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S. HRG. 109–235

GASOLINE PRICES

HEARING

BEFORE THE

COMMITTEE ON 

ENERGY AND NATURAL RESOURCES 

UNITED STATES SENATE

ONE HUNDRED NINTH CONGRESS

FIRST SESSION

TO

RECEIVE TESTIMONY ON GASOLINE PRICES AND FACTORS 

CONTRIBUTING TO CURRENT HIGH PRICES

SEPTEMBER 6, 2005

(

Printed for the use of the 

Committee on Energy and Natural Resources 

(II)

COMMITTEE ON ENERGY AND NATURAL RESOURCES 

PETE V. DOMENICI, New Mexico, Chairman 

LARRY E. CRAIG, Idaho 

CRAIG THOMAS, Wyoming 

LAMAR ALEXANDER, Tennessee 

LISA MURKOWSKI, Alaska 

RICHARD M. BURR, North Carolina, 

MEL MARTINEZ, Florida 

JAMES M. TALENT, Missouri 

CONRAD BURNS, Montana 

GEORGE ALLEN, Virginia 

GORDON SMITH, Oregon 

JIM BUNNING, Kentucky 

JEFF BINGAMAN, New Mexico 

DANIEL K. AKAKA, Hawaii 

BYRON L. DORGAN, North Dakota 

RON WYDEN, Oregon 

TIM JOHNSON, South Dakota 

MARY L. LANDRIEU, Louisiana 

DIANNE FEINSTEIN, California 

MARIA CANTWELL, Washington 

JON S. CORZINE, New Jersey 

KEN SALAZAR, Colorado

ALEX FLINT, Staff Director 

JUDITH K. PENSABENE, Chief Counsel 

BOB SIMON, Democratic Staff Director 

SAM FOWLER, Democratic Chief Counsel 

LISA EPIFANI, Counsel 

JENNIFER MICHAEL, Democratic Professional Staff Member 

(III)

C O N T E N T S 

STATEMENTS 

Page

Akaka, Hon. Daniel K., U.S. Senator from Hawaii .............................................. 4

Alexander, Hon. Lamar, U.S. Senator from Tennessee ........................................ 34

Allen, Hon. George, U.S. Senator from Virginia ................................................... 39

Bingaman, Hon. Jeff, U.S. Senator from New Mexico .......................................... 8

Bunning, Hon. Jim, U.S. Senator from Kentucky ................................................. 57

Burns, Hon. Conrad, U.S. Senator from Montana ................................................ 25

Burr, Hon. Richard M., U.S. Senator from North Carolina ................................. 62

Cantwell, Hon. Maria, U.S. Senator from Washington ........................................ 45

Caruso, Guy F., Administrator, Energy Information Administration,

Department of Energy ......................................................................................... 16

Corzine, Hon. Jon, U.S. Senator from New Jersey ............................................... 54

Craig, Hon. Larry E., U.S. Senator from Idaho .................................................... 29

Darbelnet, Robert L., President and CEO, American Automobile Association .. 87

Domenici, Hon. Pete V., U.S. Senator from New Mexico ..................................... 1

Dorgan, Hon. Byron, U.S. Senator from North Dakota ........................................ 41

Dowd, John, Senior Research Analyst, Sanford C. Bernstein and Co., LLC ...... 92

Feinstein, Hon. Dianne, U.S. Senator from California ......................................... 37

Johnson, Hon. Tim, U.S. Senator from South Dakota .......................................... 4

Landrieu, Hon. Mary L., U.S. Senator from Louisiana ........................................ 5

Martinez, Hon. Mel, U.S. Senator from Florida .................................................... 7

Murkowski, Hon. Lisa, U.S. Senator from Alaska ................................................ 43

Overdahl, James A., Ph.D., Chief Economist, U.S. Commodity Futures

Trading Commission ............................................................................................ 21

Salazar, Hon. Ken, U.S. Senator from Colorado ................................................... 49

Shipley, William S., III, Chief Executive Officer, Shipley Stores, on behalf 

of the National Association of Convenience Stores and the Society of

Independent Gasoline Marketers of America .................................................... 81

Slaughter, Bob, President, National Petrochemical and Refiners Association ... 70

Smith, Hon. Gordon, U.S. Senator from Oregon ................................................... 47

Talent, Hon. James M., U.S. Senator from Missouri ............................................ 59

Thomas, Hon. Craig, U.S. Senator from Wyoming ............................................... 52

Watson, Rebecca, Assistant Secretary of Land and Minerals Management, 

Department of the Interior .................................................................................. 10

Wyden, Hon. Ron, U.S. Senator from Oregon ....................................................... 32

APPENDIXES 

APPENDIX I 

Responses to additional questions .......................................................................... 107

APPENDIX II 

Additional material submitted for the record ........................................................ 141

(1)

GASOLINE PRICES 

TUESDAY, SEPTEMBER 6, 2005

U.S. SENATE, COMMITTEE ON ENERGY AND NATURAL RESOURCES, Washington, DC. 

The committee met, pursuant to notice, at 2:35 p.m. in room SD–

106, Dirksen Senate Office Building, Hon. Pete V. Domenici, chairman, presiding. 

OPENING STATEMENT OF HON. PETE V. DOMENICI,

U.S. SENATOR FROM NEW MEXICO 

The CHAIRMAN. The hearing will please come to order. First I 

want to thank all the Senators for coming this afternoon. Obviously, this is a rather difficult time for all of you because of our 

schedule. I do want to remind everyone, including the Senators, but 

in particular the witnesses and those here from the press and other 

interested people, that this hearing was set by myself with Senator 

Bingaman’s concurrence, substantially before Katrina. In other 

words, we were already interested in the high prices and the spikes 

in pricing and the apparent shortage of gasoline and gasoline products in the United States before Katrina. 

Now, Katrina has happened, so it is a reality about which we 

cannot decide. That is, it is not relevant to these hearings, because 

it is. It has pointed out some things we ought to know. 

But I am hopeful, Senators. While I cannot control what anybody 

says—we are Senators; this is a public forum—but I am hopeful 

that we will not spend a great deal of time talking about who is 

to blame for what in Katrina. It is up to you all. If you would like 

to, that is fine. But I think we have our plate full with areas that 

we have something to say about, and that have to do with supply 

and demand, and this region of the country might come into the 

picture from the standpoint of have we learned something about it 

versus our national supplies that could be relevant and important. 

Having said that, Senator Bingaman, first I thank you for your 

cooperation and I hope the meeting is helpful, not only to this Senator and our side, but to you and your side of the aisle. 

We all know that the devastation created by Hurricane Katrina 

is absolutely heartbreaking. Everyone here would concur that our 

thoughts and prayers are with the people of Louisiana, Alabama, 

Mississippi and Florida. Working to relieve their pain and suffering 

will be everyone around here, will be their highest priority. 

At this point in time it is not possible to know what has really 

happened there, how many people have died, and what the extent 

2

of the suffering will be. As I said, there are questions and there are 

criticisms. I hope they are left for another day. 

We announced about 2 weeks ago about the rising gasoline prices 

this year, how they have been hurting consumers across the country. Hurricane Katrina exposed the harsh reality that we have 

been skirting and skating on thin ice when it comes to this country’s energy concentration in the gulf coast. The purpose of this 

hearing is to learn more about the hurricane’s impact on our energy infrastructure and high energy prices in general. Why are the 

gasoline prices so high? Why are the oil companies making record 

profits and what are they doing with them? 

Our job is to make sure that, one, price-gouging, two, unfair 

speculation and unconscionable profiteering, does not take place 

and is not taking place, and especially that they do not take place 

as a result of the hurricane. 

As to price-gouging, there has been a great deal of concern about 

this issue, the price-gouging in the wake of Katrina. The President 

said that there should be zero tolerance for price-gouging. Congress 

should ensure that the Federal Trade Commission, which monitors 

wholesale and retail prices of gasoline, has the tools it needs to investigate allegations and support State attorney generals, who 

have primary authority over this issue. Price-gouging laws should 

be vigorously enforced at the State level. Incidentally, there are 

some 23 States that have such laws. I am sure others are looking 

at them now. 

If the U.S. Government should help in that regard, we ought to 

look at it. Everyone here should know, and our fellow Senators 

should know, we do not have jurisdiction in this area. We could not 

be the ones that amend the Federal Trade Commission. We could 

in a big bill, but we could not free-standing. It would go to another 

committee. 

But I will add, even though they are not subject to our jurisdiction, that any oil company that is price-gouging at whatever level 

will find themselves in those witness chairs, where they will be 

held accountable, if we can ascertain that such has happened. I am 

not now saying it has, but I am saying if it has and if it is, even 

though we have no jurisdiction over the law, we do have jurisdiction to bring them here and sit them in those witness chairs and 

find out what is happening. 

On the issue of speculation, we will have some serious discussion, Senator Bingaman, from an expert on that today. Many think 

that the energy prices are pushed and sustained to high levels because of speculation. We do have Dr. Overdahl, chief economist 

from the Community Futures Exchange Commission, Commodity 

Futures, with us today to talk about the role of the futures market 

and the effect of speculation on energy prices. 

Are the oil companies accumulating excess profits and large cash 

reserves? Are oil companies investing profits in production and improvement of infrastructure? Are oil companies using profits to 

help keep prices affordable? Are oil companies acting like responsible citizens? 

Now, I understand there will be much quibbling as to whether 

that is anybody’s business. But I do submit there is some concern 

and there are some questions that have to be answered. 

3

In addition to the high prices of oil and gasoline, I am also worried about the price of natural gas, propane, and butane. Any time 

we mention gasoline, we ought not forget that there are thousands 

upon thousands dependent upon the others that I have mentioned, 

and they too are having huge, huge increases. 

The forgotten commodity that will affect our economy worse than 

any others is the skyrocketing cost of natural gas. I wish we had 

some solutions there also. But it is a rather big, big problem. Many 

on this committee have been seriously worried about that. Obviously, Senator Alexander took a lead, along with Senator Johnson, 

on that whole issue of natural gas. We did some important things, 

Senators. There may be some more to do. 

On July 29, 74 Senators came together to endorse the Energy Act 

of 2005 because they know we needed a road map. I am very proud 

of that bill. A number of very important goals and objectives were 

set. Some people wanted to go further on issues. Some did not want 

to deal with certain controversial issues. I submit that we did leave 

some issues out because we wanted a bill and we could not risk a 

bill with regard to some of them. 

The things that were not politically possible 2 months ago are 

still before us and still require answers. We can either ignore them 

or we can act. We worked successfully in the energy bill on a bipartisan basis. We need to do something like that now with reference 

to the current problem regarding gasoline. 

Some goals that I think we should address are to ensure consumer protection against price-gouging, unfair speculation, and unconscionable profiteering; to encourage citizens to conserve. We understand the President has done that, but obviously that should 

occur and we should be part of that. I believe we must take another look at CAFE standards. We looked at them and they were 

an impossibility when we looked at them because of the politics of 

it. I am not sure that that should be the case, will be the case after 

Katrina. I do not know how we would address it, Senator Bingaman, if at all. 

I also want to mention that increased refinery capacity is quite 

obvious when you look at what has happened to our country. It was 

probably there when we passed our bill, and we did do some things 

to encourage additional refining capacity. But we did duck some 

very serious proposals that the House made and we might have to 

take another look at them. 

On the proliferation of boutique fuels, it is obvious that there are 

too many and they must be reduced in number because it adds significantly to the availability of gasoline. Some of the provisions that 

should go in this proposal are not in our jurisdiction and deserve 

debate. But I will mention, we debated the Outer Continental Shelf 

as a way to achieve more energy security for us, the United States, 

and opponents threatened to filibuster the bill and probably maintain the same as of today. But maybe we have to address that issue 

again and see where it really lies when we find out how dependent 

we have become on offshore drilling from just these three States. 

They produce 20 percent of the gas, natural gas, for our country. 

That is from no other State but those. Protecting the environment 

does not mean failing to protect ourselves. So I believe we must 

look at this again. 

4

I submit that there are not bills before us on this issue, but Senators here want to suggest things they have in mind, and we look 

forward to that. 

I am going to propose the following. Senator Bingaman will make 

an opening statement. We will then proceed to these three witnesses and limit their time. We have seen their testimony. Then 

we will proceed in an orderly manner with each Senator based on 

time of arrival. They will have 7 minutes each to make opening remarks and make inquiry, if that is fair. 

Senator Bingaman, would you proceed. 

[The proposed statements of Senators Akaka, Johnson, Landrieu 

and Martinez follow:]

PREPARED STATEMENT OF HON. DANIEL K. AKAKA, U.S. SENATOR FROM HAWAII

Thank you, Mr. Chairman, for scheduling this hearing on gasoline prices, supplies, and constraints. It is very timely because of the tragic events in Louisiana, 

Mississippi and Alabama, and the effects of Hurricane Katrina on production and 

refining capacity in the Gulf of Mexico. My heart goes out to all who are suffering 

through this terrible tragedy and my prayers are with the victims of the flooding 

and the storm. I look forward to hearing the views and updates from our witnesses 

today. 

When we talk about gasoline prices, it is often overlooked that the State of Hawaii 

has consistently had the highest gasoline prices in the nation. From 1995 through 

the first half of 1998, gasoline prices in Hawaii averaged more than 30 cents per 

gallon higher than U.S. mainland prices. As I have said in the past, we don’t have 

gasoline price spikes in Hawaii—we have one, long continuous spike! 

In the past, I joined some of my colleagues from the West coast, New Mexico, and 

New York, in calling for gasoline price relief through release of oil reserves from 

the Strategic Petroleum Reserve, and for OPEC to increase production. Hawaii gets 

most of its crude oil from Indonesia, not from the U.S. In 2002, more than 50 percent of Hawaii’s crude oil imports were from Indonesia. Current estimates by oil industry experts are not optimistic that OPEC can increase production enough to 

make a difference in Hawaii, since the biggest remaining oil reserves are in Saudi 

Arabia, not Indonesia. 

Gas prices have been so high above the national average for so long that the Hawaii State Legislature passed a gas price cap in 2002, which took effect last week—

September 1, 2005. The price caps would prevent Hawaii wholesalers from charging 

more than 22 cents above the five-day average spot price for regular gasoline in Los 

Angeles, San Francisco, and Portland, Oregon. Today in Honolulu, the price of regular gas is $2.94 per gallon, which is in line 

with, or even lower than, the national average this week, which was $3.04. However, outside of Honolulu, the prices are higher. In Hilo, for example, premium gaso- line is $3.35 and regular gasoline is $3.11. 

The Hawaii State Public Utility Commission (PUC) sets the caps based on wholesale prices on the mainland, not including any markups that dealers may add. Dealers usually add about 12 cents to the gallon. Caps are higher for higher grades of 

gasoline and on neighbor islands to account for added operating costs such as shipping and storage. The PUC also has the ability to adjust the caps if industry officials show that the caps will negatively affect their operations. In addition, Governor Lingle can suspend the cap if there is a major adverse impact on the economy, 

public welfare or the health and safety of people. 

I am interested in hearing the testimony of the witnesses today. I would like to 

know the effects of Hurricane Katrina on oil and gas production and how that will 

affect the economy not just on the mainland, but in Hawaii as well. I am also interested in refinery capacity and how we can safely increase refinery capacity. 

Mr. Chairman, I look forward to hearing the testimony of the distinguished witnesses today, and I have some questions for them. 

PREPARED STATEMENT OF HON. TIM JOHNSON, U.S. SENATOR FROM SOUTH DAKOTA

Thank you, Chairman Domenici and Ranking Member Bingaman, for working together to schedule this very timely hearing. The catastrophic hurricane and the 

floods and destruction wrought throughout hundreds of square miles along the gulf 

coast are more devastating than any other domestic natural disaster witnessed in 

5

our lifetimes. These are the moments when we realize we are our brother’s keeper. 

It is clear that this is a national emergency, and we must all come together to help 

our fellow Americans. In South Dakota, we know that Mother Nature can be cruel. 

We have seen crops wiped out due to hail; our landscape changed by floods; family 

farms devastated by drought; and lives lost as tornadoes swept through our prairie. 

This disaster is on a scale greater than any natural disaster in my lifetime and we 

must call the country toward the collective action required to lend comfort to the 

victims and ensure that their lives are put back into order. 

