like few other consumer goods, seems to strike a raw nerve among consumers. No other consumer product's price is displayed so prominently in public places. When it comes to buying gasoline, many feel they have few practical alternatives. The majority of driving is not a matter of discretion. People need to drive to get to and from work, take their children to school, go shopping, and for many there are really no other realistic or convenient alternatives. For people who use a lot of fuel, like families forced to commute a long distance from their homes to their jobs in order to find affordable housing, a hike in gas prices can have a significant impact on the family budget. It can mean the difference between being able to balance their checking account at the end of the month and going deeper into debt. Or gas prices can influence their other spending decisions, forcing consumers to cut back on other purchases so they have enough money to fill their gas tanks. Unlike many consumer products, the cost of gasoline is subject to dramatic fluctuations. After reviewing the data available on gas prices over the last 3 years some patterns are apparent. Prices tend to increase in March and April. The seasonal increase in gas prices is generally attributed to the refineries switching their production over to summer-blend fuel. Supplies tend to decrease at that time as refineries use up their winter blend of gasoline before switching over to the summer blend. This year that trend began early with significant increases in February which is normally a period of the year when we expect to see relatively stable prices. During the summer we often see prices increase around the 4th of July weekend which is typically one of the biggest holidays during the year in terms of automobile travel. Prices also tend to rise in late August, early September around Labor Day weekend, another holiday with large numbers of driving vacations. This typically marks the end of the season characterized by high fuel consumption. In general, prices in the summertime tend to be higher than winter, largely due to higher demand. Generally prices tend to move up or down by less than 10 cents per month. California and Nevada, however, are susceptible to dramatic price swings when experiencing supply or distribution problems or when crude oil prices change significantly. Since 2000, here in Nevada, there have been 21 months where the price of a gallon of regular unleaded gasoline has changed by 10 cents or more. For purposes of comparison nationwide, the average price has changed by 10 cents or more only 14 times during the same period of time. So, Nevada consumers have seen far more price volatility than residents of many other States. Statewide average price per gallon in Nevada is usually among the highest in the Nation. Typically only Hawaii and California residents pay more. Right now Nevada drivers are paying about 25 cents more than the national average, 2003 was a particularly volatile year. Prices hit record highs throughout Nevada and California in late March. At that time the statewide average in Nevada was $1.97 per gallon, an increase of 29 cents per gallon from the previous month. Although that would look like kind of a bargain today. Again, analysts at the time largely attributed the situation to the rise in the price of crude oil. Crude oil hit nearly $40 per barrel in February of that year during the buildup to the war in Iraq. It was back down to about $28 a barrel by mid-April and consumer gas prices also declined between April and May as a result. In 2004 gas prices have risen significantly since the beginning of the year. Between January and May, the Statewide average price for a gallon of regular unleaded in Nevada increased by 58 cents a gallon, a jump of nearly 35 percent. Again, the high cost of crude oil seems to be the main cause of the price hike. What can we do about the problem? Any meaningful change would team to have to address both supply and demand. On the supply-side of the ledger AAA of northern California, Nevada and Utah would support plans to increase domestic production, reserves and fuel distribution in order to increase the certainty that consumers will have a reliable source of transportation energy as long as these steps could be undertaken in an environmentally responsible manner. Likewise, we would also back a reduction in dependency of oil imports, again, in an environmentally responsible manner. In terms of reducing demand we believe it is important to promote transportation energy efficiency and continue research in this area in order to provide a wide variety of fuel- efficient technologies. A wider range of options, including hybrid vehicles, would give consumers more choices when it comes to vehicle purchasing and use. We also support the elimination of the oxygenate requirement for fuel that was discussed before. We believe we can meet the requirements set by the Clean Air Act without being forced to use ethanol. Cleaner emissions could be achieved by requiring tougher performance standard rather than by insisting on a particular ingredient. To summarize, the pattern that we've seen emerging over the last few years, prices rise, consumers complain, politicians investigate, then prices go back down again, we shift the focus of our attention to other issues, and then after a period of time the cycle repeats. As George Santayana once wrote, ``Those who cannot learn from history are doomed to repeat it.'' In some respects history may serve as our guide in attempting to understand and ultimately solve this problem. At the onset of the oil embargo in the 1970's, many Americans drove a car powered by gas-guzzling V8 engine. By the end of the decade the Honda Accord, much more fuel efficient vehicle, was one of the most popular cars in the country. It wasn't because people just wanted a more fuel-efficient car. It was a car they actually wanted to buy. Technology really rose to meet the challenge of the times and perhaps it may do so again. But, based on the pattern we've seen over the last couple years it may take a more sustained period of unpleasantness such as what happened three decades ago in order to precipitate some of those changes. Unfortunately, there is no quick-fix to this situation. If there was an easy answer I suspect we would have found it a long time ago. At AAA of northern California, Nevada and Utah we believe that today's high gas prices underscore the need to keep exploring alternative fuels, step up conservation efforts, and implement a national energy policy that will meet our transportation needs without sacrificing the environment. Thank you. [The prepared statement of Mr. Comey follows:] [GRAPHIC] [TIFF OMITTED] T6091.040 [GRAPHIC] [TIFF OMITTED] T6091.041 [GRAPHIC] [TIFF OMITTED] T6091.042 [GRAPHIC] [TIFF OMITTED] T6091.043 [GRAPHIC] [TIFF OMITTED] T6091.044 [GRAPHIC] [TIFF OMITTED] T6091.045 Mr. Ose. Thank the gentleman. The next witness, president of Stillwater Associates, David Hackett. Sir, welcome. I appreciate your participation. Mr. Hackett. Thank you, Mr. Chairman. Good afternoon, ladies and gentlemen. I've been invited here today to address the issues around high gasoline prices and to specifically address the effects that government regulations, Federal, State, local, have had on the cost of gasoline. I will also make recommendations on steps that government can take to improve gasoline supply and, therefore, reduce gasoline price rises and price volatility. Stillwater Associates has been retained by a number of government agencies to study high gasoline prices. California Energy Commission we conducted studies that included creation of a strategic fuel reserve, MTBE phaseout and petroleum marine infrastructure. Our studies for the State of Hawaii have included gasoline price controls and ethanol production. Last year, Stillwater Associates provided assistance to the Department of Energy's Energy Information Administration's studies, which were requested by this committee, on California gasoline prices and the forecast for gasoline supply in New York and Connecticut. Clearly the most significant impact that government regulations have had in recent times on gasoline prices has been the oxygen mandate and then the subsequent MTBE ban. Starting in 2002, we warned that an MTBE ban would result in a reduction of gasoline supply to the region and higher prices for consumers. The additional gasoline supply needed to meet demand would have to be imported by tanker from distant refineries. Recently, Stillwater Associates calculated that the MTBE ban in California, coupled with the mandate to blend with ethanol, is costing consumers in the Pacific southwest, and that's California, Arizona, Nevada, more than $2 billion per year. In many respects today's high gasoline prices and diesel prices are the result of government policy, or lack of policy. This afternoon I'll make five specific recommendations for policymakers. These recommendations are: one, eliminate oxygenate mandate; two, cancel Unocal's patents on gasoline; three, improve local permitting processes so that necessary infrastructure can be constructed in a timely manner; four, rationalize the number of grades of gasoline that are required around the country; and, five, improve oil company reporting to appropriate government agencies. Relative to the elimination of the oxygen mandate, in 1998 refinery economics modeler MathPro, Inc., estimated the cost for local refiners to produce California cleaner burning gasoline without ethanol would be reduced by about 2 cents per gallon or $300 million per year. Today Stillwater Associates believes that elimination of the oxygen mandate will make it easier for offshore refiners to make CARB gasoline because they will not have to reject clean-burning butane and pentane from their gasoline blends. As to the patent issue, Unocal was granted patents in the mid-1990's for cleaner burning gasoline, including gasoline that qualifies under California's strict specifications. These patents have held up under legal challenge, but they are being reviewed on other grounds. We estimate that they pad the cost to consumers $150 million a year. Through our work for the California Energy Commission, we came to realize that it is difficult, expensive, and time consuming for companies to make infrastructure improvements in order to improve the manufacture and importation of oil products into this market. I've listed a couple examples here. The telling one though is with the Port of Los Angeles Mr. Keese mentioned earlier. This was a quote from the local paper. There is a company that wants to build an oil terminal on their property in the port. When asked about the issue, an official is quoted as saying, ``We don't need the addition of any more facilities of this nature whatsoever.'' Then of course over the years individual States have decided to mandate changes in gasoline composition sold in their jurisdictions to help achieve air pollution reduction goals. Many of these programs have had success from an air quality perspective but at unnecessarily high cost to gasoline consumers. Then we've got representation here on reporting. Government agencies don't collect, analyze, or publish the proper data in a timely fashion to help participants in the marketplace understand the supply and demand issues. Of course on the other side you can argue that industry makes reports to all sorts of government agencies, and so all that, that whole recording process needs to be sorted out and it comes back to the transparency that Arizona spoke about a few minutes ago, trying to understand what's going on. We've got a demand side suggestion. Experts say if motorists