The destruction caused from Hurricane Katrina has placed acute pressure on the 

country’s energy delivery network. The destructive force of the hurricane only accelerated what had been a measured increase throughout 2003 and 2004 in gasoline 

prices. South Dakota is a good barometer for appreciating the drastic increase in 

gasoline prices. My state usually falls somewhere in the middle pack of the average 

cost of unleaded gasoline. In the last twelve months the average price for a gallon 

of regular gasoline has increased over $1.25, from $1.83 per gallon in September 

2004 to $3.09 per gallon average yesterday. 

Although today’s hearing is limited to examining oil demand and gasoline prices, 

I want Chairman Domenici to understand that high oil prices will also push natural 

gas prices higher at a time when farmers are using vast quantities of natural gas 

for drying crops, and also securing orders and contracts for delivery of fertilizers 

used in the next seasons crop. Therefore, I hope that the Chairman will move forward with additional hearings on high gasoline prices and take in a broader swath 

of witnesses and panelists testifying to the problems and searching for solutions. 

While I was traveling in South Dakota, my constituent’s pressed their concerns 

regarding record-high gasoline prices, returning to a familiar theme. Their concerns 

followed a similar tone: Oil companies are reaping record profits, but whenever gasoline prices increase, these companies continue to point toward a lack of infrastructure 

to extract, refine, and transport gasoline to the marketplace as the culprit. My constituent’s want to know what oil companies are doing with billions and billions of 

dollars in quarterly profits. Where is the investment in the infrastructure these companies keep pointing toward as the culprit for high gasoline prices? 

First Quarter profits at ExxonMobil Corporation, ConocoPhillips Inc., Royal Dutch 

Shell, and BP Amoco were all up more than 25 percent compared to the same point 

last year. ExxonMobil boosted its profits by 44 percent to $7.86 billion compared to 

2004. 

These companies must invest in the refining capacity and the infrastructure both 

upstream and downstream in order to take the pressure off of the system’s maxedout refining capacity. Absent these investments and combined with the truly eyeopening record profits, many of my constituents are left to conclude that these oil 

companies are manipulating the market, intentionally leaving infrastructure taxed in 

order to wring every last dollar from American consumers. 

Therefore, it is time to consider and act on the absence of a federal statute that 

protects consumers from price gouging. Although price gouging statues exist at the 

state level, investigations of price gouging and enforcement is often time sporadic. 

In the past, Congress has even gone so far as providing the President of the United 

States with the authority to set a cap on petroleum products. While this type of authority may not appeal to a majority of my colleagues, I would submit that we have 

an obligation to ensure that prices are not artificially set or manipulated by a tight 

collection of market participants. 

The United States consumes 20 million barrels of oil per day, yet our proven oil 

reserves have decreased by 20 percent in the last fifteen years. As demand continues to outstrip domestic production we need solutions that go past the slogans 

purporting to convince Americans we can drill our way toward self-sufficiency. Increased production is indeed a piece of the upstream production answer to more supply. However, oil companies can not sit on record profits and game the market by 

failing to make corresponding investments in the downstream refinery and pipeline 

network that delivers gasoline to consumers. 

PREPARED STATEMENT OF HON. MARY L. LANDRIEU, U.S. SENATOR FROM LOUISIANA

Over the past week, the entire country has witnessed an unprecedented catastrophe. People worldwide have seen the devastation that continues to affect the gulf 

region. Images of New Orleans completely underwater have haunted our television 

screens. The realization that many, probably thousands, have lost their lives in this 

terrible tragedy has broken the hearts of all Americans. 

In order to overcome the effects of Hurricane Katrina, the gulf coast will need the 

full support and cooperation of the federal government. I appreciate the hard work 

6

of my colleagues on the Energy Committee and their past efforts to support Louisiana’s coast. In particular, I was grateful for Senators Domenici and Bingaman for 

their leadership in including coastal impact assistance in the recent Energy Bill. 

Now, after this terrible disaster, we clearly have much more hard work ahead. 

Stabilizing, repairing and rebuilding Louisiana and the gulf coast is not only a 

paramount concern for the thousands left heartbroken and homeless, it is one of the 

largest economic challenges our country has ever faced. The damage caused to our 

energy infrastructure will affect every American and will require a concerted effort 

by the entire nation. 

Regretfully, I am unable to be in attendance at today’s hearing as I must remain 

in Louisiana to assist in the efforts to rebuild our state. However, given the timely 

nature of this hearing, I did want to offer my thoughts to the Committee regarding 

gasoline prices and the factors that are contributing to the current situation around 

the country in light of Hurricane Katrina. 

As a result of Hurricane Katrina blowing through the coastlines of Louisiana and 

Mississippi eight days ago, almost seventy percent of daily oil production in the Gulf 

of Mexico—which represents thirty percent of the nation’s oil production—and fiftyfour percent of daily gas production in the Gulf of Mexico—which is represents over 

twenty percent of the natural gas produced domestically—were offline as of Monday. 

Ten percent of the nation’s refining capacity was knocked out initially by the storm 

and at least three refineries remain completely shutdown while several others in 

Louisiana are operating at reduced rates. The Louisiana Offshore Oil Port (LOOP), 

which handles about 1 million barrels a day or 13% of this country’s foreign oil and 

is connected to more than 30% of the total refining capacity in the U.S. was initially 

shut down and still is not operating at full capacity. Port Fourchon, which is the 

geographic and economic center of deepwater production and is responsible for servicing more than sixteen percent of the nation’s oil and gas production is at about 

twenty-five percent capacity and expects to be near fifty percent by the end of the 

week. 

As both the Chairman and Ranking Member and other Members of this Committee are well aware, and what should now be clear to the rest of the country in 

the aftermath of Hurricane Katrina, Louisiana is the heart of oil and gas supply 

for the country. Consumption of oil and gas in the United States is inextricably tied 

to the production and transportation of oil and gas offshore Louisiana. 

The Outer Continental Shelf (OCS) represents more than twenty-five percent of 

our nation’s natural gas production and thirty percent of our domestic oil production. It is estimated that sixty percent of the oil and natural gas still to be discovered in U.S. will come from the OCS. In fact, the OCS supplies more to oil to the 

United States than any other country, including Saudi Arabia. Approximately 97% 

of all OCS production is in the Gulf of Mexico. In addition, an average of more than 

$5 billion in bonus bids, rents and royalties are from oil and gas production are deposited into the federal treasury each year from the OCS—$155 billion since production began. That’s the second biggest contributor of revenue to the federal treasury 

after income taxes. 80% of this production and these revenues are generated off 

Louisiana’s coastline. 

While there are a number of factors to consider and many steps to take in the 

aftermath of Hurricane Katrina, what must be of particular interest to the work of 

this Committee is the role Louisiana’s coast plays in supplying the country with its 

energy. This means recognizing not only the contributions of the past fifty years but 

also addressing any impacts to Louisiana’s coastline as it continues to host much 

of the country’s oil and gas supply well into the foreseeable future. I mention the 

future because for many of us what happened to oil and gas supply as a result of 

Katrina was not a surprise. Last year when Hurricane Ivan struck, it should have 

been a wake up call to us all. Although not a direct hit on the heart of supply in 

the Gulf of Mexico, its impact on the price and supply of oil and gas in this country 

could still be felt four months later. That situation raised the question: How many 

more hurricane seasons are we going to spend playing Russian roulette with our oil 

and gas supply? Unfortunately, we now know the answer. 

Unlike previous storms, Katrina damaged much of the onshore infrastructure that 

provides the crucial support for the offshore oil and natural gas industry in the Gulf 

of Mexico. As a result of this damage, we have had to take emergency measures 

to try and alleviate the supply of oil and gas for our country in the short run by 

loaning crude oil to refiners from the Strategic Petroleum Reserve. Also, the International Energy Agency has agreed to provide the equivalent of 2 million barrels 

per day of oil for an initial period of 30 days. Both of these actions were appropriate 

given the circumstances but might not have been completely necessary had we made 

the appropriate investments. 

7

As the Members of this Committee have heard me say time and time again, Louisiana’s coast is vanishing. Prior to Hurricane Katrina, Louisiana was losing more 

than 24 square miles of our coastal land each year. We’ve lost more than 1,900 

square miles in the past 70 years, an area the size of Rhode Island. One can only 

imagine how much Hurricane Katrina has accelerated that erosion. 

The erosion of Louisiana’s coast is of fundamental interest to all of us because 

these coastal wetlands and barrier islands are the first line of defense for protecting 

the offshore and onshore energy infrastructure in the Gulf of Mexico against the 

combined wind and water forces of a hurricane. Preserving these vital wetlands and 

the billions in energy investments they protect are vital for the continuation and 

expansion of the energy production in the Gulf of Mexico the country so desperately 

relies on every day. As Louisiana’s coastal wetlands continue to wash away, this infrastructure is more exposed to the forces of nature and storms less destructive than 

Katrina. Without energy assets like Port Fourchon, LA-1 and the 20,000 miles of 

pipeline that crisscross our state, it would literally be impossible to access the mineral resources of the OCS. 

The need to reinvest in our energy infrastructure and coastal wetlands along the 

gulf coast was already long past due. The high prices and disrupted supply we confront today as a result of Katrina’s impact have only made the situation more urgent. Louisiana’s coast is truly America’s Wetland and its continued erosion presents a clear and present danger to our national security. 

Thanks to the leadership of the Chairman and Ranking Member of this Committee and the good work of the Senate and House of Representatives, Louisiana, 

as well as other coastal producing states, will receive a significant amount of coastal 

impact assistance through the Energy Policy Act of 2005. The wisdom of that policy 

should be clear to everyone. The need to do more apparent. I call on my colleagues 

on the Committee 

PREPARED STATEMENT OF HON. MEL MARTINEZ, U.S. SENATOR FROM FLORIDA

Mr. Chairman, I want to thank you for holding this important hearing today to 

examine the cost of energy prices in the wake of the devastating destruction 

wrought by Hurricane Katrina. We in Florida felt only a small part of Katrina’s 

power before she made her way across the gulf. But as a neighbor from another hurricane-prone state, I want to share my support and my prayers for the people of 

Louisiana, Mississippi, and Alabama. I also want to recognize my colleague from 

Louisiana, Mary Landrieu for all the hard work and leadership she has shown in 

these troubling times. We share our sympathies with our friends and neighbors of 

the gulf. Our neighbors in the gulf have been so good to us in our times of need 

in dealing with devastation that has occurred during past disasters in Florida, and 

we are committed to returning that same kindness and assistance to you. The road 

to recovery will not be an easy one. But the people of America—and the people of 

Florida—are behind you and we are committed to helping you rebuild your communities and your lives. 

I have urged my fellow Floridians and I want to urge our nation to remain calm 

and avoid the hoarding of gasoline. We need to think of what our neighbors are 

going through and do our part to employ some simple conservation methods, like 

reducing unnecessary trips, encouraging carpooling, and turning down your home 

thermostats. In my state of Florida, local businesses like Publix Super Markets have 

adopted energy-saving conservation practices to reduce the amount of lighting that 

their retail stores use. Publix is the largest private employer in the state with hundreds of outlets across the southeast; this will provide significant power savings that 

will help keep our energy prices lower in Florida. I have also been heartened by the 

response our President and federal agencies have shown, including opening oil reserves from the Strategic Petroleum Reserve and granting fuel waivers to ease the 

stress on refineries. 

There is no doubt—our economy runs on energy and it may be some time before 

we return to normal. The Gulf Coast region provides more than one-fifth of our nation’s daily energy consumption. In 2004, this region supplied over 4.5 million barrels of oil per day to the American consumer. 

The disruption of oil and gas refining operations could have a serious impact on 

meeting the energy demands of our nation. It will not only affect our personal vehicles, but also jet fuel levels in several airports around the southern and southeastern United States. These shortages will be severe in one our nation’s busiest 

airports, Atlanta-Hartsfield International, as well as many major airports in Florida—most notably Orlando, Ft. Myers, and Tampa. According to an article published 

8

in USA Today on September 1st, Hurricane Katrina knocked out roughly 13 percent 

of our nation’s jet fuel distribution system. 

Without power, crude oil and petroleum products cannot be moved through pipelines. Millions were without power throughout Louisiana, Mississippi, and Alabama 

and this has had a significant affect on our refining capacity. We need to remember 

that in light of the record high gas prices, resources are on the way; but it will take 

time. According to Colonial Pipeline, it takes on average 20 days to move product 

from Louisiana to Washington D.C.; and that is without a disruption from a major 

disaster. 

However, I also think Senator Domenici raised a good question when he announced that we were going to have this hearing. We need to address whether it 

a wise decision to have such a large concentration of our oil refining capacity located 

in such a high-prone area for hurricanes? 

I have recently returned from a trip through South America, where I visited 

Brazil, Chile, Columbia, and Uruguay. Over 22 percent of Brazil’s energy production 

comes from ethanol; I think we should examine making stronger investments in 

other alternative resources. I realize we recently doubled the renewable fuel standard for ethanol production, but I am interested to hear from our panel of experts 

today on things we can do in the short term to invest in other alternative sources 

of energy. 

My last concern that I hope we can address in this hearing is the protection of 

consumers as we deal with market disruptions. In Florida, for example, our price 

gouging law is enacted once the Governor declares a state of emergency and remains in effect for 60 days. Retailers cannot sell gasoline at unscrupulous prices and 

must justify price increases based market trends of the previous 30 days. If such 

a disaster befalls our country, it might be wise to adopt some type of federal price 

gouging statute to bring some stability to the marketplace. 

I am open to your ideas—you are the experts. I am encouraged by the quick response this Committee has shown to such a critical problem facing our nation. 

America has been through a lot in the last five years. We have endured a terrorist 

attack on our soil, led a war against terrorism and tyranny in Afghanistan and Iraq, 

and now have witnessed the horrific power of disasters like Hurricane Katrina. Despite these challenges, the American people have moved forward and have come together in one spirit of cooperation and purpose. We must swiftly distribute aid and 

assistance to our friends that have been ravaged by Katrina. Our hearts go out to 

them and so does our determination to help them rebuild. We also owe it to them 

and the rest of the country, to think critically about how we manage our national 

energy infrastructure. At this critical juncture in our nation, I urge people to put 

aside their partisan agendas and let us rededicate ourselves to helping our friends 

in the gulf and meeting the needs of those impacted by this terrible tragedy.

STATEMENT OF HON. JEFF BINGAMAN, U.S. SENATOR

FROM NEW MEXICO 

Senator BINGAMAN. Thank you very much, Mr. Chairman, for 

having this hearing. You indicated to me your plan to have a hearing on high gas prices long before Katrina, and the occurrence of 

the hurricane makes the issue even more timely and one that we 

need to be addressing. 

I begin where you did, and that is by acknowledging the tremendous suffering and loss of life that our fellow citizens in the gulf 

coast area have experienced. I’m sure everyone in the room joins 

us in expressing our sympathy. Particularly I would mention that 

Senator Landrieu is not with us today because she is in her home 

State, as she has been now since the hurricane occurred, trying to 

work with her constituents to get through this terrible tragedy, and 

our sympathy goes out to her as a member of this committee. 

This human tragedy is beyond anything that we might have 

imagined and it deserves our full focus in the days and weeks 

ahead. I know there will be and should be extensive hearings about 

the failures to protect against a hurricane of this magnitude, also 

the failures to plan for the aftermath. But this hearing is focused 

9

on the high and the rising prices of gas and other petroleum products. 

The high prices we faced before Hurricane Katrina are what 

prompted the holding of the hearing and, as I indicated, the hurricane makes the issue even more timely. Hurricane Katrina significantly damaged the petroleum production and refining facilities in 

the gulf coast, Louisiana, Mississippi and Alabama. While we are 

now recovering from that damage, there are some 900,000 barrels 

per day of refining capacity that has been damaged severely 

enough that it will likely be off-line for more than a month. That 

damage has exacerbated the high prices that we are already seeing 

for gasoline, and has given impetus to this hearing. 

To understand the reasons behind the high gas prices that we 

face today, I think we need to look at several issues. The hurricane 

underscored the fact that our national energy system is particularly vulnerable to losses of refining capacity in the gulf coast area. 

We need to look at the policy issues that relate to that. 

There are some short-term issues. I think we can hear from our 

witnesses about any additional steps that Congress or the administration could be taking to address supply and demand of refined 

product in the near term. The situation also presents us with an 

opportunity to reconsider the current state of our refining industry 

and the challenges that we face in going forward. 