properly inflated their tires, they could save 6 percent on gas mileage. Assume everyone did that and reduced their gasoline demand by merely 2 percent. That would save about 180,000 barrels a day of gasoline, the equivalent production of a new refinery or the delivery of 18 tanker loads of gasoline imports every month. It is Stillwater Associates' conclusion that the root cause of high gasoline prices in this region are government regulations, including the California ban on MTBE and the continuation of the oxygenate mandate which have reduced gasoline supply. Government policies limiting gasoline supply expansion are adding to the problem. [The prepared statement of Mr. Hackett follows:] [GRAPHIC] [TIFF OMITTED] T6091.046 [GRAPHIC] [TIFF OMITTED] T6091.047 [GRAPHIC] [TIFF OMITTED] T6091.048 [GRAPHIC] [TIFF OMITTED] T6091.049 [GRAPHIC] [TIFF OMITTED] T6091.050 [GRAPHIC] [TIFF OMITTED] T6091.051 Mr. Ose. I thank the gentleman for his testimony. Our final witness on the second panel is Mr. Tyson Slocum. He is the Research Director for Public Citizen's Energy Group. Sir, we've received your testimony, welcome your participation. I Recognize you for 5 minutes to summarize. Mr. Slocum. Mr. Chairman, thank you for having me here today. Two months ago I released a report called Mergers, Manipulation and Mirages: How Oil Companies Keep Gasoline Prices High, and Why the Energy Bill Doesn't Help. And among other conclusions that I reached in the course of my research I found that recent mergers, for example, those between Exxon and Mobil, Chevron and Texaco, and Conoco and Phillips, among others have resulted in dangerous levels of concentration in the domestic oil industry, particularly in the refining sector. My research documented that in just one decade as a direct result of mergers, largest five oil refiners went from owning one-third of capacity to over one-half, and the largest 10 refiners went from owning 55 percent of refinery capacity to nearly 80 percent. It is not just Public Citizen's reaching these conclusions. Just yesterday the U.S. General Accounting Office released this report, ``Effects of Mergers and Market Concentration in the U.S. Petroleum Industry.'' Among the conclusions that this Federal agency reached was GAO's economic analyses indicate that mergers and increased market concentration generally led to higher wholesale gasoline prices in the United States. Prior to that, in March 2001, the U.S. Federal Trade Commission, which is the agency that is supposed to be enforcing antitrust laws, found that oil companies, because of their large market share, were able to unilaterally intentionally withhold gasoline supplies from the marketplace for the sole purpose of engaging in what they called profit maximization strategies, what I would call price gouging. Now, while the Federal Trade Commission found those practices were perfectly legal, now I'm not an attorney but I do know right from wrong and I think it is wrong, Mr. Chairman, that oil companies are intentionally price gouging consumers in the United States today and I think that Congress has many tools at its disposal to help address this crisis. Unfortunately, none of those tools are included in the energy bill which has been championed by many in Congress and by the current administration. That's because the current energy bill has zero chapters or portions of it that address industry consolidation. In fact, the energy bill as crafted by Congress would make matters worse by repealing the Public Utility Holding Company Act which is one of the Federal Government's most effective structural regulations over the energy industry, and if the energy bill became law, companies like ExxonMobil freed from PUHCA's restrictions would be able to acquire electric utilities, natural gas utilities, and other electric assets that are currently regulated by PUHCA. If we are experiencing damaging levels of concentration within the domestic refining sector, just imagine what would happen if PUHCA was repealed and the same companies with a stranglehold over gasoline markets were allowed to engage in that kind of behavior in our electricity and natural gas markets as well. The solutions that Public Citizen's advocates that are unfortunately not included in the energy bill would be to mandate minimum storage requirements. One of the key problems that I found and Federal investigations have found is that financial incentives exist in today's uncompetitive gasoline markets for companies to restrict capacity. The FTC clearly found that the inelasticity of some of these reformulated blend requirements in certain markets make it very easy for these companies to unilaterally withhold gasoline. If an entity is unilaterally withholding, that is clear evidence of uncompetitive market. A solution would be to have mandated storage requirements that the government could also order its release and that would take away the financial incentive of these companies to engage in these manipulative behaviors. Another option would be to launch a serious multi-agency investigation of these anticompetitive practices and possibly a comprehensive review of recent mergers that have been approved and whether or not those recent mergers have indeed resulted in these anticompetitive practices. There are other solutions as well. We could implement fuel- economy standards that would reduce our demand. The United States uses 25 percent of the world's oil and we can also improve our management of the Strategic Petroleum Reserve by ceasing filling it. We're already at 92 percent capacity. Thank you very much, Mr. Chairman. [The prepared statement of Mr. Slocum follows:] [GRAPHIC] [TIFF OMITTED] T6091.052 [GRAPHIC] [TIFF OMITTED] T6091.053 [GRAPHIC] [TIFF OMITTED] T6091.054 [GRAPHIC] [TIFF OMITTED] T6091.055 [GRAPHIC] [TIFF OMITTED] T6091.056 [GRAPHIC] [TIFF OMITTED] T6091.057 [GRAPHIC] [TIFF OMITTED] T6091.058 [GRAPHIC] [TIFF OMITTED] T6091.059 [GRAPHIC] [TIFF OMITTED] T6091.060 Mr. Ose. Thank you for joining us today. We appreciate your testimony. Gentleman from Nevada. Mr. Porter. Thank you, Mr. Chairman. I guess I have a couple questions but first, Mr. Slocum. Mr. Slocum. Yes. Mr. Porter. Regarding investigations, who else should be doing the investigations? You may have said it. I was trying to read your testimony as you were speaking, but is there some other steps we should be taking in that. Mr. Slocum. I did not mention specific agencies. I think that getting all of the various antitrust entities such as the Department of Justice involved in this review of specific mergers, and in my written testimony that I've submitted to you, sir, I go through some of the problems where the Federal Trade Commission did not place adequate conditions on the approval of mergers. They allowed these companies, for example, when you merge fully vertically integrated entities like ExxonMobil or Chevron and Texaco to merge they were allowed to retain much of their downstream assets, and that as also concluded by the General Accounting Office they have found that has directly led to overconcentration of this industry which is leading to anticompetitive practices. Mr. Porter. Thank you. Regarding travel to Las Vegas, I guess this is an AAA question, you know this weekend begins one of the most popular weekends and moving into the season of tour and travel. At what point do you think the gas prices are going to keep people home? Mr. Comey. Right now they are not detering people from traveling. We're actually predicting a more robust travel season this year than we've seen since 2001. Despite the high gas prices, people are still traveling in large numbers. How long that will continue is uncertain. Our survey suggests that some people are adjusting their travel plans, taking shorter vacations closer to home. It doesn't seem to be adversely affecting tourist-dependent economies at this point. The problem seems to be that these periods of unpleasantness with regards to high gas prices don't last long enough to really have a significant impact in terms of changing people's behavior. They kind of soldier on, they grumble at the gas pump, they go anyway. Whether or not that continues into the future is very uncertain. With global demand, particularly from China increasing, we may not have seen the end to these high prices. The short answer is we don't exactly know when it will start undercutting economies like it does in Las Vegas. At the present time it does not. Mr. Porter. Do you track also the airline industry impact or I know you're an automobile association. Mr. Comey. I read press accounts and that sort of thing, but we don't do any independent research in regard to the airline industry. The airline industry seems to be reluctant to pass along the added fuel costs for competitive reasons, but people seem to be traveling by air in larger numbers than they have in the last couple years. Mr. Porter. For the balance of the panel, what I'm asked every day is what we can do today. I know we touched upon some things with the automobile efficiency, getting it repaired, serviced, tires, 6, 7 percent savings I think, Mr. Hackett, you mentioned that. Some other things people can do today to help with the problem. I know we're looking at some long-term solutions but what about some quick short-term fixes. Any suggestions? Mr. Comey. One of the main things, the suggestions that you referenced with regard to keeping your car in proper operating order, not accelerating rapidly, driving the speed limit, those are things that people might have heard. I try to focus on things that maybe they haven't heard of. One of the biggest waste is buying higher octane fuel than you need. Fewer than 10 percent of the cars on the road actually require high octane fuel and consumers purchase between mid-grade and premium fuel up to 30 percent, that represents up to 30 percent of fuel purchases. It's less now with high prices. It's down to around 20 percent. But, if your car's manufacturer and the owner's manual does not specifically require you to use high octane fuel then you shouldn't buy it because you're just wasting your money. People often will buy premium or mid-grade fuel in belief they can enhance engine performance, increase the life span of their vehicle. It's just not the case. You're not getting any value for your money if you're overbuying on premium fuel. Tire pressure inflation I think is something that can have a big impact. For every pound of pressure that your tires are underinflated you can lose up to 2 percent of your fuel economy. A lot of people judge whether or not their tires are properly inflated based on looking at them. You can easily be off by 5 pounds and your tires would still work just fine, so that could be 10 percent of your gas mileage right there. People who are reluctant to use tire pressure gauge are probably also reluctant to change their own oil. So an easy way to get it checked is to make sure they do that when they change the oil. It is supposed to be part of the service. Sometimes they neglect to do it. Also taking stuff out of your trunk. A lot of us use our trunks as mobile storage facilities. While it doesn't have a huge impact on gas mileage it does add up over time. Could be up to an extra tank during the course of a year. If a tank of gas costs $40, $50, do you really want to buy an extra one? Those would be the suggestions that we've been giving to consumers as some way they can combat this. Also we encourage consumers to shop aggressively for lowest price on gasoline. Many of us may have chosen a gas station at one time because it had the lowest price but because prices fluctuate so much the cheapest station today could be the most expensive next week. So, what AAA encourages people to do is just pay attention to the posted prices of gasoline as they're driving throughout their normal routine. That way they know what a fair price is once they have to fill up. It doesn't make sense to drive all the way across town to save a couple pennies on gas, although I have talked to consumers who are so bent out of shape about this issue that they will do that. It does pay to find a station that offers the best value and is equally convenient to the one you normally shop at. I have told people who want to go the extra step further that if they politely discuss this with the station owner by saying, look, your prices are out of line and I normally shop here but I'm going to go to your competition, I'll keep my eye on your price if you lower it, I'll be back, this is also a way for the consumers to use their dollars to send a message. Mr. Porter. Mr. Sparano, unless you have a---- Mr. Sparano. I think Mr. Comey's comments are well taken. I think it's important for people to know that in the United States there are 160,000 service stations. In Nevada there are 1,008 as of last look. California has about 9,500. People do have a choice. It's a very competitive industry. In California, according to the Lundberg survey, 10 percent of those 9,500 stations are owned and operated, that is with salaried employees, by the major corporations, some of which were mentioned earlier. The other 90 percent are either owned or leased by independent business people who are involved in making a living, and recently we saw an e-mail that floated around challenging folks to boycott stations. That just hurts the independent owner. I think people can exercise their choice. They shouldn't drive too far as was suggested. They should do all the things that represent efficiency. But, this problem didn't start last week or last year or in 1999. It started 30 plus years ago when we stopped building refineries. We stopped building infrastructure. The U.S. production of crude went from 10 million barrels a day to 5\1/2\ million barrels a day. The use of products in this country is now 20\1/2\ million barrels a day. We import as you mentioned earlier, Congressman, almost 63 percent. Twelve and a half million barrels a day. Ten of crude, two and a half of product comes from somebody else's refineries and production fields. Those issues are important for us to focus on and they'll require longer term fixes. I think the AAA representative hit it right on the head when he talked about the kind of things that folks can do day in and day out. Mr. Porter. Mr. Hackett. Mr. Hackett. I can't add to the list. Mr. Porter. Mr. Slocum. Mr. Slocum. I would respectfully challenge the contention that inadequate refinery capacity has been built. It's true that no new refineries have been built in a little while but we've got internal company documents that were turned up by a Senator from Oregon, Senator Ron Wyden, in a recent report that discusses explicit strategies by large refiners to muscle smaller independents out of the market. For example, Castle Energy owned and operated a refinery just outside of Los Angeles called the Powerine refinery and it shut down in 1995 and at the time the CEO told the San Francisco Examiner that, ``operating as a small independent refinery in California has been very difficult because of the competition and poor refining economics.'' Now, at the same time, Senator Ron Wyden had in his possession an internal communication from the Mobil Corp., which is now part of ExxonMobil which states, ``if Powerine restarts and gets the small refiner exemption, I believe the CARB market,'' which is the California--the cleaner burning California Air Resources Board gasoline blend, ``I believe the CARB market premium will be impacted. Could be as much as 2 to 3 cents per gallon. The restart of Powerine, which results in 20,000 to 25,000 barrels per day of gasoline supply, could effectively set the CARB premium a couple of cents per gallon lower. Needless to say, we would all like to see Powerine stay down. Full court press is warranted in this one.'' That is an indication to me of some fairly aggressive tactics by larger companies using their dominance of the market to muscle smaller independents to intentionally restrict supplies so that they and not the market determine how much gasoline is available to consumers. Mr. Porter. I've got one more question. Mr. Ose. Yield for one moment? Mr. Porter. Yes. Mr. Ose. Because we have the person who actually ran the Powerine. Do you care to add to this. Mr. Sparano. Congressman, thank you. That has been misreported. I was chairman, CEO of Pacific Refining Co., an equally small independent refiner that was shut down in 1995. I can assure you after 35 years in this business that's not the way it operates. This country has lost 1.8 million barrels a day of refining capacity, not 10,000 barrels, not 180,000 which is a good size refinery. 1.8 million barrels a day since the mid-1980's. I don't know where the report came from. I do know the FTC, the EIA, the CEC, the attorney general of the State of California on repeated occasions have examined the kind of allegations that are being made by the Citizen's group and have found no wrongdoing, not just no wrongdoing, nothing illegal, no collusion, no market manipulation. So, as a head of a refining operation I will share with you that Pacific Refining in 1995 shut down because it spent 5 years and millions of dollars trying to get permits just to make CARB gasoline, not to expand, not to grow bigger, not to put someone else out of business; to make the gasoline that the State required. We had tremendous amounts of resistance, influence by government officials to not proceed with our project despite the lack of belief that we would ever accomplish our task we did in fact get the permits and the partners who happened at the time to be a Texas corporation and a foreign national oil company, Peoples Republic of China specifically, they decided they weren't having much fun in this industry and they closed down the plant. I had to personally layoff 220 people. I did examine as part of a team the Powerine refinery because one of our thoughts was if we could combine with Powerine we might be able to keep our plant open and keep all those people in business in both plants. It wasn't a very good operation. It didn't have the tools to be competitive. That's the fact. Mr. Ose. I thank the gentleman for yielding. Mr. Porter. Thank you. Close to home, again, Bakersfield, what will happen, once it's shut down, to Nevada? Mr. Sparano. Shell has made a decision to shut down that refinery. They indicated that they are in a position where valley heavy crudes have been produced for probably 100 plus years. They don't have access to the kind of heavy crudes that make that refinery economic. It's been reported that it made money in the last 4 of 6 years. People have tossed around internal documents. The refinery made, according to Shell, $14 million in a 6 year period. That's not exactly what I would call excess profits. The plant is older. It requires upgrades. It is a very difficult environment. Shell has indicated they will supply all of their contract customers with both gasoline and diesel. Where they get it is not certain. What happens in the marketplace I cannot predict whether others step in to fill the void or not. The closure of that refinery which produces 2 percent of the gasoline for the State of California and 6 percent of the diesel may or may not have an impact. It's too early to tell. I'm sure that others will have the opportunity to fill the capacity when it leaves the marketplace. Mr. Porter. Thank you. Mr. Ose. Thank you. The gentleman from Massachusetts. Mr. Tierney. Thank you very much. Mr. Sparano, I do think you'll agree these are business decisions, not building refineries. Government didn't decide to stop having refineries built. Mr. Sparano. I disagree. Mr. Tierney. Can you point me to something that said the government came out and said we're not going to---- Mr. Sparano. No, sir. It's not that---- Mr. Tierney. You want to tell me how it's all the regulations and all that, right. Mr. Sparano. No. If you were to build a new refinery today in the State of California, and you built a small one, 100,000 barrels---- Mr. Tierney. Let's talk about keeping the ones open that were open. Mr. Sparano. I'd like to answer your question. Mr. Tierney. First of all--in fact, I've been through these hearings before. I've had other members from organizations like yours that tell us how it's the environmental regulations that is shutting them down. In fact, I sat through one hearing, we haven't built a new refinery, got a new permit for new refinery since God knows when. Only to find out from the administrator for the EPA said they haven't asked for any. The fact, if you're not seeking any, you're not likely to get them. If you want to expand as you indicated was your thing and you did get your permit and then there is a business decision made to shut it down anyway, that's not the government. From 1995 to 2002, 97 percent of the more than 920,000 barrels of oil per day of capacity that have been shut down were owned by smaller independent refiners. They either decided to shut down or they were squeezed out of the market, one or the other. I can assure you that you can't come up with an instance where the government ordered them to shut down. Mr. Sparano. I think we're almost playing with the chicken and the egg here. Who produced the regulations? It is the response or lack of the ability---- Mr. Tierney. You believe the regulations made them shut down. Mr. Sparano. If you run a refinery, as I have done in my career on more than one occasion, you face a myriad of costs. They're in the millions of dollars. Those costs in large part are constituted by regulatory requirements of some sort. For example, in California---- Mr. Tierney. Some of the cost is. Mr. Sparano. I said in some respects they're made up of environmental costs. In California, between 1990 and 1995, refiners spent $5 billion. Someone said earlier that the industry doesn't reinvest its profits. $5 billion in a 5 year period, another billion to make clean diesel. Not to make extra product. To make clean diesel. Regulations exist on the local level, on the county level, on the local air and water district level, on the State level and on the Federal level and they are multilayered. They are duplicative. They are very expensive to meet. You're correct, many of the refiners that shut down in the period you described, Congressman Tierney, were as a result of people not having the money to reinvest. That's a business decision. Mr. Tierney. You say it's not having money. The profit in this industry has been phenomenal since 1997, 1998, 1999, 2001. It dipped a little in 2002 and then it went back up again. It's incredibly profitable again now. So the question is how much money is enough for these people to make a business decision to shut it down. If your profits are 50 percent higher than they were the year before, you decide it's not enough, you shut it down, it's not the government or its regulations shutting it down. Now, let me just ask Mr. Hackett for a second. You talked about filling your tires. Mr. Comey, you talked about taking things out of your trunk. The fact is about 180,000 barrels a day that are being saved if people fill their tires. Right now the President continues to buy about 107,000 barrels a day for the reserves. If he just stopped buying that for the time being because the price is up so high, what impact would that have on the market? Would it send a message to people that the White House is serious