The energy bill that you mentioned, that we have just recently 

passed, contains two measures that I think have a bearing on the 

current situation that we have before us, and I would appreciate 

hearing from the witnesses in that regard. First, the act creates a 

new tax deduction for investments to increase refining capacity. 

That is section 1323 of the energy bill. In addition, it creates a new 

program of technical assistance at the EPA to help State and local 

government address applications for new or expanded refineries, 

and I would be interested in hearing from witnesses as to how the 

industry views those provisions, whether they are useful, whether 

they need to be added to, or what actions we ought to take. 

In addition, I believe we owe it to ourselves and our constituents 

to see if we can get the affected parties, the stakeholders involved 

with refining, around the table to put in motion an initiative to increase and diversify U.S. refining capacity. I think all of us are 

willing to work with the President and with his administration on 

trying to deal with this very important infrastructure issue. 

Let me just speak very briefly about demand, because we all 

know that price is a result both of supply and of demand. We cannot ignore demand. There are three issues that I would suggest as 

possible issues deserving our attention. The first relates to vehicle 

fuel economy. You mentioned the importance of that in your comments and I am very encouraged that this possibly is an issue that 

we could revisit. I felt very strongly that it was one of the shortcomings of the energy bill that we were not able to get the votes 

and the support necessary to address it there. 

A second step would be another issue you mentioned, which is 

encouraging the American public to take common sense measures 

to improve the efficiency with which they use energy. 

The third I believe would be encouraging the President to use his 

authority to immediately issue instructions to Federal agencies to 

10

implement fuel economy measures with regard to their own fleets 

and their own use of energy. To my mind, this would be a good example. If we in fact are calling upon the American people to conserve their use of petroleum products for the next month or 2 or 

whatever period, it would be appropriate for those of us in government to be willing to make that same kind of commitment ourselves. 

Mr. Chairman, again I thank you for the attention you have 

given to this issue in calling the witnesses and I look forward to 

hearing the testimony of the witnesses. Thank you. 

The CHAIRMAN. Thank you, Senator Bingaman. 

Senator Bingaman, on the issue of asking the President regarding the government fleet, I wonder if we might jointly ask our staff 

to prepare such a letter and we will circulate it to the members of 

the committee here and see how many want to sign it, and direct 

it to him. 

Senator BINGAMAN. Good. 

The CHAIRMAN. I forgot, Senators, in my opening remarks to say 

to each of you, thank you so much for all the attention, time, and 

hard work that you put into the energy bill. It will bear fruit. 

There are already some very positive things happening, and I hope 

we can pull together on a few more issues and then maybe we can 

say there is one good that came out of this storm. I am not sure 

we need a storm, but I am sure we need to do some things we have 

not done. Maybe this will be the impetus. 

With that, rather than starting with questions, if you do not 

mind, Senator Bingaman, I am going to go to Senators on my side. 

I will leave it up to your judgment on yours. Senator Burns—oh, 

we are going to have the witnesses. I am sorry. You are first, Senator Burns, after the witnesses. 

Let us proceed with the witnesses. The first witness will be Ms. 

Rebecca Watson, Assistant Secretary of Lands and Mineral Management of the Mineral Management Service. The second will be 

Guy Caruso, administrator of the Energy Information Administration. Thank you again. You have done an excellent job in the past 

and we appreciate your performance and your testimony. And Dr. 

James Overdahl, chief economist for the Commodity Futures Commission. 

Let us start with you. 

STATEMENT OF REBECCA WATSON, ASSISTANT SECRETARY 

OF LAND AND MINERALS MANAGEMENT, DEPARTMENT OF 

THE INTERIOR 

Ms. WATSON. Mr. Chairman and members of the committee, I appreciate the opportunity to appear here today to testify on the role 

of the Minerals Management Service and gasoline prices. I will update you on the status of offshore oil and gas production that has 

been shut in due to Hurricane Katrina. I will also provide you with 

an overview of what the Minerals Management Service is doing to 

support the safe resumption of production in the Gulf of Mexico. 

I would first like to say that it is difficult to comprehend or express the horrific impacts of Hurricane Katrina on the people in 

the Gulf of Mexico region. MMS considers itself part of the family 

of New Orleans. We have many people that live in New Orleans 

11

and all of us at the Department of the Interior extend our condolences to all of the people impacted in the States that have been 

hurt by Hurricane Katrina. 

Our focus at MMS is to ensure that offshore oil and gas operations are now brought on line safely and as soon as possible. That 

is because our role at MMS in gasoline prices is to competitively 

make available Federal offshore resources in an environmentally 

responsible manner. But oil and gas produced from the Gulf of 

Mexico Outer Continental Shelf plays a major role in supplying our 

daily energy needs, accounting for 29 percent of domestic oil production and 21 percent of domestic natural gas production. 

The map on the easel here shows that Hurricane Katrina moved 

through a core area of offshore operations. That kind of yellow 

swath there shows the whole area of the hurricane, including the 

hurricane force winds and the tropical storm winds. The red streak 

through there is the eye of the storm. At its peak on August 30, 

95 percent of daily oil production and 88 percent of daily gas production was shut in. 

Today those numbers have been reduced. Right now 58 percent 

of oil production is now shut in and 42 percent of gas production 

is shut in. This graph illustrates how every day we have brought 

the amount of oil and gas that is shut in down. By ‘‘we’’ I mean 

our partners in industry, obviously, working together to get these 

numbers back up to capacity. The numbers improve every day, but 

we are obviously not close to full capacity. But I would note that 

just between yesterday and today there was a 10 percent improvement in both oil and natural gas. 

As was to be expected, many production and exploration facilities 

sustained damage. But early reports indicate that the vast majority 

of facilities could be ready to come back on line in days and weeks, 

rather than months. However, a full assessment of the damage 

from Hurricane Katrina will require several more days as many facilities still have not yet been inspected by their operators. 

I would add there have been no reports of significant spills related to production. All safety systems worked to successfully shut 

in production on the OCS platforms. 

At the latest count, the hurricane destroyed 37 of the roughly 

4,000 OCS production platforms. However, all of those 37 platforms 

were in shallow water and they were producing relatively small 

volumes of oil and gas, cumulatively, about 1 percent of the total 

gulf production. Most of the deep water, high output facilities appear to have survived with minimal damage. 

Fifteen platforms suffered extensive damage. Here again, these 

were in shallow water and they were low production facilities. Four 

of these, however, were large, deep water platforms which account 

for about 10 percent of the pre-storm Federal offshore gulf oil production. These four platforms could take up to 3 to 6 months to 

complete repairs to be brought back on line. 

But looking at it from another perspective, that means about 90 

percent of the Gulf of Mexico production did not suffer significant 

damage offshore. But it is important to note that, unlike Hurricane 

Ivan, we did see a lot of damage onshore to very critical support 

facilities and infrastructure. Many of these facilities do not have 

electricity or communications, and they are flooded and suffering 

12

from sustained wind damage. These are important jumping-off 

points for industry workers, inspectors, and the materials and supplies that will be needed to repair offshore pipelines and platforms. 

Others are needed to move the oil and gas from the offshore to the 

ultimate consumer. The availability of these vital facilities will be 

a critical factor in the recovery of OCS production. 

MMS is working every day with industry to assess the damage 

of offshore pipelines and junction facilities that are critical for 

transporting the oil from the platform to the shore. As was the case 

for offshore platforms, it appears that some pipelines suffered significant damage, which could take several months to repair. Others 

have already been inspected and tested and appear ready to resume. Right now we are still doing underwater inspections. It is a 

little bit too early to give an estimate on the impacts to pipelines. 

But again, we are not seeing the type of damage we saw in Hurricane Ivan, where we had that mud slide that caused a lot of damage to pipelines. 

Our goal in dealing with hurricanes and tropical storms is a fourpart one: protection of workers through evacuation, protection of 

the Nation’s supply of oil and gas from long-term disruption of production, protection of the environment, and rapid initiation of our 

contingency of operations plan referred to as the COOP, so that we 

may continue our business from another location. 

Unfortunately, we had to put into place our COOP. We moved 

about 100 people already to Houston and set up a satellite office. 

We are moving more people there. We are monitoring and reporting on shut-in production and doing our damage assessments from 

Houston. We are processing permits and are prepared to expedite 

approvals for repairs to facilities in an efficient and effective manner. 

In the coming days, we will move more people there to continue 

to assist industry to bring the facilities back on line to resume normal operations. Four out of our five district offices in the gulf are 

open to conduct inspections and process permit requests. More details are in my written statement. 

Mr. Chairman, Hurricane Katrina has certainly dealt the central 

Gulf of Mexico region and its people in the oil and gas industry a 

heavy blow, but we will recover. MMS has responded by working 

with industry to assess damages, facilitate repairs, expedite critical 

business processes, and resume full production of oil and gas on the 

Outer Continental Shelf as rapidly as possible to meet the Nation’s 

energy needs. 

[The prepared statement of Ms. Watson follows:]

PREPARED STATEMENT OF REBECCA WATSON, ASSISTANT SECRETARY FOR LAND AND

MINERALS MANAGEMENT, U.S. DEPARTMENT OF THE INTERIOR

Mr. Chairman and Members of the Committee, I appreciate the opportunity to appear here today to provide you with an update on the status of offshore oil and gas 

production that has been shut in due to hurricane Katrina. I would also like to take 

this opportunity to provide you with a look at what we are doing to support the safe 

resumption of production in the Gulf of Mexico. 

It is difficult to comprehend or express the horrific impacts on the people in the 

Gulf of Mexico region. The loss of lives, livelihoods and property is mind boggling 

to say the least. Katrina, a category 4 hurricane with winds over 145 mph, will likely be recorded as the worst natural disaster in the history of the United States. 

13

Every day we are learning more about the extent of the casualties and destruction 

left in the wake of Katrina. 

As Katrina approached, those who serve at the Department of the Interior prepared for the worst. Department bureaus efficiently activated their emergency 

plans, security facilities and evacuated employees. The Minerals Management Service (MMS) implemented its Gulf of Mexico Continuity of Operations Plan (COOP) 

and moved key personnel to Houston. In the coming days, we will move more people 

and resources there to help in efforts to bring facilities back on line and resume normal operations. The Department continues to account for employees who evacuated 

the area with their families. The Department and MMS employees will continue to 

do whatever we can to help our gulf colleagues and neighbors. 

Our focus now is to ensure that the offshore oil and gas operations are brought 

on-line safely and as soon as possible. Progress is being made. On Monday, when 

the storm hit, 615 platforms and 90 drilling rigs had been evacuated. By Thursday, 

September 1, the numbers had dropped to 423 and 64, respectively. As the platforms are coming back online, so is oil production. The oil and gas produced from 

the Outer Continental Shelf (OCS) in the Gulf of Mexico plays a major role supplying our daily domestic energy needs, accounting for about 29% of domestic oil 

production and 21% of domestic gas production. While it will be several days before 

we have a more complete assessment, it appears many of the high-production facilities weathered the storm without major damage. 

LATEST PRODUCTION SHUT-IN STATISTICS

As of Thursday, September 1, MMS reported the following evacuation and production shut-in statistics based on reports from 68 companies:

Total 

Platforms Still Unmanned .............................................................................. 423

Rigs Still Unmanned ....................................................................................... 64

Oil, Barrels Per Day (BOPD) Shut-in ............................................................ 1,356,498

Gas, Billion Cubic Feet (BCF) Per Day Shut-In ........................................... 7.8

As discussed above, on Monday, when the storm hit, 615 platforms had been evacuated and so had 90 drilling rigs. By Thursday, September 1, these numbers were 

423 and 64, respectively. The difference in a week’s time is due to the platforms 

that were evacuated as a precaution but were not in the path of the storm and suffered no damage, and those platforms that were unscathed by the storm, although 

in the path, and were remanned immediately after the assessment was done. 

These evacuations are equivalent to 52% of 819 manned platforms and 48% of 137 

rigs currently operating in the Gulf of Mexico (GOM). 

As of Thursday, September 1, shut-in oil production was 1,356,498 barrels per 

day. This shut-in oil production is equivalent to 90% of the daily oil production in 

the gulf, which is currently approximately 1.5 million barrels per day. 

As of Thursday, September 1, shut-in gas production is 7.8 billion cubic feet per 

day. This shut-in gas production is equivalent to 79% of the daily gas production 

in the gulf, which is currently approximately 10 billion cubic feet per day. 

The cumulative shut-in oil production for the period 8/26/05-9/1/05 is 7,441,566 

barrels, which is equivalent to 1% of the yearly production of oil in the gulf, which 

is approximately 547 million barrels. 

The cumulative shut-in gas production 8/26/05-9/1/05 is 42 billion cubic feet, 

which is equivalent to 1% of the yearly production of gas in the gulf, which is approximately 3.65 trillion cubic feet. 

These cumulative numbers reflect updated production numbers through Thursday 

from all previous reports. 

MMS OPERATIONS

We have three overriding principles in dealing with tropical storms or hurricanes:

• evacuate the workers so there is no loss of life or injury • protect the Nation’s supply of oil and gas from long-term disruption of production • protect the environment from oil spills

We work on each of these goals in close cooperation with our partners in the U.S. 

Coast Guard and with the regulated oil and gas industry. 

Many platforms under MMS jurisdiction are designed to be manned but also designed to be evacuated for short periods of time. The oil and gas industry starts the 

evacuation of personnel far in advance of a tropical storm or hurricane. Non-essential personnel are removed from the oil platforms many days in advance starting 

with areas nearest the storm track. The rest evacuate after securing the facility. 

14

The industry relies on weather predictions from the National Oceanic and Atmospheric Administration and others. It is an immense undertaking to evacuate the 

25,000 to 30,000 people that are working offshore at any given time. Industry uses 

the huge fleet of crew boats, supply boats, and helicopters to service the evacuation 

efforts. MMS releases its 14 leased helicopters either all or in part to assist in this 

evacuation effort. 

As a standard practice, industry shuts in all oil production when they evacuate 

the platform. In some cases, natural gas production is monitored from onshore 

through what is called a Supervisory Control and Data Acquisition or SCADA system. This allows the production to be stopped remotely if necessary. 

Regarding the prevention of oil spills, the MMS has mandatory requirements for 

the use of downhole safety valves to shut off the flow of oil and gas in the event 

of a well failure. We are pleased that in the aftermath of Katrina, there have been 

no reported significant oil spills from production. If you recall, in Hurricane Ivan 

last year there were 7 platforms that were completely destroyed. These 7 platforms 

had a total of 75 oil wells. All 75 of the downhole safety valves held and no significant pollution occurred from them. Two of the wells had very minor gas leaks but 

nothing of any significance. 

The MMS requires the operators to report their production shut-in statistics and 

number of evacuated platforms and drilling rigs. This allows MMS to issue frequent 

reports on how much production is shut-in. During Hurricane Ivan last summer, the 

very significant amount of production shut-in (83 percent of oil production and 53 

percent of natural gas production at the peak) was quickly and dramatically reduced 

to only that production that involved damaged facilities—either platforms or pipelines. 

The third area with which we are concerned is protecting the Nation’s supply of 

oil and gas from long-term disruption. MMS deals with this issue principally in two 

ways. We incorporate into our regulations tough design standards for fixed and 

floating production facilities. These standards outline the acceptable wind strength, 

wave height, and other environmental conditions. Current design standards require 

industry to design facilities to Category 5 storm criteria. MMS also requires annual 

above-water structural inspections of all OCS platforms and periodic underwater 

structural surveys. We established these requirements to minimize the potential for 

platform damage from serious storm events. 

Another area we focus on is facilitating the repairs to facilities in an efficient and 

expedited manner. Hurricane operations plans provide guidance to operators on how 

to ensure the integrity of all systems, from visible production equipment on the platform to the thousands of miles of pipeline that rest on the seafloor. Any damage 

to facilities is identified and necessary repairs completed before systems resume production. As I will note later in this testimony, we are taking steps to ensure that 

MMS resources are available to review company plans to bring production back on 

line. 

Following major hurricanes, we make a systematic effort to identify lessons 

learned and take steps to prepare for future hurricane seasons. Following Hurricane 

Ivan, we focused on five principal areas: 

First, MMS concluded that the basic design standards for deep water floating production systems seem adequate. We had no floating production facility failures. 