about the supply? Would it have an impact. Mr. Hackett. As near as we can tell. Major impact would be the signal it would send. Volume is not very big on an overall basis. So that physically might not have a lot of impact on the market but it certainly does send a signal. Mr. Tierney. Now, when we talk about the price at the pump is there any ability to defend that unbranded is going to be less expensive than branded supplies? Does anybody know that? Mr. Comey. Independent stations tend to be more competitive when there is a lot of supply because they buy on what's called the spot market meaning the stations that are affiliated with a large corporation get under contract the gasoline first and that price might be higher than the market price would set when supplies are good. When supplies are down, independent stations tend to be less competitive because they may be paying more on the spot market and the contracted stations that are part of the big chains may have actually a better deal. It just goes to show you that shopping around is important. The independent station that had good value last year when you decided that was your gas station might be more expensive. So, it varies depending on what the supply situation is. Mr. Tierney. Would independent refineries be more inclined to sell to the nonbranded? Mr. Comey. I'm not sure if I can answer that question. Mr. Sparano. Any independent refiners, some of those are independent refiners in that they are not associated with the bigger companies that have been mentioned but they have retail operations of their own. Both independent refiners and major refiners have segments of their production that may be sold to the independent gasoline stations. I think there is an important point that I would like to share with you about concentration of stations. Another factor about where you might find the cheapest gas and whether it's an independent station flying independent flag or independently- owned station flying someone's brand or branded station, if you have 25 service stations in a 5 square mile area you're going to have a heck of a lot of competition. They're all going to be vying for the same motorists, having to meet the same amount of volumetric demand. If you have four or five stations in that same 5 square mile area they won't be nearly as competitive. California is a wonderful example of that. Again, according to Lundberg, in Los Angeles there are almost 2,000 stations. In San Diego there are 700 and in San Francisco there is 130. That makes a big difference in terms of local pricing practices and the availability of affordable product to the local consumers. Mr. Tierney. Same would be true with refineries, if you have fewer of those then the prices will also be expected to be impacted by that. Mr. Sparano. Prices are governed by local markets. Prices are an issue of supply and demand. I can't argue with the fact that we are barely meeting the demand requirements but that's because supply is increased, as Mr. Keese said earlier, at half a percent a year and demand is currently growing this year 5 percent more than the same period last year. That's a function of people's driving habits, where they drive, how much they drive and what they drive. Mr. Tierney. You're not going to tell me the lack of refinery capacity has no impact on this. Mr. Sparano. I'm saying the lack of the ability of the refiners to construct more capacity and the restraints caused by the permit system, other local constraints and just the sheer cost of building all have influence. Mr. Tierney. Just so I get it on the record because I read to you the RAND report, Public Citizen's report talked about General Accounting Office report; we've talked about consumer reports, had testimony of Mr. Wyden's committee on this. Are you saying to me, sir, that the only reason that these places shut down, those refineries which have been extraordinary number shut down not because of business decision but it's all because of government regulation? Mr. Sparano. No, I didn't say that, nor am I saying that. Mr. Tierney. You would agree with me to some degree it's a business decision to shut these down? Mr. Sparano. I guess I would take it a step further. It's always a business decision. It's what causes the business decision to occur that's what's important. Mr. Tierney. We lost 100 or more refineries from 1980 to 1983. Over 50 from 1990 on, over 20 since 1995. We lost two- thirds of the firms engaged in refinery business in the United States from 1980 to 2000. You think the primary culprit here is regulation? Mr. Sparano. I think the overwhelming number of regulations and the cost to meet those regulations, to buy land, to keep land, to pay taxes on land all have had influence over this. There were 301 refineries in the mid-eighties. There are 149 now. I closed one of them down personally so I feel this perhaps more than---- Mr. Tierney. I think you do. Step outside that one experience for a moment. This happened about the same time all the consolidations was happening in the market. Companies are gobbling each other up. We're ending up now with five companies essentially owning half of the capacity around here. You don't think there is any possibility these companies deciding this is a good thing to decrease, especially when we have all these internal memos coming from people telling us they have strategies to decrease the amount so they can increase their prices. Mr. Sparano. I'd like to make a couple of observations. First and foremost, there have been 29 investigations in the last 20 years that have said there is nothing illegal going on. Including not just the FTC that is responsible for making determinations but the attorneys general for the States. Mr. Tierney. That's a nicety. I agree with you none of those reports have found there is collusion or other antitrust violations. What I'm saying to you is the high concentrations right now is you don't have to be a monopoly. You don't have to be violating antitrust to be able to have such a concentration in your particular region, whatever, that you can decide what you're going to do without being in fear of a competitor coming in and doing something else. Again, I go right back to the finding that the FTC made. In addition to finding that there was no antitrust violation, it specifically found that the choices by industry participants, each industry participant acted unilaterally and followed individual profit-maximization strategies, that's essentially what it did. The firm did sell off some of its RFG. Didn't sell the rest, want to buy when the price is up. Executive of the company made clear that he would rather sell less gasoline and earn a higher margin on each gallon sold than sell more gasoline and earn a lower margin. That may not be illegal but as a matter of public policy I'm not sure it's good for this country's energy needs and the things people need. I'm not trying to argue that your firm is out there breaking the law. I may be making the argument they are making business decisions for their shareholders which they believe is their obligation to do and that as public policy we may not have been doing what we can do to make sure that enough of the supply got out to where it had to be, the prices were in the range of where it should be and they had the kind of capacity on hand that is necessary. If companies are going to make those legal but tough decisions on that basis, going to shut down refineries and do things like that, maybe we ought to take a tough stand on this end. Mr. Sparano. Two important points, if I may respond, which I think there was a question in there somewhere. Mr. Tierney. There wasn't. Mr. Sparano. OK. Industry, there has been a lot of talk about companies combining. Companies have combined over the last 10, 15 years for survival. We've gotten an industry that factually, according to Business Week, last 5 years makes a nickel on the dollar. I'm not in the habit of investing for a nickel on the dollar. Mr. Tierney. Which industry are you talking about? Mr. Sparano. The petroleum industry. According to Business Week, the last 5 years, 5.2 percent, oil industry 5.3 percent. Business Week score card published quarterly. In the first quarter of 2004 petroleum industry made 6.9 percent, coal industry average 7\1/2\ percent. Business Week score card. I have it here. Mr. Tierney. I've got what Business Week said about the profit. You can go where you want to go on that. I think the profit margins here, profits down 2002 but afterwards they went up. 2000 petroleum industry reported return on equity of 25 percent. That's a nickel? Twenty-five percent. That was twice the historic average for the industry which ain't so bad and was about 50 percent more than that of other large corporations. Mr. Sparano. Which year are you talking about, sir. Mr. Tierney. Talking about 2000, 2002, 2003, 2004. Mr. Sparano. There is a point here. It's over a long period of time. This is not a one quarter or 1 year of the ultimate history of this business, the return on capital employed on refining is about a nickel. Mr. Tierney. It ain't a nickel now. Mr. Sparano. It's better at the moment, grant that, but it has been over the long haul not a particularly profitable business. That's why companies have gotten together. That's why many companies have left the business. There are no people lining up that I know of at California's borders to build new plants. Mr. Tierney. How would anybody break into a marketplace where five companies own over half of the capacity on that? Mr. Sparano. It's a great market. Mr. Tierney. We can go back and forth on this. I find it hard pressed you want to be on the record saying that they're making 50 percent more than other corporations, large corporations and they're making twice the historic average for their own industry, that there is some sort of impoverished industry. Mr. Sparano. No. 1, I didn't say that. No. 2, what I did say, the industry made 6.9 percent profit margin in the first quarter of 2004. That's not 50 percent. It's not 25 percent. Mr. Tierney. Disagree. Go ahead. Mr. Ose. I thank the gentleman. Mr. Slocum, what I get from your written statement a concern about the level of profits that the refining industry is making. As a percentage of sales what should the industry be making? Mr. Slocum. That's a good question. And I think that---- Mr. Ose. Let me add, I'm sorry, I mischaracterized the question. From your perspective what advice would you give to us if we were to mandate what the return on sales should be? Mr. Slocum. Well, I don't think that I advocate the government setting a return on sales. The primary tool that I was recommending to the committee, Mr. Chairman, was some sort of mandatory minimum storage requirements that the government could also order its release during periods of tight supply and rising crisis and that would act as a deterrent against what we are now experiencing as a financial incentive by the industry to keep supplies tight. I would not advocate that the government be in the business of telling a company how much profit it should or should not be making, nor am I saying that companies do not deserve to make a profit. Profit is what it is. I think that there are tools that the government should develop to recognize that we have uncompetitive markets, and again it isn't just Public Citizen reaching these conclusions. It's economists with the Federal Government and others who have examined the industry and seen that these mergers are having negative impact and that it is the government's duty to take some affirmative steps to protect consumers and protect the economy. Mr. Ose. As it relates to the storage issue, at what point in your thinking would the government direct the holding company, whatever company that held the petroleum product, at what point would the government order the release of that product? Mr. Slocum. When some sort of either the Department of Energy or some sort of regional committee made up of Governors or other energy officials within regions or specific States could make a recommendation to the Federal Government to release those reserves because some sort of formal assessment and conclusion had been reached that supplies were too tight and, therefore, necessitate some sort of release of storage. I clearly have not developed an enormous amount of detail on this. I think talking to other individuals who are familiar with the industry that it is one tool that may be successful in reducing prices and reducing some of the volatility that we're currently now experiencing. Mr. Ose. I was curious of the details. Clearly you've got more thought to put into that? Mr. Slocum. Yes, sir. Mr. Ose. We may give you a question to that effect. Mr. Slocum. I would be happy to answer that, Mr. Chairman. Mr. Ose. Mr. Sparano, I want to talk to you. It's my understanding California consumption right now is around 15\1/ 2\ to 16 billion gallons of gas per year. Mr. Sparano. That's correct, according to the Energy Commission. Mr. Ose. Nevada, it's about a billion gallons of gas per year. Arizona it's about 2\1/2\ billion gallons of gas per year. Do you have any information about what the refining capacity in the three States is? Mr. Sparano. Refining capacity in Arizona is zero for all intents and purposes. With all due respect to the Tonopah refinery, the capacity in Nevada is close to zero. In California, California refiners produce about 45 million gallons per day. If you put it in a refining term it's 1.1 million barrels per day of capacity of gasoline production. I think that's what you were asking, Mr. Chairman. Mr. Ose. 1.1 million? Mr. Sparano. Barrels per day of gasoline produced by California refineries. That gasoline serves California consumers, about 60 to 70 percent of Arizona. Mr. Ose. So 400 million barrels per year? 365 times 1.1? Mr. Sparano. Times 42 you get 16 billion gallons. Mr. Ose. California is imbalanced. As a percent is there a 1 percent play, is there 5 percent play? Mr. Sparano. If I may describe the way the western region works because I think it's important to not just identify this as a California issue even though the bulk of the---- Mr. Ose. I live in California. That's why I'm interested. Mr. Sparano. Me, too. California produces and transports for sale about 60 percent of Arizona's gasoline, about 100 percent certainly of southern Nevada's gasoline, about 100 percent comes from California pipelines, and then we actually send about 30 to 35 percent of Oregon's gasoline requirements. Now, when you add those up you say, well, if you use 45 million a day and you make 45 million a day and send a bunch out, it's backfilled. Washington refineries can make the California quality gasoline. We have the most stringent specifications in the world. We do get some product from there. There is some product that is imported--I think the last numbers I saw, about 100,000 barrels a day of imports into California from either a United States or foreign source. So there is a balance you can draw around the five State area: Washington, Oregon, California, Arizona and Nevada. Roughly in balance every day. I think in response to your question, there is not much of a buffer. I believe Chairman Keese touched on that earlier. Earlier this year there were a number of refineries that were undertaking planned maintenance and some of them did not startup on schedule and at the same period there were others that had some unplanned outages and as a result there were 9 or 13 experiencing some kind of problem. Set a very difficult situation in place whereby the supply in the region and nationally has been well behind last year's supply in terms of inventory gasoline. Mr. Ose. The reason I ask the question is from an operational standpoint, one of the things we discovered in our examination of electricity was that historical standards within the industry were that you had a 7\1/2\ percent spending reserve and another 7\1/2\ percent standby in the event something went down. What is the historical tradition in the refining business? Is it to always run right at maximum? Mr. Sparano. No. Refiners in the 1980's were running in the 70 percent capacity range and because of the number of plants that have shut down that capacity utilization now is year to date about 91 percent nationwide. In California, I think Chairman Keese can support this, plants have run at about 95 percent of capacity. That's essentially full because when you do that calculation it doesn't take into account the days that plants must be down every 3 or 4 years to do plant maintenance because the equipment doesn't run infinitely. It requires very costly and long-planned maintenance. Sometimes up to 2 or 3 years of planning go into creating maintenance planning. We're operating pretty much at full capacity and there is not a great deal, if any, spare capacity. Mr. Ose. You're saying there is no margin of error? Mr. Sparano. There is very little margin for error. Mr. Ose. It would seem like with no margin for error it just highlights the urgency with which we need to deal with this issue. Now, let's say we do the deal with inflation. Was it you that had inflation of tires. Mr. Hackett. (Nodded.) Mr. Ose. That adds 180,000 barrels. Mr. Hackett. Nationwide. Mr. Ose. Per day? Per year? Mr. Hackett. 180,000 barrels---- Mr. Sparano. If every driver---- Mr. Ose. It would save 180,000 barrels. Mr. Hackett. Right. Mr. Ose. Now, somebody mentioned CAFE standards. Let's say we take CAFE standards and we raise them from the current average 26 or 27 to 30? Mr. Hackett. How long do you assume it could take to turn it over---- Mr. Ose. If I'm the buyer of the vehicle it's like 14 years. You tell me. Mr. Hackett. Seven to 10 years. Mr. Ose. Seven to 10 years to turn the fleet over? Mr. Hackett. Yes. Mr. Sparano. Mr. Chairman, one of the things that have happened as CAFE standards have improved vehicle mileage efficiency enormously since the early 1980's and into the 1990's, the vehicle miles driven and the demand for the product has gone up commensurately. So, despite the fact that CAFE standards have created an improvement in vehicle efficiency, more miles are driven, more gasoline is consumed. So I'm not sure that's an absolute method to get at reducing demand and bringing thing back into balance. I'm not negative on it at all. Please don't misunderstand me. Mr. Ose. One of the things that Mr. Tierney and I and others in Congress struggle with, we have a range of choices. We can do a whole of bunch of X, a little of Y and some of Z or whatever. But I can tell you, the statistical data is very clear that as we seek to raise CAFE standards we're going to take weight out of vehicles and that's going to compromise the structural integrity of those vehicles. We are making a tradeoff in terms of an increase in number of highway fatalities. Currently we're maybe at 50,000 a year nationwide. How many more do we want? How many more can we stomach? Conversely, the tradeoffs that we make on the permitting side, I mean, if the argument is that if refining is such a profitable business, why aren't people lined up to do it because Lord knows money is cheap right now. Why aren't they lined up to do it? Why aren't they coming to the State, local, Federal permitting agencies and submitting their applications? Mr. Hackett. Some of the answer to that is the time that it takes to make the change. From my perspective--I'll agree with Mr. Sparano. For a long time refining was not a very good business to be in. Frankly, what happened is the government regulations that have constrained the supply have in fact put money in the refiners pockets. Mr. Ose. Actually, I think Mr. Tierney is correct. The government regulations have been a conscious decision on the part of the people of the United States that they want something and they've asked their elected official to pass statute and the agencies have adopted regulation to implement statute, and it may be that statute led to regulation that said New Source Reviews required or that we're going to reduce the particulate matter that comes out of the end of your tailpipe or what have you. That is a conscious decision. What I'm trying to highlight here is that we have made a series of conscious decisions that have had consequences. Mr. Hackett. Thank you, Mr. Chairman. From my perspective one of the consequences is that it's made refining profitable. Mr. Ose. At $2.50 a gallon or whatever it is. Mr. Hackett. Well, probably less than that. In our analysis it's really sort of the last few years that these things have been profitable. A good place to go look at that is as Mr. Tierney indicated check the facts, look at the stock prices of the independent refiners, the Senecas, Valeros, the Desarros and the like. You can see how their stock prices have gone up dramatically, nearly doubled in some cases over the last perhaps 18 months or so. So you can see Wall Street talks ill of refiners. Lately they've caught on and they see that these independent refiners are making money. That's probably a good place to go to validate how much money they're making. But, from my perspective what happened is the regulation-- everybody in this room is for clean air and clean water and fair prices for gasoline. Nobody will dispute that. But in order to get those clean air and clean water regulations, that's wound up reducing the amount of gasoline that refiners in the United States can make and that's a fact. So then---- Mr. Tierney. Excuse me. Mr. Hackett. Yes, sir. Mr. Tierney. Don't say that's a fact. It's an opinion. Cause and relation is your opinion. I'm going to point out once again when you blame the decline of capacity to those regulations you do away with the fact that this began, these decisions to close these things down began long before the Clean Air Act Amendments ever took effect and they continued long after. Mr. Hackett. Let me explain my opinion on a shutdown of refineries. There were 300 of them. Now there are 148. Most of that 150 or so that shut down, most of those went in the 1980's and those were primarily bonus. They were the result of government's support for refiners. Government essentially paid those guys to be in business. Once President Reagan de- controlled oil, they made a business decision to close down because they were losing money. Most of them went because of that. So then we talk about mergers. When did the merger start? Merger started in mid-1990's. I want to say--let's pick 1996 because I can't quite remember. Mr. Sparano's refinery and the Powerine refinery both shut down in 1995. I think most of these refinery shutdowns have been primarily business decisions, but I can't find a cause and relationship between mergers and refinery shutdowns. I think there are other factors there. Mr. Tierney. RAND found it, General Accounting Office found it, several other people found it. Mr. Hackett. I read the RAND report and I didn't reach that conclusion. Mr. Tierney. RAND did. Mr. Hackett. That mergers shut down refineries? Mr. Tierney. That had a lot to do with it, yeah. I read it into the record earlier twice. Mr. Ose. You were fidgeting there. I'm the chairman of fidgeting. I watch for that. Mr. Slocum. I can't remember if there was something specific I wanted to say or not. Mr. Ose. If it comes to you, share it with us. Mr. Tierney. I want to finish up with Mr. Hackett. I'll read you again from the 2003 