Second, MMS saw that some drilling units installed on the floating production 

platforms moved on their supports and caused damage. In consultation with MMS, 

industry has tightened the bolting mechanism and strengthened the clamps that secure these drilling packages on the floating platforms. 

Third, MMS issued a new reporting requirement for the 2005 hurricane season—

NTL 2005 G-6. This requires industry to submit statistics to the MMS Gulf of Mexico Region (GOMR) regarding evacuation of personnel and curtailment of production 

because of hurricanes, tropical storms, or other natural disasters. Operators must 

include both those platforms and drilling rigs that are evacuated and those that 

they anticipate will be evacuated. Evacuation is defined as the removal of any personnel (both essential and non-essential) from a platform or drilling rig. In addition, 

operators submit a report regarding facilities remaining shut-in. This report includes basic platform information, prior production information, estimated time to 

resumption of operations and the reason for shut-in (facility damage or transportation system damage). Operators must notify the MMS GOMR when production is 

resumed. 

Fourth, MMS issued contracts for six new engineering and technical studies to 

look closely at the damage caused by Hurricane Ivan and what design or operational 

changes may need to be made. 

15

Fifth, MMS consulted heavily with industry experts and in July jointly sponsored 

with the American Petroleum Institute a conference in Houston, Texas, on offshore 

hurricane readiness and recovery to more fully discuss these issues. 

We will conduct similar reviews and assessments of facility performance and impacts from Hurricane Katrina to identify any additional steps that need to be taken. 

A full assessment following hurricane Katrina will require several more days and 

will require an integrated view of production and drilling facilities, ports, electricity, 

availability of repair equipment, availability of workers, and potentially other factors. Crew began to re-board platforms by Wednesday last week. 

As to be expected, many production and exploration facilities sustained significant 

damage, but early reports indicate that many facilities could come back on line in 

days and weeks rather than months. Many of the deep water high output facilities 

appear to have survived with minimal damage. 

A different scenario is playing out in the aftermath of Katrina that was not part 

of previous storm recovery events. The infrastructure of many onshore support facilities sustained damage from hurricane Katrina. These facilities provide vital support for the offshore oil and natural gas industry. However, many do not have electricity, are inundated with water, and sustained damage from hurricane winds. 

These support facilities are important jumping off points for industry workers and 

MMS inspectors to conduct pipeline and structure repairs and their availability will 

be a key factor in getting production online and onshore. 

MMS STAFF AND COOP OPERATIONS

• MMS implemented its Gulf of Mexico Region COOP (Continuity of Operations 

Plan). Key personnel and operations are up and running in Houston. 

• As part of the COOP, MMS established communication channels providing staff 

critical information through call-in lines and internet. 

• MMS provided two weeks administrative leave for all non-essential personnel 

who have been affected by Katrina and were not called to Houston or any other 

MMS office. 

• MMS coordinated with the energy operators to address mutual needs for helicopters to perform fly over inspections. 

• The MMS district offices have performed fly-overs of key facilities in the hurricanes path to perform independent assessments as to potential damage. 

• Four of Five districts in GOM region are up and running. The GOM regional 

operations, relocated in Houston, are providing advice to companies on their 

plans to bring production back on line.

MMS is coordinating with the Coast Guard as a contingency for oil spill response. 

CONCLUSION

Mr. Chairman, Hurricane Katrina has certainly dealt the Central Gulf of Mexico 

region, its people and the industry a very heavy blow. The Department has begun 

to put its people and resources in place to assist in responding to this tragic event. 

Progress is being made. The MMS Continuity of Operations Plan is in place and 

is working. Under this plan, we will work with industry to assess damages, facilitate repairs and resume full production of oil and gas on the Federal OCS—all in 

a manner to ensure the safety of personnel, integrity of the offshore infrastructure, 

and protection of the marine environment. 

Based on our experience with Hurricane Ivan, production from undamaged facilities will be back on line in a matter of days, but it will take some time, weeks or 

even months before we are back up to 100%. We stand ready to meet the challenge 

before us. We will continue to keep Congress, the public and the media informed 

of the progress of these operations.

The CHAIRMAN. Thank you very much. Your full statement will 

be made a part of the record. We greatly appreciate not only your 

testimony but your professional way in which you represent this 

Department. 

Ms. WATSON. Thank you, sir. 

The CHAIRMAN. Mr. Caruso, you are next. Your full statement 

will be made a part of the record. 

16

STATEMENT OF GUY F. CARUSO, ADMINISTRATOR, ENERGY 

INFORMATION ADMINISTRATION, DEPARTMENT OF ENERGY 

Mr. CARUSO. Thank you very much, Mr. Chairman and members 

of the committee, for once again asking the Energy Information Administration to present our view of oil and natural gas markets, in 

particular with the impact of Hurricane Katrina. As both you and 

Senator Bingaman mentioned, even before this tragedy the crude 

oil and natural gas markets were extremely tight. On August 29, 

gasoline prices on the national average were $2.61 a gallon. 

The CHAIRMAN. Mr. Caruso, would you tell the public who you 

are, what you do, and where you get your money and authority, 

your resources and authority? 

Mr. CARUSO. Sure. My name is Guy Caruso. I am the administrator of the Energy Information Administration and all of our 

budget comes as part of the Federal budget. 

The CHAIRMAN. What are you charged with? What is your responsibility? 

Mr. CARUSO. Our responsibility is to find, collect, disseminate, 

and analyze all the energy information for the United States. 

The CHAIRMAN. Thank you very much. 

Mr. CARUSO. Even before this tragedy, markets were tight. Gasoline prices were high, diesel prices were high, natural gas prices 

have been high. That was largely because over this same period 

world demand had been growing rapidly, refineries were being 

stretched very thin, not only in the United States but worldwide. 

We had already been beginning to see tightness in both gasoline 

and diesel markets. 

Katrina’s destruction has put further upward pressure on oil and 

natural gas prices. As Secretary Watson has just detailed, a significant amount of gulf production—both oil and natural gas are shut 

down—is now well on its way to being brought back on line, which 

is I think extremely good news. 

In addition, about 1.8 million barrels a day of refinery capacity 

in the Gulf of Mexico region was taken off line by the hurricane. 

Over half of this is already back on line now or will be in the next 

week or so, which again is good news. 

Pipeline damage was initially thought to be severe, with estimates of long repair times. In fact now all three major pipelines—

Colonial, Plantation, and Capline, the former two product and the 

last being crude—have been restored and are returned to full or 

very near full capacity as we speak today. 

Gasoline supply, however, particularly in the Southeast, remains 

constrained. We expect that it will remain that way for the next 

several weeks before being fully restored. 

The entire system, as Secretary Watson has indicated, is interconnected and highly dependent on the electricity supply for its recovery. Fortunately, electricity is steadily being restored. 

On the price side, crude prices rose early last week, but already 

by the end of the week they were coming down, and as of noon 

today on the NYMEX crude oil was $66 a barrel, which is what it 

was the Friday before the hurricane. Later today, EIA will be releasing our estimate of gasoline and diesel prices for the week ending September 2, and we expect this national average to be much 

17

higher than the $2.61 that I mentioned, most likely above $3 per 

gallon as of today. 

The near-term outlook for oil and natural gas markets will depend on a number of factors, including the pace of recovery in the 

gulf and other actions, such as the loan of crude oil from the Strategic Petroleum Reserve, the offer of SPR oil for sale, and releases 

of government-controlled product stocks from other industrialized 

countries that are members of the International Energy Agency. 

Other actions include the temporary waiver of the Jones Act to 

facilitate shipments between U.S. ports. All of these should assist 

in alleviating the market pressure. There has also been a nationwide waiver on requirements of summer gasoline and for low sulfur 

diesel, which should also increase the flexibility of the distribution 

system. 

There are a significant number of tankers which we believe will 

deliver refined product, particularly gasoline, from Europe over the 

next 2 or 3 weeks, and that again should add supply and liquidity 

to market and we believe put downward pressure on gasoline 

prices. 

Fortunately for natural gas markets, we are in the shoulder season between high demand for air conditioning and before the heating season. So that gives time for restoration of the offshore production, as we are seeing in the gulf, as well as other facilities that 

are onshore, such as natural gas processing centers and pipelines. 

Tomorrow EIA will release its short-term energy outlook and, although our analysis is still preliminary, we assume that these actions that I have mentioned will help offset some of the price impact of Katrina. The WTI crude oil price averaged $65 per barrel 

in August. We anticipate that during the third quarter—going 

through December—an average of about—I am sorry, the third 

quarter, September, August, and July—will average about $65, and 

we expect that will actually come down a bit in the fourth quarter. 

Under the medium recovery case, we expect gasoline prices to 

begin to ease off in the coming weeks and to average about $2.60 

per gallon for the third quarter of 2005 and $2.40 for 2006. With 

normal weather, heating oil prices will still be much higher this 

year, averaging about 30 percent higher than last winter. 

The natural gas market is likely to stay tight over the next couple of months as the heating season causes increased demand. In 

our medium recovery case, the Henry Hub natural gas spot price 

is expected to average about $11.50 per thousand cubic feet in the 

fourth quarter, but decline in 2006. Natural gas storage remains 

above the 5-year average, but higher prices are supported by high 

world oil prices, continued economic growth, and the effects of Hurricane Katrina. 

Obviously, economic growth changes and weather deviations 

from normal could make this picture either better or worse, but the 

full report will be issued, as I mentioned, tomorrow, Mr. Chairman. 

That concludes my statement and I would be happy to answer 

questions as you so deem necessary. 

[The prepared statement of Mr. Caruso follows:]

18

* Figures 1-4 have been retained in committee files. 

PREPARED STATEMENT OF GUY F. CARUSO, ADMINISTRATOR,

ENERGY INFORMATION ADMINISTRATION

Mr. Chairman and Members of the Committee: I appreciate the opportunity to appear before you today to discuss gasoline prices in the United States and recent developments in world oil markets. 

The Energy Information Administration (EIA) is the independent statistical and 

analytical agency within the Department of Energy. We are charged with providing 

objective, timely, and relevant data, analysis, and projections for the Department of 

Energy, other government agencies, the U.S. Congress, and the public. We do not 

take positions on policy issues, but we do produce data and analysis reports that 

are meant to assist policymakers determine energy policy. Because the Department 

of Energy Organization Act gives EIA an element of independence with respect to 

the analyses that we conduct and publish, our views should not be construed as representing those of the Department of Energy or the Administration. 

The devastation of Hurricane Katrina included offshore production, refineries, and 

loss of power to run pipelines and otherwise-working refineries. Damage assessments are ongoing but still incomplete. With the current tight global petroleum 

market, gasoline and distillate prices have risen sharply. How far and how long they 

remain elevated will depend on the severity of damage to petroleum facilities. Our 

understanding of the situation is rapidly evolving, and I will discuss this in my oral 

remarks. This written testimony focuses on events prior to the hurricane and challenges to gasoline markets following the recovery. 

Even prior to Hurricane Katrina, petroleum prices, including gasoline, were setting new records as crude oil prices climbed. Gasoline prices as of August 29 were 

$2.61, which was 73 cents per gallon higher than a year ago, and, on average for 

the month, were 58 cents per gallon higher. Yesterday’s prices, which will be released late this afternoon, will undoubtedly be much higher given the significant 

disruptions experienced due to Hurricane Katrina. A consumer who drives about 

1,000 miles per month in a car that gets about 20 miles per gallon paid almost $30 

more for that car’s fuel during August this year than last August. Businesses and 

government budgets are also affected, as it costs more to fill their vehicle fleets. 

The remainder of this testimony describes the fundamentals affecting petroleum 

prices, focusing on crude oil and gasoline. The underlying market situation today, 

even before Katrina, is one in which the spare crude oil production, refinery, and 

tanker capacities that existed for more than a decade prior to 2003 were reduced 

more quickly than EIA or other analysts anticipated. Little spare capacity, both upstream and downstream, not only supports higher prices, but they also add to price 

volatility, since any upset to supply/demand balances regionally cannot be resolved 

quickly. Restoring spare capacity will not be easy or rapid, because an increase in 

capacity takes time and investment, and growing demand will require capacity increases just to maintain current cushions, which suggests that high prices and potential volatility will be with us for some time. 

Changes in the gasoline price at the pump are driven mainly by changes in crude 

oil prices and changes in wholesale gasoline prices. Crude oil cost represented nearly 60 percent of the gasoline price this summer and explains much of the variation 

in gasoline price. Crude oil prices are driven and set by international markets. The 

wholesale price of gasoline or its spot price is influenced first by crude oil but also 

by seasonal demand variations and by regional refinery and distribution supply and 

demand balances. Retail price changes generally lag behind wholesale price 

changes. 

INTERNATIONAL CRUDE OIL MARKETS

Turning to crude oil prices first, Figure 1* shows that the current crude price increase began in 2004, when crude oil prices almost doubled from 2003 levels, rising 

from about $30 per barrel at the end of 2003 to peak at $56.37 on October 26, 2004. 

After falling back briefly, prices then continued to rise in 2005. 

This is a significant change from what we experienced during much of the 1980s 

and 1990s. For most of the time since the early 1980s, we have lived in a market 

in which spare crude oil production, refining, and delivery system capacity existed. 

Crude oil suppliers outside of the Organization of Petroleum Exporting Countries 

(OPEC) produce at maximum rates (i.e., no surplus production capacity) for economic reasons, thus, the world’s surplus crude oil production capacity resides in 

OPEC (mainly Saudi Arabia). The large growth in non-OPEC capacity and production in areas like the North Sea and Alaskan North Slope, along with softening deVerDate 0ct 09 2002 09:40 Jan 26, 2006 Jkt 109235 PO 25575 Frm 00022 Fmt 6633 Sfmt 6621 P:\DOCS\25575.TXT SENERGY2 PsN: PAULM
19

mand from high prices, led to major cuts in OPEC production in the 1980s, creating 

large capacity surpluses. As demand grew through the 1990s, OPEC production increased, but new productive capacity was not added. Short-term imbalances between 

supply and demand occurred and we experienced some price swings, but those imbalances did not last long, as capacity generally existed to remedy the situation 

within a year. 

During most of the 1990s, the West Texas Intermediate (WTI) crude oil price 

averaged close to $20 per barrel, but plunged to almost $10 per barrel in late 1998 

as a result of the Asian financial crisis slowing demand growth, at the same time 

as extra supply from Iraq was entering the market for the first time since the gulf 

War. OPEC producers reacted by reducing production, and crude oil prices not only 

recovered, but increased to about $30 per barrel as demand grew in the face of 

OPEC production discipline. 

Beginning in 2004, world oil demand growth accelerated significantly. For the 10 

years prior to 2004, world oil demand growth had averaged 1.2 million barrels per 

day. But in 2004, world demand jumped by 2.6 million barrels per day, led by an 

unprecedented increase in demand from China of about 1 million barrels per day, 

compared to that country’s increase of 0.4 million barrels from 2002 to 2003. This 

unusually rapid demand growth along with growth in the United States and the 

rest of the world, quickly used up much of OPEC’s available surplus crude oil production capacity (Figure 2). As the world balance between supply and demand tightened considerably, ongoing supply uncertainties associated with Russia, Iraq, and 

Nigeria added to market concerns over the availability of crude oil, and prices rose. 

In 2005, Iran, Ecuador, and Venezuela added new uncertainties. 

Global oil demand is expected to grow more slowly during 2005 and 2006, increasing by about 1.7 to 1.8 million barrels per day. China’s demand is projected to increase by 0.5 million barrels per day and U.S. demand by 0.4 million barrels per 

day in 2006. Together, these two areas are projected to account for about 50 percent 

of the world’s petroleum demand growth next year. 

Crude oil production capacity increases are expected to keep up with these demand increases. Production increases from OPEC members are projected to represent almost one-third of the world production growth next year, and the former 

Soviet Union is expected to provide an additional 40 percent of the increase. Other 

areas such as the United States and other non-OPEC countries will provide additional production volumes. However, EIA is not projecting much increase in the surplus capacity cushion any time soon. Spare capacity is projected to remain at or 

below 1.2 million barrels per day in 2005. 

We are facing tight crude oil markets for a number of years. EIA’s Short-Term 

Energy Outlook is projecting WTI crude oil prices to remain above $55 through 

2006. Even if demand softens or capacity is developed faster than anticipated, statements from OPEC members indicate an intention to keep prices from falling below 

$50 per barrel. While high relative to recent years, the price of crude oil, adjusted 

for inflation, is still below the levels seen in the early 1980s. 

This tight balance results in different behavior and price implications than exhibited by the short-term market imbalances seen for the past 20 years. Instead of high 

prices being accompanied by low inventories and expectations for prices to be falling 

quickly in the future, today, in both crude oil and product markets, we see high 

prices with high inventories. Consumers exhibit similar behavior when they expect 

to experience higher prices in the near future. For example, consumers top off their 

gasoline tanks before a bad storm that could limit supplies and drive prices up in 

their region. 

Prior to Hurricane Katrina, crude oil prices increased about 39 cents per gallon 

in summer 2005 over summer 2004, while gasoline prices only increased 34 cents 

per gallon (Figure 3). Although refinery and distribution and marketing contributions to gasoline prices were on average lower this summer on average than last 

summer, seasonal and local supply conditions affected these refinery contributions 

to price gasoline more strongly at the end of the summer, as described next. 

U.S. PRODUCT MARKETS

Tightening in other parts of the supply chain beyond crude oil exacerbated product price increases in the United States and in the rest of the world. World refining 

capacity utilization increased from 85 percent to 87 percent from 2003 to 2004, driven in large part by increases in demand and utilization in areas like China and 

India. While adequate refining capacity is available to meet demand today, the refining system cannot shift quickly to meet unexpected needs. With refinery capacity 

running at high utilization levels in many parts of the world, including the United 

States, product balancing is frequently done through international trade, which 

20

means products must travel long distances, stretching out the time it takes to resolve imbalances. This sluggish response puts additional pressure on product prices 

beyond the effect of high crude oil prices and can result in price spikes if a regional 

shortage evolves. 

Product markets in the United States provide an example of various supply and 

demand balancing effects on price. In the United States, the spread between wholesale product prices and crude oil prices is often higher in spring and summer than 

during the rest of the year. Gasoline is the highest volume product refineries 

produce, and spring and summer are when gasoline demand is typically the highest. 

Gasoline spreads typically increase at this time of year, lifting overall refinery margins to their highest seasonal level. Distillate product (diesel and heating oil) 

spreads are usually lower in spring and summer, but they represent only about half 

as much volume as gasoline production. 

U.S. petroleum product price spreads were very unusual in spring and summer 

2005. Wholesale gasoline price spreads through July were slightly above the average 

for the past 5 years, but lower than spreads seen in 2004. Heating oil and diesel 

spreads were unprecedented, exceeding gasoline spreads from April through July. 

This unusual distillate market was seen throughout the world as distillate demand 

grew rapidly and ultra-low sulfur diesel demand in Europe pulled on tight supplies. 

Distillate prices remained above gasoline prices in Europe as well as Asia. This unusual distillate market ultimately affected gasoline. 

Gasoline and distillate products are produced together at the same refineries. In 

the spring, the U.S. inventories for gasoline were high and prices were lower than 

for distillates. Distillate inventories were low, and the price incentives caused refiners to respond by producing unusually high yields of distillate, which resulted in reduced gasoline yields. The consequence was that U.S. distillate inventories rose from 

below normal to above normal, and gasoline inventories fell from above normal to 

normal into July. 

In addition to the switch in yield patterns, unplanned refinery outages in July 

and August added to the tightening gasoline market. The high demand summer season is when U.S. refiners run close to or at full utilization rates, but outages always 

occur. The degree of outages varies, and preliminary data indicate a higher level 

than average occurred in July and August of this year. Had refineries been able to 

run at the same utilizations as last year, they would have run about 200 thousand 

barrels per day more crude oil, and the gasoline inventories in the July/August period would now be in the middle of their seasonal range, even with the higher-thanusual distillate yields. 

The loss of supply and rapid decline in gasoline inventories starting in July resulted in an increase in gasoline price spreads (Figure 4). Higher gasoline spreads 

encourage more gasoline imports, and some refiners may have shifted yields to 

produce more gasoline, but with the peak summer driving season at an end, and 

winter heating needs ahead, we would expect a continued focus on maximizing production of distillates. 

The high level of refinery outages in July and August increased pressure on gasoline prices, adding possibly 8 to 15 cents per gallon. Wholesale prices were poised 

to decline as some of the refinery problems were being resolved, but then the gulf 

coast was hit by Hurricane Katrina. Both spot market prices and near-month futures prices for gasoline and distillate products have risen dramatically in the days 

following the hurricane. Retail prices, which follow wholesale prices with a lag, are 

also rising. We expect that prices will begin to fall back as production and refining 

capacity are restored, although the pace of restoration is at present highly uncertain. While the gasoline price and supply situation will also be helped by the seasonal decline in U.S. gasoline demand after Labor Day, seasonal trends in crude oil 

markets will work in the opposite direction as world crude oil demand begins to increase in the fall with the onset of the Northern Hemisphere heating season. 

Looking ahead to next summer, high crude oil prices are expected to continue to 

support high prices for all petroleum products, including gasoline. In addition, gasoline prices may see some additional pressure since the industry is moving quickly 

to eliminate methyl tertiary butyl ether (MTBE). While the removal of the oxygen 

content requirement in the recently-enacted Energy Policy Act of 2005, without 

some accompanying liability protection, may have hastened companies’ decisions to 

remove MTBE, companies were moving in that direction anyway. Removing the oxygen content requirement will help consumers in the long run by providing more supply options for refiners and blenders. In the short run, however, the loss of gasoline 

production capability and some potential sources of gasoline imports that will occur 

when phasing out MTBE cannot be made up easily. The distribution system will 

also have to adjust, depending on how the industry shifts. The result is that we may 

21

see increased volatility during the transition, as we have seen with other fuel specification transitions. 

In addition to potential supply problems due to removal of MTBE, the United 

States will begin the ultra-low sulfur diesel program. In June 2006, suppliers will 

begin providing diesel fuel to the on-road market that contains less than 15 parts 

per million sulfur. Following a full recovery from Katrina, production capability to 

produce ultra-low sulfur diesel is felt to be adequate, but the industry is still struggling to determine how to deliver the product through its pipeline and storage tank 

system without contamination. Many issues remain to be resolved, implying this 

transition may also add pressure to the system, and can be expected to affect gasoline as well as distillate prices. 

Next year is also the first year of the renewable fuel standard established under 

the new energy bill, and while meeting the total volumes of ethanol required under 

this standard should not be difficult, a credit trading program must be in place and 

operating smoothly to enable each gasoline supplier to meet its obligation. It is our 

understanding that Environmental Protection Agency (EPA) and the industry are 

working towards this goal, but little time exists for EPA and the industry to get 

everything prepared. 

One more specification change slated for 2006 is the final phase of the Tier 2 lowsulfur gasoline program for refiners and importers, who will be providing gasoline 

with an average sulfur content of 30 parts per million or less, which is less than 

one-tenth the average sulfur content before the program began. With many refiners 

already producing gasoline at 30 parts per million, this last phase may be less challenging than the removal of MTBE and the start of ultra-low sulfur diesel. It is one 

more additional strain on the supply system, however. For example, if a refinery 

loses a desulfurization unit, the stricter specifications may result in no production 

of gasoline, whereas, in the past, the refinery might have been able to produce more 

volumes at higher sulfur levels for a longer time. 

CONCLUSION

In conclusion, the world is experiencing an underlying change in petroleum markets with the development of tight supplies that will not likely change quickly. Hurricane Katrina has significantly exacerbated the near-term supply tightness, especially in the U.S. market for gasoline and diesel fuel. Even after production and refinery operations fully recover from the effects of Katrina, capacity increases will be 

needed throughout the supply chain to keep up with demand. Until the world returns to more spare capacity, particularly in crude oil supply, crude oil and petroleum product prices will remain high. Even if the balance should relax unexpectedly, OPEC members have expressed an interest to maintain prices well above their 

prior target range. While the system currently can meet demand, it cannot respond 

quickly to unexpected changes. We will see shifts in imbalances from one region of 

the world to another and from one product to another, as we saw with gasoline and 

distillate in the United States. The gasoline market in the United States is subject 

not only to the higher crude oil prices and generally tight market conditions, but 

also to volatility from continuing specification changes down the road, with next 

summer presenting a number of such specification challenges. 

This completes my testimony, Mr. Chairman. I would be glad to respond to any 

questions you and the other Committee members may have.

The CHAIRMAN. Thank you very much, Mr. Caruso. We do not 

have the benefit of your full report, but you have given us a 

glimpse. What we have heard is good news and we appreciate that. 

Mr. Overdahl. 

STATEMENT OF JAMES A. OVERDAHL, CHIEF ECONOMIST,

U.S. COMMODITY FUTURES TRADING COMMISSION 

Mr. OVERDAHL. Mr. Chairman, Senator Bingaman, and members 

of the committee, I appear before you today in my capacity as chief 

economist of the Commodity Futures Trading Commission, or 

CFTC, the Federal Government regulator of futures markets in the 

United States. My purpose here this afternoon is to do two things. 

First, I will briefly describe the methods the CFTC uses to ensure 

market integrity. Second, I will address the role played by nonVerDate 0ct 09 2002 09:40 Jan 26, 2006 Jkt 109235 PO 25575 Frm 00025 Fmt 6633 Sfmt 6602 P:\DOCS\25575.TXT SENERGY2 PsN: PAULM
22

* The chart has been retained in committee files. 

commercial traders, commonly referred to as speculators, in energy 

markets under the CFTC’s jurisdiction. 

The CFTC’s mission is to administer the Commodity Exchange 

Act, or CEA, the statute governing futures trading in the United 

States. At its core, the CEA is an anti-manipulation statute, meaning that the CFTC’s primary mission is to detect and deter market 

manipulation. The CFTC relies on a program of market surveillance to ensure that markets under CFTC jurisdiction are operating in an open and competitive manner. 

The heart of the CFTC’s market surveillance program is its 

Large Trader Reporting System. This system captures positionlevel data for market participants meeting certain criteria. The 

Large Trader Reporting System is a powerful tool for detecting the 

types of concentrated and coordinated positions required by a trader or a group of traders attempting to manipulate the market. 

In addition to regular market surveillance, the CFTC conducts 

an aggressive enforcement program that prosecutes and punishes 

those who break the rules. The punishment meted out as a result 

of enforcement proceedings deters would-be violators by sending a 

clear message that improper conduct will not be tolerated. 

Data from the CFTC’s Large Trader Reporting System can help 

answer questions about the role of noncommercial traders in U.S. 

energy futures markets. A current snapshot, current as of last Friday, of these positions shows that noncommercial traders, those 

who are commonly labeled as speculators, hold about 25 percent of 

the so-called long positions, that is the positions that will appreciate if gasoline futures prices rise. The remainder of open positions 

are held by commercial traders, that is producers, refiners, retailers, and those who are commonly referred to as hedgers, in other 

words those who are using futures markets to reduce their commercial risks. 

The role of noncommercial traders in futures markets has been 

studied extensively, both by CFTC economists and others. One lesson from these studies is that noncommercial traders are necessary 

in order for futures markets to facilitate the needs of hedgers. In 

order for hedgers to reduce the risks they face in their day to day 

commercial activities, they need to trade with someone willing to 

accept the risk the hedger is trying to shed. 

Therefore, both hedgers and speculators are necessary for a futures market to perform its socially beneficial role of transferring 

risk from those who do not want it to those who are willing to accept it for a price. 

Noncommercial traders are a diverse group with diverse trading 

objectives. Managed money traders, including those called hedge 

funds, fall into the category of noncommercial traders because they 

do not have a commercial interest in the product upon which the 

futures contract is written. As a group, managed money traders 

represent a large portion of the noncommercial positions in unleaded gasoline futures markets. 

The chart* that I have attached to my written testimony that 

you have before you provides a snapshot of participation by managed money traders in the October 2005 unleaded gasoline contract 

23

traded at the New York Mercantile Exchange. I call your attention 

to the three vertical lines at the end of that chart. These are the 

positions immediately following Hurricane Katrina. It shows that 

as a group managed money traders reduced their positions, that is 

they were selling, as market prices, represented by the continuous 

line, were soaring. A conclusion that can be drawn from this chart 

is that managed money traders and speculators in general do not 

have perfect foresight. 

A common speculative trading strategy is to simultaneously establish offsetting positions between crude oil and the products that 

are refined from crude oil, that is gasoline and heating oil. The 

trading strategy is referred to by traders as the crack spread, the 

name reflecting the cracking process of turning crude oil into refined products. 

In the past week, prices for refined products have moved much 

higher on a percentage basis than prices for crude oil. A conclusion 

that can be drawn from this behavior is that the increases in gasoline prices following Hurricane Katrina were driven primarily by 

disruptions to the refining process and not as much from increases 

in the levels of crude oil prices. 

An important benefit to society provided by futures markets is 

price discovery. Looking at the New York Mercantile Exchange futures prices over the next year, one can see that the market expects prices to fall back to levels close to where they were before 

Hurricane Katrina. 

I look forward to your questions. 

[The prepared statement of Mr. Overdahl follows:]

PREPARED STATEMENT OF JAMES A. OVERDAHL, CHIEF ECONOMIST,

U.S. COMMODITY FUTURES TRADING COMMISSION

Mr. Chairman, Senator Bingaman, and Members of the Committee, I appear before you today in my capacity as Chief Economist of the Commodity Futures Trading Commission, the federal government regulator of futures and futures options 

markets in the United States. Energy contracts falling under the CFTC’s jurisdiction include futures and related contracts on crude oil, natural gas, heating oil, propane, electricity, and unleaded gasoline. Trading in these contracts takes place predominately at the New York Mercantile Exchange (NYMEX). 

In U.S. energy markets, recent experience has shown that even small disruptions 

in production, refining capacity, or transportation networks can significantly affect 

prices in the face of high demand for energy products. Therefore, given the scale 

of disruptions caused by Hurricane Katrina, it is not surprising that current prices 

for energy products have risen significantly. Consumers of energy products, who are 

paying these higher prices, deserve to know that energy prices are being set fairly 

in an open and competitive environment. 

Futures markets serve energy producers and consumers in two important ways. 

First, these markets provide a means for market participants to manage risks arising from their normal day-to-day commercial activity. This risk-management activity is commonly referred to as ‘‘hedging.’’ A significant majority of futures positions 

held over time are established by commercial users of energy products who hedge 

their exposure to price risks occurring in the underlying ‘‘cash’’ energy markets. Second, futures markets are a venue for price discovery. The prices discovered through 

the interaction of thousands of traders provide valuable information even to those 

who are.not direct participants in futures markets. These prices are widely distributed through newspapers and over the internet and television so that anyone, not 

just professional traders, can observe futures market prices and can use these prices 

as a reliable benchmark upon which to guide forward-looking decisions. The prices 

discovered in futures markets are also used as a benchmark in many types of privately-negotiated, over-the-counter contracts. 

My purpose here today is to do two things. First, I will briefly describe the methods the CFTC uses to ensure market integrity. Second, I will address the role played 

24

by non-commercial traders, commonly referred to as ‘‘speculators,’’ in energy markets under the CFTC’s jurisdiction. 

Methods used by the CFTC to ensure that energy futures prices are determined in 

an open and competitive environment. The CFTC’s mission is to administer the Commodity Exchange Act (CEA), the statute governing futures trading in the United 

States. Under the CEA, the CFTC is the exclusive regulator of futures and futures 

options markets in the United States. At its core, the CEA is an anti-manipulation 

statute, meaning that the CFTC’s primary mission is to detect and deter market 

manipulation and other trading abuses. The CFTC relies on a program of market 

surveillance to ensure that markets under CFTC jurisdiction are operating in an 

open and competitive manner, free of manipulative influences or other sources of 

price distortions. 

The heart of the CFTC’s market surveillance program is its Large Trader Reporting System. This system captures end-of-day position-level data for market participants meeting certain criteria. Positions captured in the Large Trader Reporting 

System make up 70 to 90 percent of all positions in a particular market. The Large 

Trader Reporting System is a powerful tool for detecting the types of concentrated 

and coordinated positions required by a trader or group of traders attempting to manipulate the market. 