RAND study. ``Indeed, many RAND discussants openly questioned the once-universal imperative of a refinery not going short, that is not having enough product to meet market demand. Rather than investing in and operating refineries to ensure that markets are fully supplied all the time, refiners suggested that they were focusing first on ensuring that their branded retailers are adequately supplied by curtailing sales to wholesale markets if needed. Central tactic is to allow markets to become tight by relying on existing plant and equipment to the greatest possible extent, even if that ultimately meant curtailing output of certain refined product.'' So, basically, they were trying to curtail the output of the refined product. Mr. Hackett. I understand your point. I'm not disagreeing with that. Mr. Tierney. The elimination of spare capacity generates upward pressure on prices at the pump, on and on from there. Last thing, I think the Energy Information Agency, if that's--it's report in the first quarter of this year, ``Twenty-four major energy companies reported overall net income of $13.9 billion on revenues of $198.3 billion during the first quarter of 2004. The level of net income for a quarter one of 2004 was significantly higher than in the first quarter of 2003, rising 18 percent.'' Mr. Sparano. That's 6 percent. Mr. Tierney. Overall, the petroleum line of business registered an 8 percent increase in net income between first quarter of 2003 and first quarter of 2004, as the 3 percent increase in oil and gas production net income was augmented by a 30 percent increase in refining/marketing net income. Moreover, all lines of business fared better in first quarter of 2004 relative to first quarter of 2003. Downstream petroleum operations in the United States majors rose from $2.9 billion first quarter of 2003 to $3.8 billion the first quarter of 2004. Higher U.S. gross refining margins contributed to a 41 percent increase in U.S. refining/marketing earnings from $1.8 billion in first quarter of 2003 to $2.6 billion in first quarter of 2004. Higher refining margins, despite higher fuel costs, is one of the basic reasons they cited as to why the earnings were higher. Mr. Ose. Would you like to submit that for the record? Mr. Tierney. Sure. Mr. Ose. April 2004? Mr. Tierney. January to March 2004. Mr. Ose. Actually have the April 2004 report, EIA. Mr. Sparano. Mr. Tierney, in response to your comment to Mr. Hackett about refineries closing down due to mergers. I think just to clarify that point, one of the things that has occurred to a great extent when mergers have taken place is that refineries, the FTC has chosen to force the merging parties to divest in more and more refineries and that has in fact built the independent refiner asset base. So I might characterize it more as a shift in the assets as opposed to the mergers themselves being merging of partners being forced to shut down facilities. They've shifted hands. Mr. Tierney. One big company to another big company in the instances you talked about most recently, right? Mr. Sparano. From a major to an independent. Exxon Benicia refinery was sold to an independent first. The Shell refinery in Martinez is now run by an independent. Mr. Tierney. They weren't asked to divest. In both those instances they gave up one refinery and then they passed it over to somebody else. Mr. Sparano. My point is not to argue how much. I just wanted to clarify that it's really not shutdowns. It's a shifting of ownership of those refineries. They're not shutting down. They're continuing to run. Mr. Tierney. Everybody has testified here that there has been a significant number of shutdowns. Mr. Sparano. Not because of mergers. That's the point I'm trying to make. The mergers have resulted in the FTC and certain attorney generals forcing mergers to divest at one or more plants, or in the case of where there is petroleum, in ours they divested on production on the north slope. Mr. Tierney. Once companies have merged and they close down facilities who is to say what the business reason was there. What we're saying is once they merged it was a better business decision for them, you know, to have less capacity than it was to not. That's what the internal memo says. Mr. Ose. Are we all in agreement that we have less production today than we had previously? Mr. Hackett. No. Mr. Ose. OK. Why not? Mr. Hackett. Because we can find this in the stuff we did for the California Energy Commission. If you look at gasoline production in California has been roughly constant. Mr. Ose. Two million barrels per day? Mr. Hackett. Gasoline production are around 1.1 million barrels per day. It has grown slightly. That's the refinery people talk about. Fundamentally as the smaller refiners were shutting down, the bigger refiners were spending the money to make the upgrades that they needed in order to make CARB gasoline. I can think of two shutdowns in California. One was post de-control of oil where uneconomic ones shut down because they couldn't make money without government support. The next was in the early to mid-1990's, that required like Pacific Powerine, Fletcher, Golden West, et al., shutdown because they couldn't raise the capital to make investments in order to make the new flavor of clean-burning gasoline. I can't think of one that, maybe it has, I can't think of a refinery that has been shut down post-merger in the mid 1995 timeframe. Having said all that I really don't care about that. My particular interest is coming up with more gasoline for consumers in the Pacific southwest region. Shuffling around who is running refineries only makes a difference in my view of the margin especially when we're short gasoline. The issue here is how do you get more gasoline into this market. Do you expand the refineries? Do you expand the port handling facilities? What are those things that will make a physical difference and get 1 more gallon in here to help get the price down. Mr. Ose. Is it your testimony that for whatever reason closures of refineries that have been discussed, that the production from those refineries has been replaced and we still have a constant, albeit slightly increasing level of supply in California? Mr. Hackett. Yes. Now, having said that, demand has grown faster than refinery production so that's why we're here today. Mr. Ose. All right. I want to recognize Congressman Porter. I know he has a 2 p.m. meeting with a bunch of folks that he intends on attending, so as the host I thought I would give you another round here. Mr. Porter. Thank you, Mr. Chairman. What percentage of the gas retailers are independent in Nevada, approximately? Mr. Sparano. I don't know that number for Nevada. I'm not familiar with that at all. Mr. Porter. What would they be in California, ballpark? Mr. Sparano. California, about 90 percent of the stations are either owned or leased or franchised by independent owners. Now, saying that, they may be owned by a major and leased from the major and fly the brand but 10 percent, solid figure is that in California 10 percent of the 9,500 service stations are both owned and physically operated, staffed and salaried by major companies. The other 90 are a mix of lessee dealers, true independents. I think I have the independent figure if you bear with me for a second. I believe I do have that for California, the exact independent figure according to Lundberg. It's about 30 percent I believe that are in the categories of job or distributor, non-major salary, non-major lessee and non-major opening dealers. They are all the ones that would simply have the ability to go buy their own supply and to sell it under their own brand, a flavor of that. Mr. Porter. If we were to talk about franchises, independent 90 some percent? Mr. Sparano. Yes. Mr. Porter. Had a question with status and numbers. That was in your testimony earlier? Mr. Hackett. Yes, it was. Mr. Porter. How best for us to streamline that process and who should be doing that? Mr. Hackett. Someone has to sit down and study the issue because as a practical matter it's all over the place. All kinds of government agencies using all kinds of computer systems. The first step is to--is put a little--put some resources in to understanding exactly how big this problem is and what the likely solutions are. This is the kind of computer system problem I think that companies solve all the time. Mr. Porter. Just want some consistency? Mr. Hackett. Sort of the issue here is it's very hard to know--what you really like to know is what's going on in the market. How much is really getting imported? How much is being moved from the Gulf Coast? I'll give you an example. The Corps of Engineers keeps track of port movement. Every time a boat goes in and out of a port it generates a piece of paper, electronic thing, and it goes to New Orleans. New Orleans accumulates these reports. It's part of the water boring statistics group. I'm not complaining about it, but it takes them a year to turn around the data. So if I want to know how much gasoline if I'm helping Chairman Keese understand supply and demand in California and some of that is gasoline coming from the Gulf Coast, the best data I've got is a year old because it takes water boring data center a year to turn it around. That's an example. Mr. Ose. Mr. Tierney. Mr. Tierney. In a report for the Consumer Federation of America Consumers Union talk about with oil companies merging and eliminating redundant capacity, that's their assumption that you don't agree with it, should not be surprised to find capacity is not kept up. Refining capacity has not expanded to keep up with growth and demand. Documents from the mid-1990's indicate that industry officials and corporate officers were concerned about how to reduce capacity, and obviously because as you mentioned you don't think the industry was profitable, and they made--these are direct quotes from some of the corporate documents on that. ``If the United States petroleum industry doesn't reduce its refining capacity, it will never see any substantial increase in refinery profits.'' That from a Chevron Corp. document written in November 1995. A Texaco official, in a March 1996 memorandum, said ``refinery overcapacity was the most critical factor facing the industry and was responsible for very poor refining financial results.'' Some could argue that the companies merged and some of the capacity disappeared, whatever, because to have all that capacity out there made it less profitable. If that's the case I think one of the questions for us is what's going to increase that capacity and what's going to give those companies incentive to do that. We're all agreed that the regulations, I think we all agree we want to have clean air to breathe and the environmental regulations ought not be disturbed. As I've said before, these things are going on long before the Clean Air Act got in. That's not really a viable argument. What are the incentives going to be? What is the taxpayer going to get in return? Mr. Slocum. I think that there was an interesting example that, Mr. Chairman, you made earlier when talking about reserve capacities and you were comparing the fairly significant reserve requirements in electricity markets and you were discussing how it seems in oil and gas markets it's not that big. It's interesting to note the history of electricity markets, which is actually my primary focus at Public Citizen is a heavily regulated industry up until fairly recently and the State Public Utility Commission in California mandated that utilities have those reserve requirements for good reason, and now FERC is trying to do it through standard market design, trying to have regional markets where