In addition to regular market surveillance, the CFTC conducts an aggressive enforcement program that prosecutes and punishes those who break the rules. Nearly 

one-third of the CFTC’s resources are devoted to its enforcement program. The punishment meted out as the result of enforcement proceedings deters would-be violators by sending a certain and clear message that improper conduct will be detected 

and will not be tolerated. 

In addition to the efforts of the CFTC, futures exchanges, such as the NYMEX, 

also conduct regular surveillance of their markets under their self-regulatory obligations as defined in the Commodity Exchange Act. Under the CEA, futures exchanges 

are guided by a set of eighteen core principles to ensure that futures trading takes 

place in an open and competitive environment. Core principles 3, 4, and 5 speak directly to the duty of futures exchanges to adopt internal rules and policies and to 

design futures contracts that reduce the threat of market manipulation and other 

sources of price distortions. In addition, Core principle 9 addresses the duty of futures exchanges to provide a competitive, open, and efficient market for executing 

futures transactions. The CFTC oversees compliance with the core principles by conducting periodic rule enforcement reviews to ensure that the exchanges are enforcing the rules on their books. Aside from their assigned self-regulatory obligations 

to the public, futures exchanges also have private business reasons to make sure 

that the markets they host operate in an environment free of manipulation. Even 

the perception of manipulation is one of the worst fates that can befall a futures 

market. 

The role of non-commercial traders in energy markets under the CFTC’s jurisdiction. Data from the CFTC’s Large Trader Reporting System can help answer questions about the role of non-commercial traders in U.S. energy futures markets. For 

the unleaded gasoline futures markets, approximately 80 percent of all open futures 

positions meet the size threshold for inclusion in the CFTC’s Large Trader Reporting System. A current snapshot of these reportable positions shows that non-commercial traders, those who are commonly labeled as speculators because they do not 

have an underlying commercial purpose for holding a futures position, hold about 

25 percent of the ‘‘long’’ positions, that is, positions that will appreciate if gasoline 

futures prices rise. This current percentage is slightly lower than the average percentage for similar positions over the past two years. The remainder of open positions, which represent a significant majority of positions, are held by commercial 

traders, that is, producers, refiners, and retailers, who are commonly viewed as 

hedgers. The CFTC provides on its web site (www.cftc.gov) a weekly report, called 

the Commitments of Traders Report, showing the aggregate positions of commercial 

and non-commercial traders based on the CFTC’s Large Trader Reporting System. 

The role of non-commercial traders in futures markets has been studied extensively, both by CFTC economists and others. One can find a long list of academic 

studies on the role played by non-commercial traders in affecting a variety of market characteristics across many different markets. One lesson from these studies is 

that non-commercial traders are necessary in order for futures markets to facilitate 

the needs of hedgers. In order for hedgers to reduce the risk they face in their dayto-day commercial activities, they need to trade with someone willing to accept the 

risk the hedger is trying to shed. Non-commercial traders take on this risk for a 

price. Non-commercial traders also add to overall trading volume which contributes 

to the formation of liquid and well-functioning markets. Futures exchanges know 

from experience that the markets they host cannot exist with hedgers alone. Both 

25

hedgers and speculators are necessary for a futures market to perform its socially 

beneficial role of transferring risk from those who do not want it to those who are 

willing to accept it for a price. 

Non-commercial traders are a diverse group with diverse trading objectives. Managed money traders, including those called hedge funds, fall into the category of 

non-commercial traders because they do not have a commercial interest in the product upon which the futures contract is written. In the futures market for unleaded 

gasoline, managed money traders represent a sizable portion of the category of large 

non-commercial traders captured in the CFTC’s Large Trader Reporting System. 

Like other non-commercials, the trading strategies of managed money traders can 

vary greatly from one trader to another. On average, managed money traders make 

up approximately 75 percent of the non-commercial positions on the ‘‘long’’ side of 

the market, that is, the side of the market that would benefit from increases in unleaded gasoline futures prices. 

The attached chart provides a snapshot of participation by managed money traders in the October 2005 unleaded gasoline contract traded at the NYMEX. I call 

your attention to the last three vertical columns representing the positions of managed money traders in the days immediately following Hurricane Katrina. As a 

group, managed money traders reduced their positions, that is, they were selling, 

as market prices, represented by the continuous line, were soaring. A conclusion 

that can be drawn from this chart is that managed money traders, and speculators 

in general, do not have perfect foresight. 

Managed money traders also represent a significant share of traders speculating 

on prices across related markets. A common trading strategy is to simultaneously 

establish offsetting positions between crude oil and the products that are refined 

from crude oil, that is, gasoline and heating oil. This trading strategy is referred 

to by traders as the ‘‘crack spread.’’ In the past week, prices for refined products 

have moved much higher, on a percentage basis, than prices for crude oil. A conclusion that can be drawn from the behavior of the crack spread is that the increase 

in gasoline prices following Hurricane Katrina are being driven primarily by disruptions to the refining process, and not as much from increases in the level of crude 

oil prices. 

As I mentioned earlier, an important benefit to society provided by futures markets is price discovery. Looking at NYMEX futures prices for wholesale unleaded 

gasoline over the next year, one can see that the market expects prices in the future 

to fall back to levels close to where they were before Hurricane Katrina. Overall 

however, the futures market reflects expectations that gasoline prices a year from 

now will be significantly higher than prices a year ago. Of course, such expectations 

depend on many variables, including how quickly refinery facilities and transportation networks return to normal operations. I look forward to your questions.

The CHAIRMAN. Thank you very much. 

Now, did you have a more detailed statement? Did you have a 

more detailed statement? 

Mr. OVERDAHL. Yes. 

The CHAIRMAN. It will be made a part of the record, as you know. 

Now, we will follow the procedure that I announced, and I think 

under that, Senator Burns, you are first. We will keep a clock on 

all of us, but I want to be as generous as I can, but you know there 

are plenty Senators, so let us stick to our time. 

Senator Burns. 

STATEMENT OF HON. CONRAD BURNS, U.S. SENATOR

FROM MONTANA 

Senator BURNS. Thank you, Mr. Chairman. Thank you for this 

hearing. I think we have all got concerns. We had concerns about 

this even before the tragedy in the gulf, because if you come out 

of agriculture not only do high oil prices and high gas prices drive 

the prices of fertilizer and everything that we use on the farm, our 

petrochemicals, our transportation to put a crop in—and of course, 

when you live in Montana you are at the end of the line. In agriculture, you sell wholesale and buy retail and pay the freight both 

ways. So it really hits us. 

26

Mr. Overdahl, of course I have been around traders just about 

all my life as far as futures are concerned, and of course you buy 

on facts and sell on rumor if you are a speculator. Give me some 

idea on the percentage, the difference between—how many speculators do you have in the market as a rule and how many people 

really use the market as a hedge in either selling their product or 

hedging the cost of the product? 

Mr. OVERDAHL. One way to answer that question is to look at the 

commitments of traders report that the CFTC publishes on a weekly basis. This is an aggregate summary of all traders across—it 

comes from our Large Trader Reporting System, but it provides the 

aggregate numbers based from those reports. 

From that you will see a summary figure of commercial traders, 

in other words those who are actually in the market as refiners or 

producers or users of commercial—have commercial interests in the 

product—versus the noncommercials, that includes perhaps hedge 

funds and others who do not have a direct link to the underlying 

cash market. From that, it varies across markets and it varies in 

multiple dimensions. 

For unleaded gasoline, we break it out between long positions 

and short positions. About 25 percent of the long positions held in 

the unleaded gasoline futures markets are held by noncommercial 

traders. However, they are also, some of them, on the short side. 

So in net they have been long most recently, but that is a rough 

idea. 

In other markets, crude oil and natural gas, you see a different 

pattern. You see the noncommercial traders, so-called speculators, 

on both sides of the market, on the long side and the short market. 

But importantly, you see them also playing a big role in spreading, 

spread trades across related markets and across related contracts 

within the same complex. That is a bigger role in those markets 

and differs from what we see in the unleaded gasoline futures market. 

Senator BURNS. I assume then those in a long position, if I was 

a speculator in a long position, there is a time when you have got 

to—you do not want to take delivery on the product, but sometimes 

they do take delivery? 

Mr. OVERDAHL. In the futures markets very few actually take delivery. It is much less, on average much less than 1 percent of all 

open positions are settled by physical delivery. Most contracts are 

settled by offset, and that is because these are primarily risk management contracts used by hedgers. They have their own commercial day to day risks, but they can manage those risks by opening 

and offsetting positions in the futures markets. 

Senator BURNS. Do you get the feeling that it could be the tail 

wagging the dog every now and again? 

Mr. OVERDAHL. Well, that is always the question. I think that 

what we see—it is a balancing act for the exchanges. They need the 

speculators in there to absorb the risks that hedgers are trying to 

unload. One way they handle that is through position limits to 

make sure that not any one trader or any single position can dominate, and so that you cannot have that type of influence. 

Senator BURNS. Ms. Watson, with the storm down there I have 

just got a couple questions for you. You are one of the parts of govVerDate 0ct 09 2002 09:40 Jan 26, 2006 Jkt 109235 PO 25575 Frm 00030 Fmt 6633 Sfmt 6602 P:\DOCS\25575.TXT SENERGY2 PsN: PAULM
27

ernment that really makes money for us, the Minerals Management Service. Tell me about the people that you have in the gulf? 

Are all of them safe, and how will you operate now that you have 

been moved out of most of your facilities down there? 

Ms. WATSON. Well, thank you for asking. Right now, unfortunately, we are still trying to locate 67 of our people. We had about 

100 people we were not able to locate immediately after the hurricane, but they have been reporting in. We have some confidence 

and hope that they have not been injured or killed in the hurricane, they have just not called in. We are getting calls from them, 

but right now we have not been able to account for 67 folks that 

work for us at MMS. 

As I said, we set up a COOP office in Houston. We have 100 people there right now working and doing their duties. We have put 

other folks on administrative leave. About 25 percent of our employees have lost their homes in the hurricane. Many of them lived 

in the New Orleans area. We are assessing how many more people 

we need to move to Houston and for how long as we work with the 

local authorities in Metairie, Louisiana, where our office was located, to determine when it will be safe for them to return. It is 

day by day on that score. 

Senator BURNS. Well, good luck to you, and I know you have got 

a challenge down there. If we can be of any assistance, let us know. 

Ms. WATSON. Thank you. 

Senator BURNS. Thank you, Mr. Chairman. 

The CHAIRMAN. Thank you. 

Does that mean they could be dead? 

Ms. WATSON. Well, we hope that is not the case. What I hear 

from the people at MMS is they feel optimistic that that is not the 

case. The office is located outside of the immediate impact of the 

storm. It was in an area that had to be evacuated and it is an area 

that is kind of dicey right now. It is a bit of a lawless area. They 

do not allow anybody in there. 

But we are getting calls from people coming in and probably they 

are tending to their families first and calling their employer somewhere down the road. So that is what we are hoping, and we are 

trying to find out where they are. 

The CHAIRMAN. Senator Bingaman. 

Senator BINGAMAN. Thank you very much. 

Mr. Caruso, let me just ask a couple of questions about your information-gathering. The main focus of this hearing is the adequacy and reliability of our refining capacity. What information 

does your agency require refiners to provide to you with regard to 

their current activities? 

Mr. CARUSO. Thank you, Senator. Each week we receive from all 

refiners, a sample—we sample about 92 percent of the refining capacity—on what their production, byproduct, and their output is. 

Then we also collect more detailed information on a monthly basis. 

But we do have weekly reports from most refiners. 

Senator BINGAMAN. Do they give you weekly reports on the extent of their output? One of the statements in your testimony concerned me, where you talked about how the outages of refining capacity in July and August had caused something in the range of 

15 or 16 percent increase in the price of gas. But you knew about 

28

that outage before it happened or at the time it happened, or at 

what point? 

Mr. CARUSO. In terms of outages, we get that information from 

commercial services. We do not get outage reports per se. We get 

weekly reports on output, and of course if a refinery is down for 

maintenance or what have you that would be reflected in the weekly reporting. 

One clarification on the increase in prices. It was outages of refiners were one of a number of factors, including of course strong 

demand and other factors on the world market as well. 

Senator BINGAMAN. It strikes me the analogy that comes to mind 

is when we were talking about electricity in the hearings we had 

on the energy bill, one of the concerns was that there did not seem 

to be real good visibility into outages and decisions by power plant 

operators to shut the operation down for maintenance or whatever. 

I am sort of gathering that we have a similar problem in this 

area. We do not have good visibility into the decisions to shut down 

refineries. Am I wrong about that? Do you feel that you are on top 

of that situation? 

Mr. CARUSO. Well, as I mentioned, we do not get specific reporting on that factor. We only get that through the commercial trade 

publications, which on a monthly basis do report on which refineries have scheduled maintenance and scheduled outages. 

Senator BINGAMAN. But there is nobody trying to coordinate the 

scheduled maintenance among refineries? 

Mr. CARUSO. That is correct, sir. 

Senator BINGAMAN. Do you think that might be a useful thing to 

have somewhere in the Federal Government, someone who is trying to encourage that a whole group of refineries do not decide to 

do their maintenance at the same time? 

Mr. CARUSO. It is certainly worth considering, Senator. 

Senator BINGAMAN. You have another part in your testimony 

that concerned me a little bit, where you talk about this new requirement that we have put into the energy bill on renewable fuel 

standard. You say next year is the first year of the renewable fuel 

standard established in the energy bill. ‘‘While meeting the total 

volumes of ethanol required under this standard should not be difficult, a credit trading system must be in place and operating 

smoothly to enable each gasoline supplier to meet its obligation. It 

is our understanding that EPA and the industry are working toward this goal, but little time exists for them to get it all prepared.’’

Could you elaborate on that problem? It seems to me that you 

are subtly trying to flag a problem for us that we need to know 

about. 

Mr. CARUSO. I believe that refers to the phasing out of the 

MTBE. 

Senator BINGAMAN. No, I do not believe so. I think that that is 

separate, you deal with that separately in the previous paragraph. 

This is on paragraph 9 of your testimony. I think that the need to 

establish this credit trading program with relation to renewable 

fuels is a separate requirement which EPA needs to get up and 

running. I am just wondering if we have got the various parts of 

the Government talking to each other to see if this is getting done 

29

and can get done on time or if this is a problem that we are going 

to hear about later. 

Mr. CARUSO. Well, I would be very happy to provide that information for you for the record, Senator. 

[The information referred to follows:]

The concern we were addressing was the overall assessment of the future petroleum product supply situation in the aftermath of Hurricanes Katrina and Rita, and 

moving forward into next year. In 2006, the refining industry will be faced with implementation of two clean fuels programs and the requirements of EPACT 2005. 

These requirements include the final phase of the Tier 2 gasoline sulfur program, 

the introduction of ultra-low sulfur diesel. the possible loss of MTBE as a gasoline 

blending component, and implementation of a more aggressive mandate for renewable fuels. We believe the industry was on track to fulfill their commitments with 

these programs. 

However, the tight supply situation for petroleum products, the significant loss of 

supplies and loss of time to perform maintenance and system upgrades as a result 

of the two hurricanes leaves the industry little room for error or unexpected glitches 

in fulfilling these commitments. It is our understanding that EPA is working diligently with other government agencies and industry to ensure that the current implementation schedule for clean fuels is maintained and that EPACT 2005 requirements are implemented in such fashion that consumer demand will he fully met.

Senator BINGAMAN. Okay. 

I think Mr. Slaughter in his testimony has an attachment number 4 which gives a fuels time line listing all of the requirements 

EPA and others and ourselves through the energy bill are imposing 

on those involved with refining. I would appreciate if you would 

look at that and see if we have got—if everyone is talking to everybody about the doability of these various efforts. 

Mr. CARUSO. I will, Senator. 

[The information referred to follows:]

We believe industry is working with both Federal and State governments to ensure that all are on track to fulfill commitments with the programs listed in Fuels 

Timeline presented by Mr. Slaughter during his testimony. It is our understanding 

that EPA is working diligently with other government agencies and industry to ensure that the current implementation schedule for clean fuels is maintained and 

that EPACT 2005 requirements are implemented so that consumer demand is met. 

Note, however, EPACT 2005 imposes several new fuels-related requirements on 

DOE, and in some cases authorizes funding, but Congress has not appropriated the 

funding that would be required to implement those requirements.

Senator BINGAMAN. Thank you. 

I will stop with that, Mr. Chairman. 

The CHAIRMAN. Thank you, Senator Bingaman. 

Now we are going to on our side go to Senator Craig. 

STATEMENT OF HON. LARRY E. CRAIG, U.S. SENATOR

FROM IDAHO 

Senator CRAIG. Mr. Chairman, thank you very much. To our witnesses, thank you. 

Let me say at the outset that I think this committee over the 

course of the last year can be very proud of its work product. You 

have mentioned it in your opening statement, Mr. Chairman, but 

in a very bipartisan way we have produced a very positive energy 

product on July 29, 2005. The great problem is that we did not 

produce it on July 29, 2000. But this committee at that time could 

not come together. The marketplace brought us together finally. 

We became less selective on what we were attempting to do for our 

individual political interests and I think we finally produced a comprehensive and now very timely energy policy for our country. 

30

Having said that, we will work our way through the current situation. But I have a couple of observations. I find out there are no 

hearings scheduled on the 25 to 150 percent increase in the cost 

of housing over the last 2 years across the American real estate 

market. For some reason, Congress simply is not interested in the 

cost of housing. That is the marketplace at work and we can choose 

it if we wish to or we, hopefully, can sell our home at the right time 

and gouge like everybody else might be gouging. But then again, 

that is the market and we are going to leave it alone. 

But today, we are extremely concerned about the run-up in the 

cost of energy. I do not disassociate myself with the comments of 

our chairman and the ranking member. What we are doing here 

today is legitimate and responsible, and if gouging is occurring 

then we ought to be at it and understand why it is, and I would 

hope the responsible corporate citizens of this country would not 

play that game and take advantage of difficult situations. 

But the facts are out there as it relates to the supply of gas, the 

demand of gas, imported gas. All of those figures this committee, 

like no other in this Congress, is aware of, and we know of the 

tight supplies you are all talking about. 

Mr. Overdahl, you did mention I believe one thing, either you or 

Mr. Caruso, the price of refined moved faster than the price of 

crude. Which one made that statement as it relates to the last 

week? 

Mr. OVERDAHL. I did, yes. 

Senator CRAIG. How much faster in that relationship has it 

moved, let us say in that week’s period of time, than over the last 

year as crude moved up in the market? 

Mr. OVERDAHL. Well, to give you a specific answer, I can provide 

that after the hearing when I can go back to my office and check 

that. But in general, just making an observation on the spreads 

themselves, I would say this is a very unusual situation following 

Katrina. You have not seen a spike in that spread between refined 

and crude oil products like that any time over the last couple of 

years. 

Senator CRAIG. And you cannot say how much greater it was 

than the normal patterning of price at the pump versus crude in 

the world market? 

Mr. OVERDAHL. Specifically, no. 

Senator CRAIG. Is that gouging or is that speculation? 

Mr. OVERDAHL. Well, it is a reflection, I suppose, of—because the 

difference has to do with refined product versus the input into 

making the refined product. It has something to do with disruptions in the refining process. 

Senator CRAIG. So the spike, you are not willing to label it? You 

are willing to define it, but you are not willing to label it? 

Mr. OVERDAHL. It is what we observe in the market, yes. 

Senator CRAIG. Okay. 

Rebecca, could we go back to your first chart. I would like to 

have you turn it. We have seen it, but the audience has not seen 

it. On the eastern side of the path of Katrina, why is there—why 

are there no wells in there? Is there no oil there? 

Ms. WATSON. There are resources there, oil and gas, but——

Senator CRAIG. But? 

31

Ms. WATSON. That is an area that is subject to a congressional 

and presidential moratoria. 

Senator CRAIG. In other words, Congress did it to the American 

consumer by denying the right to explore, develop, and produce for 

the market oil that could have come out of that area? 

Ms. WATSON. That is a correct statement, yes. 

Senator CRAIG. How many other coastlines of America look like 

that, where there are known oil reserves? 

Ms. WATSON. You are looking at the only part of the American 

coastline where we can produce, and that is the central and western part of the Outer Continental Shelf. The entire rest of the 

lower 48 is under a congressional and presidential moratoria, and 

then around Alaska there are portions that are also under some 

moratoria. But as a rule, the entire coastline of the United States 

of America is under a moratoria but for the central and western 

part of the gulf, which is depicted on this map. 

Senator CRAIG. Is it possible the anger of the American consumer 

is misdirected at those who produce it instead of those who deny 

production? I do not want you to answer that. 

One last question. What is the general answer, Mr. Caruso, you 

can give as to why our country once had 300-plus refineries and 

today only has 100-plus refineries in the market? 

Mr. CARUSO. The main reason is that the refining sector of the 

oil business was a very poor investment during the 1980’s and most 

of the 1990’s. 

Senator CRAIG. Why was it a poor investment? 

Mr. CARUSO. Because prices were relatively low and profitability 

was very low in that particular sector of the industry for a period 

of——

Senator CRAIG. Because the cost of sustaining or building a refinery was higher in relation to yield? 

Mr. CARUSO. Yes. 

Senator CRAIG. Or return? 

Mr. CARUSO. Yes, sir. Return on investment was much lower 

than the average manufacturing part of industry. 

Senator CRAIG. Do you know if it is true that EPA requires tank 

farms to keep levels of gas at a certain level in the tank for purposes of fumes that might be emitted? There is a report today out 

of Oklahoma that some companies were willing to put more into 

the pipe but were denied that by EPA. Do you know if there are 

restrictions as to volumes and capacities that are needed to be sustained in tank farms? 

Mr. CARUSO. I am not familiar with that restriction, Senator, but 

would be happy to check on that when I——

Senator CRAIG. Would you do that for this committee? I think 

that is important to understand, that if we had reserve capacity 

out there in different storage facilities around the country but we 

were denied the right to enter it into the pipeline because of environmental concerns or certain Federal standards? 

Mr. CARUSO. I will. 

[The information referred to follows:]

EIA understands that the issue referred to by the Senator concerns large aboveground storage tanks with internal floating roofs. The floating roof is designed to 

keep vapors from accumulating in air space above the liquid in the tank as the tank 

is drained, then being emitted into the atmosphere when the tank is refilled. In norVerDate 0ct 09 2002 09:40 Jan 26, 2006 Jkt 109235 PO 25575 Frm 00035 Fmt 6633 Sfmt 6621 P:\DOCS\25575.TXT SENERGY2 PsN: PAULM
32

mal practice, and as required by law, the tank is not emptied below the minimum 

level at which the roof floats on the surface of the liquid, rather than resting on 

its leg supports. During the period of supply tightness following Hurricane Katrina, 

we understand that the American Petroleum Institute asked the Environmental 

Protection Agency (EPA) for an interpretation of the applicable regulations, specifically as to whether terminal tanks could be drained further during this unusual period, so as to provide additional supply. We do not know what action was taken on 

this request by EPA, and respectfully suggest that further inquiries on this subject, 

if any, be directed to that agency.

Senator CRAIG. Thank you. 

Thank you, Mr. Chairman. 

The CHAIRMAN. Thank you. 

On the Democratic side, I understand that Senator Wyden was 

next. 

STATEMENT OF HON. RON WYDEN, U.S. SENATOR

FROM OREGON 

Senator WYDEN. Thank you, Mr. Chairman. Mr. Chairman and 

colleagues, I may be in the minority again, but I think a major factor in these skyrocketing prices is that the Government is not in 

the consumer protection business any more. The Federal Trade 

Commission, we have not heard word one from them. The Justice 

Department, the same thing. The Energy Department, the same 

thing. 

I want to read you, Dr. Overdahl, a quote that appeared in the 

Dow Jones Newswire a couple of days ago, talking about oil commodity traders, the people that you have jurisdiction over at your 

agency. I want your reaction to one comment several days after 

Katrina—this comes from a Mr. Addison Armstrong, manager of 

exchange-traded markets, TPS Energy Futures, LLC, in Stamford, 

Connecticut, and he said, and I quote: ‘‘There are traders who 

made so much money this week they won’t have to punch a ticket 

for the rest of the year.’’

Now, this is the New York Mercantile Exchange. This is talking 

about people trading in the days after Katrina. What happens in 

an instance like that? I assume you get the same kind of clippings 

that I do. This was sent to me from folks in Oregon. What happens 

in an instance like that? How do you protect consumers when you 

have an allegation like that? 

Mr. OVERDAHL. I have read that quote as well. I have also read 

last Friday’s Wall Street Journal, which had an article about the 

number of people who missed participating in that. 

Senator WYDEN. So there should have been more people doing 

that kind of thing? 

Mr. OVERDAHL. No, what I am saying is—no, no. What I am saying is that there are speculators on both sides of the market. One 

of the things that we observed from our Large Trader Reporting 

System in the days immediately following Katrina is that a lot of 

these people were actually selling their positions. Now, granted a 

number of them made money, and that is how they do their job, 

that they earn a return from providing this service. 

Senator WYDEN. So it sounds okay to you from what you are saying to me? Just part of the market, I take it? 

Mr. OVERDAHL. It is part of—it is a balancing act always with 

these markets. You need the participation of these traders to abVerDate 0ct 09 2002 09:40 Jan 26, 2006 Jkt 109235 PO 25575 Frm 00036 Fmt 6633 Sfmt 6602 P:\DOCS\25575.TXT SENERGY2 PsN: PAULM
33

sorb risk. And the exchanges do limit their participation, but they 

also need those traders to make these markets work. 

Senator WYDEN. Do you contact this person to try to investigate 

if maybe this was not just garden variety markets 101? 

Mr. OVERDAHL. I am not familiar—I am not sure what we have 

done with respect to that particular instance. 

Senator WYDEN. Because it seems to me this cries out exactly for 

the kind of thing you ought to follow up on. This guy is saying people are making out so well they are not going to have to do anything else for the rest of the year. I am going to move on, but at 

a minimum it seems to me you ought to be following this kind of 

thing up. 

The second area I want to ask you about is, I guess we read the 

Wall Street Journal a different way. I heard you say in response, 

I believe it was to a question asked by Senator Bingaman on the 

differential with respect to unleaded gasoline and crude oil, that 

you did not see any big dramatic change. That is not what is being 

reported. 

The Wall Street Journal published a chart showing how the price 

of unleaded gas in the United States had gone up 132 percent in 

the past year, while the price of crude oil had gone up 64 percent. 

So that makes it clear that the oil companies are not simply passing on higher crude oil costs, but they are also adding substantial 

increases to the cost of gas above and beyond the higher crude 

costs. 

Now, that looks to me like price-gouging. I think again it is the 

kind of thing that an agency with a consumer protection portfolio, 

especially given the comments you made earlier, which seemed to 

me to be quite different than what I just read you, it seems to me 

you ought to be following up on. 

Mr. OVERDAHL. Well, with respect to the spread between the refined products and the crude, that is in the futures market itself, 

not in the cash market. My comments were comparing the immediate aftermath of Katrina to what we have observed more generally. Certainly the prices of refined product have gone up, judging from that spread. 

But one of the things I can assure people is that in the futures 

market that there are thousands of traders in these markets, that 

there is no single trader that can have undue influence on those 

prices, and that it is among the most competitive markets that you 

can observe, where every trader—they are sophisticated traders, 

trying to obtain the best price for themselves or for their customers. So it is a competitive market. 

Senator WYDEN. Mr. Caruso, I do not know how many times I 

have heard folks from your agency say that the west coast is an 

isolated gasoline market. That has been the agency’s position again 

and again. But even though the west coast gets no gas from the 

gulf and west coast refineries were not affected, oil companies 

raised prices on the west coast of the United States immediately 

after Hurricane Katrina. 

So if the west coast is geographically isolated from the gulf, as 

your agency has been maintaining, how can the oil industry legitimately justify these overnight price increases for west coast dealers 

and consumers that followed Katrina? 

34

Mr. CARUSO. Well, the market is fungible. 

Senator WYDEN. That is not what you all said. You said we were 

isolated. 

Mr. CARUSO. That is correct. 

Senator WYDEN. Do you want me to give you the quotes from 

your people over the years? 

Mr. CARUSO. No. 

Senator WYDEN. You did not say the markets were fungible. You 

said we were isolated. 

Mr. CARUSO. I think both are true. The west coast is isolated in 

the sense that there is not enough refinery capacity making the 

particular California-grade gasoline to serve that market, so your 

State and Washington as well traditionally have higher prices than 

the national average for that reason and, in the case of California, 

due to higher environmental standards, and, in some cases, taxes. 

Now, once the price of crude oil and other products goes up on 

the NYMEX, it feeds through the whole system without—there are 

no price controls, as you know. So that is largely the reason. 

Just as a small matter, factual matter, for this week’s AAA retail 

prices, for the first time in a long time, the price of gasoline in 

California is about the same as the national average. Normally it 

is between 15 and 25 cents higher. So there is usually some differential. 

The CHAIRMAN. Your time has expired. The Senator’s time has 

expired. Thank you very much, Senator. 

Now we are going to come back to our side. 

Senator Alexander. 

STATEMENT OF HON. LAMAR ALEXANDER, U.S. SENATOR

FROM TENNESSEE 

Senator ALEXANDER. Thank you, Mr. Chairman. Thank you for 

the hearing. 

All of us, like most Americans, wish we could do more to help 

those in the gulf coast. I for one am particularly grateful to the 

hard work of utility crews who worked last weekend to keep Tennessee and other parts of the Southeast from being without gasoline because of the failure of electricity. 

I want to spend my time asking a few questions, particularly, 

Mr. Caruso and Ms. Watson, about what Chairman Domenici 

called, I believe he said, the forgotten commodity, natural gas. We 

talk a lot about gasoline and it is a big problem, but I would suggest—and Senator Johnson and I have done some work on this—

that it is not a bigger problem than the price of natural gas. 

You said, Mr. Caruso, the spot market today is $11.50 per unit. 

What was it 5 years ago, 4 or 5 years ago, in the United States? 

Mr. CARUSO. Just a little over $2. 

Senator ALEXANDER. Just a little over $2. 

Mr. CARUSO. Yes, sir. 

Senator ALEXANDER. And at that time were we the lowest priced 

natural gas in the industrial world? 

Mr. CARUSO. In the commercial world. 

Senator ALEXANDER. And today are we the highest priced natural 

gas in the commercial world? 

Mr. CARUSO. I think so, yes, sir. 

35

Senator ALEXANDER. Just 2 weeks ago I was at a roundtable at 

Tennessee Eastman Chemical Company with 10,000 employees. 40 

percent of their cost is natural gas for raw material, and the price 

was $9.50 21⁄2 weeks ago. In our bill, unlike gasoline, which we 

know is going to stay high, not as high as it is today, we hope, we 

know what to do about natural gas. 

I would like to ask you and maybe you could give me just a few 

broad estimates of which of these steps that we have taken, made 

an effort to change, would actually make a difference in bringing 

down the price, first stabilizing and then bringing down the price, 

of natural gas. For example, what percent of new power plants in 

America have been built with natural gas during the 1990’s roughly? 

Mr. CARUSO. I know from the latter part of the 1990’s until right 

now it has been in the upper 90’s, 98 percent or so. 

Senator ALEXANDER. Almost all. What effect has that had on the 

price of natural gas? 

Mr. CARUSO. It has certainly been a major contributor to the upward pressure on price. 

Senator ALEXANDER. How many nuclear power plants have been 

built in the United States since the 1970’s? 

Mr. CARUSO. The last one I believe was actually ordered in 1978. 

Senator ALEXANDER. So the answer would be none since the 

1970’s? 

Mr. CARUSO. Not since the last part——

Senator ALEXANDER. And if instead of natural gas power plants 

we had had nuclear power plants, what would the effect be on the 

price of natural gas? 

Mr. CARUSO. It certainly would—we would have substantially 

less demand for natural gas today than in the case you mentioned. 

Senator ALEXANDER. Well, the energy bill, which we worked together in a bipartisan way to enact just a few weeks ago, encourages the use of nuclear power and coal gasification, so we could 

have less natural gas. 

Ms. Watson, there is something called Lease 181 down in the 

Gulf of Mexico, is that correct? 

Ms. WATSON. Yes. 

Senator ALEXANDER. Does the President have the authority today 

to draw a line between Florida and Alabama defining what is Florida and what is Alabama on Lease 181? 

Ms. WATSON. Yes, the President has had that authority for quite 

some time, I think about 50 years. 