they will require participants selling market-based power to have certain minimum reserve requirements because they recognize that market power abuses occur when you do not have that kind of excess capacity. We've seen as the California energy crisis introduced to us that even with excess capacity you can have all sorts of manipulations if your market is not adequately supervised. So, I think the question at hand here is how do we increase capacity. Well, the market by itself is not going to produce excess capacity. There are such significant barriers to entry, especially with these wave of mergers that have occurred that it's going to take some sort of government intervention in the marketplace to make it a more competitive market because competitive markets will flourish but it seems as though right now the elements are not there for successful competition and so--yes. Mr. Hackett. Let me tell you a story. The Kinder Morgan pipeline not only provides fuel up here to Las Vegas, but they also, and to Phoenix and Tucson, but they also have a large import terminal in the port of Los Angeles in the city of Carson. For at least 2 years Kinder Morgan has been trying to get permits to build two more gasoline storage tanks in their Carson storage tank terminal facility. If you've been to Carson, Carson is well refineries and storage tanks and the like. They've been working on the permits for 2 years. The reason that they've been working on the, to build these tanks is they got an oil company who is not a California oil company, a trading company, an arbitrageur, to put up the money. They guaranteed that they'll rent the tanks over a long enough period of time for Kinder Morgan to be able to get their investment back. In preparation for this meeting, talking with chairman of the staff, I got told that Kinder Morgan's permitting process has been derailed, 2 years into it, been derailed, going to be another 6, 9 months before they get the permits and they can start building the tanks which takes 6 months or so. In this particular little story here, what I observe is that here are companies willing to spend money to make the infrastructure improvements that they think will provide them with an adequate return and they're not allowed to. Mr. Ose. You're saying the investor is going to park oil in those tanks waiting for the peaks and then put it into the market? Mr. Hackett. That's the kind of business that this particular business is in. Mr. Ose. They are trying to get permits to build storage-- -- Mr. Tierney. That's the NIMBY issue. It's communities holding it up, right. Mr. Hackett. When we did our work with California Energy Commission, what we concluded was that a lot of the holdup is not inside the beltway or in Sacramento. It's the folks in the local planning communities who are making the decisions and holding these activities up. Mr. Tierney. You don't have any equivalent, is what you're saying, if FERC when it wants to put a gas pipeline in somewhere can actually do a taking and go through and there is very little local community can do about it but there is no equivalent what we're talking about here as far as for storage refinery or anything like that? Mr. Hackett. I think that is what Mr. Sparano and Chairman Keese is talking about. Mr. Tierney. Is the industry prepared for some sort of a tradeoff, some incentive to increase capacity in return for limited regulation of either profit, excess profits, plow back in mandatorily back into this thing or some regulation that requires storage as Mr. Slocum talks about and consequently being able to direct that storage out when fluctuations are in place? Mr. Hackett. Let me address that. First is price controls. We looked at price controls for Hawaii and that doesn't work. Never have worked. They generally lead to higher prices of oil prices. Depending on the market, they can lead to shortages. We saw that in the 1970's. Mr. Porter left but I remember waiting in gas lines. That was prior to price controls. Price controls are a bad idea. Second thing, fuel reserves. We thought about this a lot. In general they're bad ideas. They agreed to let us look at areas to supply. This is the stuff we've been talking about. Permitting and oxygenate mandate, etc. But given that we took the legislature's money to do a report we figured one out, and so it turns out Energy Commission decided not to put any more resources into that particular idea but I think there is some interest--we did some interesting thinking about that. But the fundamental issue here is that if the industry is not preparing enough inventory, somehow or other it's because they can't. You quoted days of supply going down. I think that's probably right. I think that's more the fact that inventories are not necessarily going down but demand is going up. And so, the denominator is getting bigger than the numerator. Get some effect there because they're not building facilities. Mr. Ose. Are you saying the numerator is fixed but the denominator is getting larger? Mr. Hackett. That's right. I have to look at the numbers to make sure we're talking apples to apples. Mr. Sparano. I think I mentioned earlier and I hope I got it across, the amount--the demand increases are running at about four times the amount of production capacity increases and that does certainly have an influence on how much inventory you can hope to keep in place while it's being sucked away by demand. Dave raises a good point. Back to one of your earlier points on what's responsible. It's very difficult for an industry that goes through years of permitting that gets stifled. You called it NIMBYism but NIMBYism uses the regulatory structure to fight projects in the neighborhood. I mean, that's the connection. I think you've got an industry that has run a pretty low return business, 5 cents on the dollar, and the reason people refine, gentlemen, is that you can't burn crude. It is a very simple, and I don't mean to be glib, it's a very simple fact that in order to take that precious supply of hydrocarbon resource and turn it into something we can put in our cars and airplanes and diesel trucks and locomotives, a huge amount of capital investment, time and effort and risk, capital risk, physical risk goes into making those products that we all use. And, it's not been a great return business, and there are people as David just described who are trying to fight their way into it and are not being allowed. Mr. Tierney. So if, if people in the local level would allow these places in you're telling me that you think companies would go out and build more refineries? Mr. Hackett. I know of several examples. Of refineries? I'm sorry. My head is in tanks and pipelines and docks. Mr. Sparano. It's an important question. It's one that we both know no one can provide a guaranty because at the end of the day if you're going to spend $2 billion to build a new one you better have good economics and certainty for your shareholders that you'll be able to build the project in the timeframe. Mr. Tierney. Set aside the regulatory issues on that, NIMBYism, whatever you want to say, we're talking about a demand that you tell me keeps going up, that it's not going to go down any time soon, and enough profit so this would be a reasonable investment for you to think they would make. So, my question is given those circumstances would you expect that the industry would go out there and do that or do you think they would keep what they have now? Mr. Sparano. I would say the environment is a lot better than it's been in the history of the planet. I don't think you can just ignore the fact that you can't just pick the quarter you like where you made money in refining but you didn't make money in production. These companies all have multi-national portfolios of assets. That whole balance is what has to be looked at. Whether or not a company would take advantage of a refining opportunity in California, I don't know. I'm not privy to their economics. The dynamics of the marketplace appear to be improving such that becomes a better idea but there is no one who can guarantee that would happen. Mr. Tierney. What if we prohibited the vertical integration? What if we didn't let refinery producers refine? Mr. Sparano. I think you probably break the model of the guy I admired, Adam Smith. I don't think that's how our country works. Mr. Tierney. It's worked that way in the past, regulation on that. Maybe that's one way to look at it as long as they're integrated in that sense, we have a problem. Maybe if you set up the refining as a separate industry then there is---- Mr. Hackett. As a student of the industry I think we've seen a lot of that. We've seen the rise of--what you've seen is the vertically integrated majors, the Shells, Exxons, et al., have sold off refining. Some of it is due to the FTC to sell off, if you couldn't merge you had to sell off refineries, and some of it is because there have been companies, Valero, you talked about Greehey, I think you quoted him, who built a big company on nothing but refinery. They've got about that much marketing and they have no crude oil whatsoever. I think you can look to the marketplace and see in fact that kind of thing has already happened and so you don't have vertically integrated mergers in refining today as you did let's say 10 years ago. Mr. Tierney. Four of the five companies are vertically integrated. Mr. Hackett. That's right. The other half aren't. Mr. Tierney. But they've got over half the market. Mr. Hackett. How much competition is enough. Mr. Tierney. Four of the top five companies are vertically integrated and they've got over half the market. Mr. Hackett. The nonvertically has the other half. Mr. Slocum. The arguments that are made today about placing some of the blame on environmental regulations to me sound unfortunately very familiar. I worked extensively on trying to expose certain elements of the California energy crisis, and during the height of the crisis it was often said that environmental restrictions were the leading contributor to the power shortages. Well, on April 8th of this year John Ashcroft held a press conference in Washington, DC announcing the criminal indictment of Reliant Energy, Houston-based company. In the remarks he made he mentioned how Reliant intentionally shut down four of its power plants. I understand I'm talking about power plants which are different from the oil industry obviously but there are some similarities in the economics. And, how Reliant intentionally shut down four power plants and publicly sent out press releases and their PR people, John Ashcroft said this on April 8th, and blamed environmental laws for the shut down of those power plants when actually it was the company's own economic strategies that led to the intentional shutdown of those plants. So, I understand it's a little different but for me from looking at the industry, from reading other academic and economic surveys of the industry, I see where there are numerous economic incentives to mandate as tight margins as possible because they are going to make far more money, and I'm just afraid that we're going to have deja vu here where we are going to blame environmental regulations. We already did that before and we turned out to be wrong. I'm just afraid of placing all the blame on environmental regulations. Sure, I think that there is some credibility to re-examine some of these reformulated blend requirements. We've got an enormous number of blends, possibly streamlining them should definitely be on the table but not without a very tough critique of the way that the oil industry conducts business today. It's been well documented that they do indeed engage in anticompetitive behavior and I don't think it's fair to place the blame solely on excessive permits or other sensible public health laws. Mr. Sparano. May I respond? That was a direct shot I believe at the industry. There are a couple of very simple things. We lost sight of something this morning. The cost of crude and the tax structure in this country create a very enormous segment of costs that is related to water refiner I guess to start with and what is transported in the market and I don't think we should lose sight of that, but that's not the real issue. Mr. Tierney. Those are constants. The taxes remain constant. Set that aside. Talking about the crude. Mr. Sparano. Crude does move up and down and it's been more and more controlled in the last several years I've been in this business by increasingly smaller group of people I think that have a pretty dominant cartel position. Mr. Tierney. Before you go, except over the last few years as crude prices go up the profit margins have also gone up more so than the crude so what we've seen has been that the company has not only taken the rise for the crude but taken the excess on top of that and that's pretty well documented. Mr. Sparano. I do not want to start us going around and around again on that. I'll stick to my original point if I might. Mr. Ose. I've got a couple questions about solutions. Mr. Sparano. You have the gavel, sir. Mr. Ose. Do you have a mortgage on your house? Mr. Sparano. I have a mortgage on my house and I live in an apartment. So I'm double blessed. Mr. Ose. Mr. Comey, do you have a mortgage? Mr. Comey. Yes. Mr. Ose. Do you have a mortgage? Mr. Hackett. Yes. Mr. Slocum. No, sir. I'm a fairly young man. Mr. Ose. I just wanted to touch on something. You suggested a cause of the electric crisis we had in California. The mortgage is a promise to pay some amount of money in the future. With all due respect to your conclusions as it relates to electric crisis which you brought up---- Mr. Slocum. Yes, sir. Mr. Ose [continuing]. The sole cause and accelerant of that whole thing was an absolute refusal by the PUC to give the right to contract for future delivery of power at reasonable prices and traceable to one single individual, the rental. It followed PUC's refusal to do that? Mr. Slocum. If I leave the doors to my apartment unlocked, does that give anyone the right to come in and take everything. Mr. Ose. If the PUC removes the carpet and the paintings and the beds and the dining room table and everything else, you're not going to have much of a place to live and that's exactly what happened. Mr. Slocum. The criminal convictions against several energy traders---- Mr. Ose. All followed from the PUC's refusal to give safe provisions for forward contracting of power purchases. It started in August 2001 when the PUC absolutely uniformly said we're not going to do it. I want to go back to my question. I couldn't pass that one up, having paid that price. I want to get your collective opinions. We have in this country different air quality regions. Each of those air quality regions has a different fuel that they've adopted to comply with the Clean Air Act. One of the things that just baffles me is, as I count, there are abouit 60 different boutique fuels, which means this refinery over here produces one kind, that refinery produces another and this one produces a third, and the product from each of these refineries goes to a different air market. Have I got it right so far. Mr. Hackett. Well, that's the simplified version. Mr. Ose. We're going to keep it simple until you expand on it. Now, this refinery goes down, it can no longer provide fuel to the air market that it otherwise is servicing and these other refineries can't either because they're all designed to provide fuel to different air markets. What would be the impact of the Federal Government saying, OK, we're going to reduce 60 to 3 or 4 as a safe harbor, we're going to say if you cook these 3 or 4 fuels so that the exhaust coming out of people's tailpipes meet our air quality requirement, you're fine. What would be the result of that? Would we have more fuel or more fungible fuel? Would we have any abatement in price. Mr. Hackett. From our perspective, vulcanization of fuel is inefficient in normal times. If a refinery, for example, and I know something about this because we're currently---- Mr. Tierney. Can we all agree it's inefficient? Just go on from there. Mr. Hackett. Where it really gets to be a problem though is when there is some kind of supply constraint. Refinery goes down, pipeline breaks, something else happens and so that market can't be resupplied with its fuel and then you get the price spikes. You saw them in Chicago, saw them in Phoenix last summer and there are other examples. So it's the harmonization of fuels is going to be probably one step in reducing those price spikes because of regional---- Mr. Ose. Do you agree with that as a former producer. Mr. Sparano. As a person who represents the industry, I think one thing you have to take into consideration is that a lot of members of the industry, not just refiners but marketers and transporters have set up their systems and spent billions of dollars. It's $100 billion since 1990 for the whole industry for all varieties of investments. They've got investments built around this 18 boutique fuel map. So, there may be some complications there. I'm guessing that there are some States like California that will insist if there are fewer boutique fuels that one and the most prominent one, that would be California's CARB fuel because it is in fact the cleanest one. So, that's an issue. I want to get to one thing that you all can do. You asked about what are solutions. There is this I think very counterproductive Federal minimum oxygenate mandate that I think you can in fact influence the EPA to grant the waivers that are requested by California and New York. I think that would go a long way toward beginning to create greater flexibility on the part of refiners, greater fungibility in the system. You can't put ethanol in at a plant. You have to build tanks at a terminal in order to put it in because it has some characteristics that make it unacceptable to transport. So, I think that's one of the big things you can do. You can also think about whether or not there is some relief EPA might grant on a plant basis for the SIPs. If I work as I've done---- Mr. Ose. You need to tell me what SIPs are. Mr. Sparano. I'm sorry. The State Implementation Plan. Each State has an air quality State implementation plan where they sign up for air quality improvements that they're going to make over a series of years. While working with the Energy Commission, we really are working hard with coming up with permit streamlining and other ways to make the system work better. We're trying to work with the air districts. In California you have local ones throughout the State, to help them come up with ways to not only get emissions out of the air but fund them. They went up often against the SIP and whether or not the emissions they take credit for are creditable against the SIP. It's something to look at, see whether or not there is a greater risk of emission reductions that might be credible again the SIP. That might promote more activity within a number of States that would both reduce emissions and allow proponents of projects to get them moving and to have a certainty of cooperation from those air districts because they all know that they all are going to get credit for that approval. Mr. Ose. Are the processes that you're referring to that might be put into new construction significantly more efficient than those that might exist in the field today otherwise? Mr. Sparano. I think with every year the efficiency of refinery operation improves. The technology is so much better. The biggest piece of that is advanced computer control. So, yes, I think new projects will almost always be more efficient than old. The processes haven't changed that much. Catalytic cracking was invented in 1941 or earlier. It's the heart of every refinery, but it is those technological advances and controls that I think you will see year after year better and better. Mr. Ose. Mr. Slocum. Mr. Slocum. Yes, Mr. Chairman. Like I said a few moments ago, I do support revisiting all of these various reformulated blend and boutique fuel requirements, and I would potentially support a streamlining of that. There is no question that those multiple requirements make it far easier for the majors to manipulate the market as the FTC has found. That said, even streamlining those environmental regulations is not going to alter the fundamental disfunction that clearly are present in the domestic industry, particularly the refining industry. The GAO is very clear it does not place the blame on boutique fuels. It places the blame on higher gasoline prices, on mergers and consolidation. And so, if we are going to examine a streamlining of these boutique fuels it should be done at the same time as an investigation and other attempts to obtain competitive domestic energy markets. Mr. Sparano. Before we put too much faith in the GAO report I would like to observe something I read in the paper today through the industry Internet. Mr. Tierney. You put more faith in the paper. Mr. Sparano. I don't believe I said that. I said I read that. Mr. Ose. Got it on the record as saying that? Mr. Sparano. The FTC has said in response to the report, which is 527 pages--I haven't read the whole thing. My little Blackberry wouldn't accept it. FTC said the report, the GAO report is flawed, quote. So there needs to be I think some examination before we run off too quickly and say that's the answer to all of our prayers. Mr. Ose. We have a little time on our hands to do that. Mr. Hackett, Mr. Comey, anything you want to add? Mr. Hackett. I think that, Mr. Tierney, you observed and Mr. Slocum's bad behavior--apparent bad behavior on (inaudible) talked about how they would act, try to shut down competitive refiner or to withhold supplies from the market and that clearly happens, no question about that. I think that these issues come back to things that government needs to do which is pay attention to this stuff but ensure there is adequate supply so that these guys got to compete. They don't get to a point where they can actually withhold stuff in the market because if they do the competitors will take their heads off. Mr. Ose. That's Governor Wall right there. Mr. Tierney. That's the issue though. How are we going to do that? Mr. Hackett. I do it from the supply side. Government works hard to ensure adequate supply. Government doesn't get in the way of Kinder Morgan and their customers spending money to import gasoline in California. Mr. Ose. Well, there is a caveat though to that. We had testimony earlier about that pipeline that went through that neighborhood where we had a disruption in the pipeline and we lost the neighborhood. Government does have a duty for safety. I don't think you're suggesting any compromise of that? Mr. Hackett. No compromise to safety whatsoever. The issue here is the process of getting this stuff done. Mr. Ose. All right. Mr. Tierney. Thank you, Mr. Chairman. Mr. Ose. Thank you for coming all this way. Mr. Tierney. Thank you, witnesses. Mr. Ose. I appreciate your testimony. If we do have additional questions, we'll send to you in writing. And we will appreciate a timely response. Again, our thanks to our host here at the convention center. Sorry he had to leave. It's been great being here. We're adjourned. [Whereupon the proceedings concluded.] [The prepared statements of Hon. Jim Gibbons and Hon. 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