Senator ALEXANDER. And if the President were to draw that line, 

about how much natural gas reserves are estimated to be available 

on the Alabama side of Lease 181? 

Ms. WATSON. I would have to get back to you with that answer. 

Senator ALEXANDER. Is it a substantial amount of natural gas? 

Ms. WATSON. It is a substantial amount of natural gas in Lease 

181. 

Senator ALEXANDER. So all the President would have to do is 

draw the line and we could start leasing. Is there anything to stop 

us if he draws the line from leasing the area that is in offshore Alabama to produce more natural gas? 

36

Ms. WATSON. I really do not think drawing the line is the predicate, but I think there is a lot of natural gas in the Lease Sale 181 

area. President Clinton thought this was an area that should be 

developed for the benefit of the United States and I think we think 

that the Lease Sale 181 area has a lot of resources that would benefit the American public. 

Senator ALEXANDER. Well, if you have the authority to draw the 

line, then why do you not draw the line so we can drill the gas and 

bring down the price? 

Ms. WATSON. I think we have a 5-year plan that we have right 

now out for public comment. We have asked for comment on all the 

areas that are under moratorium, and we are working with States 

to take a look at that issue that you have raised, as well as others, 

on how we can bring more resources to the marketplace. 

Senator ALEXANDER. Right, but this is unlike drilling off the 

coast of Virginia, where the legislature has said it would like to 

consider drilling. There we do have a moratorium. If you draw the 

line there is no moratorium in Alabama; am I not correct? 

Ms. WATSON. I do not think that is quite accurate. I do not think 

the line is the predicate to that. But I take your point. 

Senator ALEXANDER. Would the opportunity to give States, such 

as Virginia indicated it might want to do, the option to drill for gas 

and oil, but let us say gas, offshore, have the potential to substantially reduce the price of natural gas in the United States? Are 

there much reserves out there, based on what we know? 

Ms. WATSON. We really do not know how much reserves are off 

the coast of Virginia. That has been one of the impacts of the moratoria, is we have not been able to go out there. One of the provisions in the energy bill that was just passed was a direction to go 

out and perform an inventory in the moratoria areas to find out 

what is out there. 

Senator ALEXANDER. I am about out of time. But we do know 

there are substantial gas reserves offshore that we are not allowed——

Ms. WATSON. Based on the information we have now, we do 

know there are substantial resources off our coasts. 

Senator ALEXANDER. And it would be possible to drill 20 miles 

out, so no one could see the rigs, is that not possible to do? 

Ms. WATSON. Yes, you cannot see a rig 12 miles offshore. 

Senator ALEXANDER. Okay. 

One last question. The energy bill provided new authority to 

speed up bringing imported liquified natural gas from overseas. 

Could you comment on whether that will significantly begin to stabilize and reduce the price of natural gas and when that might 

happen? 

Ms. WATSON. Yes, I think Chairman Greenspan and many others 

have testified that import of liquified natural gas will have a beneficial effect on the price of natural gas. MMS has a small role but 

an important role to play in the construction of liquified natural 

gas terminals, and I know there are many requests pending right 

now for the construction of these terminals, and we are working 

with the Coast Guard to get those constructed as soon as we can. 

So we are hard at work at bringing more terminals on and that is 

something we need to do. 

37

Senator ALEXANDER. Thank you very much. 

Thank you, Mr. Chairman. 

Senator CRAIG [presiding]. Thank you, Senator. 

Senator Feinstein. 

STATEMENT OF HON. DIANNE FEINSTEIN, U.S. SENATOR

FROM CALIFORNIA 

Senator FEINSTEIN. Thank you very much, Mr. Chairman. 

In mid-August I wrote a letter to the seven oil companies that 

serve California urging voluntary price restraint. I wrote it to the 

CEOs of those seven companies. I have not had a response. I 

looked at the second quarter earnings of those companies and I was 

very much struck by the enormity of them. I now see the profits 

of the major companies in the first half of 2005 are on track to 

being the highest in 5 years. 

I find this hard to reconcile when everyone knows that the consumer is pushed to the brink. I come from a State with long commutes with no alternatives, and I look at some of these profits for 

the first half of 2005—ExxonMobil, $31 billion, up from $15 billion 

in 2001; ConocoPhillips, $12.1 billion; BP, $20.9 billion; Shell, $20.3 

billion. 

According to Mr. Caruso’s agency, refiners’ margins have grown 

to 40.8 cents per gallon of regular unleaded in 2004, the highest 

level over the past 17 years. Then if you read Credit Suisse First 

Boston, they have just raised the profit margin estimates for U.S. 

gulf refineries by 67 percent to $15 per barrel from $9 per barrel. 

We see the price of oil is going to bankrupt airlines, destroy 

major legacy carriers, and it is just a question of time before it begins to destroy the economy. One of the things I learned in the energy crisis in California is that there is very little consumer loyalty, 

there is very little response to consumers’ needs. I find it inordinately puzzling why there is no voluntary price restraint. 

President Bush before the Gulf War—this is Bush I—urged voluntary restraint. I would hope that President Bush would urge voluntary price restraint, and I would hope if that is not forthcoming 

that this body would move to take action. 

Mr. Caruso, let me ask you the hard question. In your view, is 

there price-gouging now occurring in the oil and gas markets? 

Mr. CARUSO. Well, of course that is not—that is the purview of 

the Federal Trade Commission. 

Senator FEINSTEIN. I ask your view. 

Mr. CARUSO. My view is that in isolated instances at specific retail outlets, based on what I have heard, most likely there have 

been some abuses. On the broad issue of whether there is abuse, 

of course it would require specific investigations. 

Senator FEINSTEIN. What would be the body that would—who 

would——

Mr. CARUSO. The Federal Trade Commission on that issue, and 

then, if it is anti-competitive behavior, the Department of Justice. 

There are substantial numbers of opportunities for consumers to 

report examples of abuse, either through the Department of Energy 

website, through the State attorneys general offices, and a number 

of governors, especially in those States where price-gouging laws 

38

exist. So I think that is the track that this has to take from this 

point. 

Senator FEINSTEIN. Can you answer this question. How many 

States have price-gouging laws? 

Mr. CARUSO. I believe the chairman mentioned 23. 

Senator FEINSTEIN. 23. 

The CHAIRMAN [presiding]. Senator Feinstein, I might mention, 

I think that is the correct number. But I think you should also 

know that they are all over the waterfront in terms of what they 

say. Your State says 10 percent variable, other States just use general words, and none of them have found it very easy to process 

currently, but they are looking at it. But 23 with varying degrees 

of gouging definitions. 

Senator FEINSTEIN. I do not know how one justifies the projections of the annual profits of the first half that I have just mentioned at this time. Gas prices have never been higher in the history of the United States. There clearly is a catastrophe that has 

just taken place. Yet the profit estimates for gulf refineries are all 

going up. 

Can any of you shed any light on what should be done, what options you see out there? 

Mr. CARUSO. As I mentioned, I think if there are abuses taking 

place then the proper authorities within the Government should be 

allowed to—and will—investigate them. 

Senator FEINSTEIN. To the best of your knowledge, have there 

been any investigations begun? Senator Wyden touched on that. 

Mr. CARUSO. Any new ones? I am not aware of any. But there 

have been a number of investigations over the years. Most recently, 

I think the Federal Trade Commission issued a report earlier this 

year. 

Senator FEINSTEIN. Well, my time is just about up, but clearly 

it gives some of us a place to go to begin to demand that these 

prices be looked at, because I think they have reached the point 

where the American worker cannot tolerate the price. 

I come from a two and three-tank a week State, where people 

have to use gas to get to work because there is not another option. 

If you have as much as a $40 increase in a tank it is tremendous. 

It is a tremendous hardship if you use two or three tanks a week. 

So I think we need to get to the bottom of it. I am certainly open. 

I think—somebody mentioned a little earlier that listening to this 

hearing is like the way it was in 2001 with energy prices in the 

Pacific Northwest and in California. Everybody said it is somebody 

else’s fault, and it turned out to be major fraud and major manipulation, and case after case today that is being settled shows that, 

I think as well as anything else. 

So for me, I just want to say the distrust is enormous. I hope 

somebody out there is listening that controls these prices. 

Thanks, Mr. Chairman. I appreciate it. 

The CHAIRMAN. Thank you, Senator. 

Now I am going to come back to my side and I think Senator 

Allen is next. 

39

STATEMENT OF HON. GEORGE ALLEN, U.S. SENATOR

FROM VIRGINIA 

Senator ALLEN. Thank you, Mr. Chairman. I appreciate you holding this hearing. I know it was scheduled before because even before Katrina there was a great deal of concern about the rising cost 

of energy, natural gas and gasoline. 

First, I know that all our thoughts and prayers are with those 

who are suffering and trying to get back on their feet in the gulf 

area and those who are working long hours to get people in Alabama and Mississippi and New Orleans and southeast Louisiana 

back on their feet. 

We do have some considerations here on a variety of fronts and 

concerns that we all hear from our constituents. The issue on pricegouging, let me just give you the Virginia perspective. Our attorney 

general in Virginia, Judy Williams Gogman—under Virginia’s laws, 

you have to have a state of emergency for the gouging prosecutions 

to go forward and so a state of emergency was declared, and she 

actually is investigating questions of gouging where prices at a gas 

station went up 50 cents or more in the same day and the questions on that. So that is being prosecuted. 

The other, larger issue here for policy is what many of you have 

heard me say for months and years now, and that is why this energy bill was so important, that an energy policy for this country, 

and it is now exacerbated by the remnants or the aftermath of this 

tragedy, this catastrophic hurricane. That is how important energy 

is for jobs and our economy. It is important for the competitiveness 

of our country and manufacturing in particular, and also for our 

national security. 

Now, the President in reacting to this situation has suspended 

many laws and regulations, and it is to make more—whether it is 

natural gas and in more cases gasoline more available. He suspended a slew of these regulations that do affect gasoline and refining and distribution to make gasoline more available to mitigate 

these skyrocketing prices. 

Clearly, some of these regulations were having an impact. My 

question really, when you look at this situation, is how many of 

these regulations actually ought to be permanently suspended? 

How many of these laws and rules and regulations ought to be 

modified, and which ones ought to go back into effect once the 

emergency has ameliorated months from now? 

Mr. Caruso or Ms. Watson, do you see any of these regulations 

that you think ought to be permanently suspended? It is amazing 

how many regulations there are. In particular let me bring up one 

where the President suspended the regulation on reformulated 

fuels. The Energy Committee memo points out how there are 100 

different fuel formulations in this country, these special gasolines 

or boutique fuels specifications, and all the fuel-switching rules. I 

know Senator Byrd shares my concern on this. 

These special gasolines cost more to produce and are difficult to 

trade among markets—lack of fungibility. In addition, these fuels 

make the use of existing transportation fuel infrastructure for fuels 

less efficient and correspondingly more expensive to run. These 

costs are passed on to consumers. A large number of fuel types also 

40

limits flexibility in production, distribution, particularly if a disruption occurs. 

Would you think that a modification or permanent suspension of 

that rule or some sort of modification would be appropriate? I note 

in the second panel the AAA has this as one of their recommendations. What would either of you care to say on suspending or modifying that regulation and coming up with maybe eight, ten different fuels, because we have such tapped-out, fully utilized refinery capacity here in this country, that if you had fewer types of formulations there would be less costs to the consumers? Would either 

of you care to share any of your perspective on that? 

Mr. CARUSO. Thank you, Senator——

Senator ALLEN. Or any other regulation you think ought to be 

modified or eliminated? 

Mr. CARUSO. Thank you. I think it is an accurate statement to 

say that this phenomenon of boutique gasolines does reduce flexibility. There is no question about that. The point that you made 

about transportation and the inability to use one fuel in a different 

market makes it particularly difficult in a time like this and in a 

time of tight markets. So there are clearly some benefits to reducing the number of types of gasoline. 

However, there are, as with anything in the case of these types 

of environmental requirements, tradeoffs between the environment 

and in this case supply flexibility. 

The other issue with respect to a single or a smaller number of 

types of gasoline, if you were to impose one standard or several 

standards it could of course raise the costs in those regions where 

perhaps they are using those fuels which require a lower cost of refining. An example would be RFG, reformulated gasoline, which 

probably costs 7 or 8 cents a gallon more. 

Senator ALLEN. Let us assume you picked one or two or at most 

three reformulated fuels for nonattainment areas and then another 

fuel for those that are in attainment as far as air quality is concerned, thereby coming up with in that case about four, and then 

you have the three different grades—premium, midgrade, and 

lower octane. Would that not reduce the cost of gasoline and also 

to some extent alleviate the pressure we have on our limited refining capacity here in the United States? 

Mr. CARUSO. It certainly would be worth looking into, and I believe that the EPA, after the passage of EPACT 2005, is doing just 

that, Senator. 

Senator ALLEN. We may want to do it more quickly. 

Mr. CARUSO. Yes, sir. 

Senator ALLEN. I have 13 seconds left. I want to associate myself 

with Senator Alexander’s remarks. Let me ask you right quick, Ms. 

Watson, in all those damages out there on the gulf coast on the oil 

rigs, were any of them damaged by Katrina that resulted in oil 

spills? 

Ms. WATSON. No, so far our investigation has shown no oil spills 

from any damage to the platforms. All the safety systems that we 

have which shut off oil both at the surface and at the seafloor 

worked to prevent that. Of course we are still going out to investigate, but so far we have seen no oil spills in the Outer Continental Shelf. 

41

Senator ALLEN. Thank you. 

Thank you. 

The CHAIRMAN. Thank you very much, Senator. 

Now, we are going to go to Senator Dorgan. Then, on our side, 

Senator Murkowski, you are next. 

STATEMENT OF HON. BYRON DORGAN, U.S. SENATOR

FROM NORTH DAKOTA 

Senator DORGAN. Mr. Chairman, thank you. Let me make just a 

couple of comments with my time. 

My neighbor filled up his car and his son’s car yesterday, 15 gallons in each car, and it was $103. The American people understand 

that kind of sticker shock with what has happened with the price 

of gasoline. I acknowledge that the hurricane has caused enormous 

difficulties. But this hearing was called before that hurricane. The 

price ramp-up occurred before that. 

One of my colleagues gave a rather spirited defense of the oil industry. Let me give a spirited defense of the consumer just for a 

moment. Let me also say that the energy bill that was signed into 

law does require the Federal Trade Commission within 90 days to 

begin an investigation of gasoline and oil prices. I wrote that provision. It stayed in in conference. But having the FTC do this hardly 

gives me a great deal of hope. I wrote the piece, but their past experience does not give me a great deal of hope. 

But let me say this. Markets. This is not a free market, just not 

a free market. First of all, we have got revenue-sharing from the 

American taxpayer to the Saudis and Kuwaitis and Venezuelans 

and Iraqis and others. Second, it is not a free market domestically. 

It is a market with clogged arteries. It is a market with OPEC pricing. It is a market with a much more concentrated domestic oil industry through mergers and acquisitions. It is a market with rampant speculation, much more than is necessary for just liquidity, Dr. 

Overdahl. It is a market in my judgment with massive windfall 

profits as well with the major integrated oil companies. 

Now, the question is: where is the pain and where is the gain 

in all of this? Let me show you where the gain is, if I can have a 

chart held up. My colleague from California, Senator Feinstein, referred to this. But this shows you in 2002 a $20 billion net income 

for the industry and it shows you where it is going. This year it 

is going to be well over $100 billion at current rates. 

So who is paying for all of this? Of course the consumer is paying 

at the gas pump. Now, with the major integrated companies moving all the way from digging in the ground to selling at the pump, 

they have enormous capability and capacity to price. 40 percent of 

that which we use, 21 million barrels a day, 40 percent is domestic. 

In the last 18 months the price of oil has increased by over $30 a 

barrel. If 40 percent of our domestic production, 40 percent of the 

usage, rather, is domestic, at $30 a barrel, that means the domestic 

industry, oil industry, is profiting, profiting above that which it 

previously profited, which was record profits, is profiting at $7 billion a month, $7 billion a month, $80 billion a year. Those in my 

judgment are windfall profits. 

42

I suppose we can look at this in different ways. Let me say that, 

yes, there have been errant public policies. That does not justify 

the current price and the current run-up in the price of gasoline. 

Now, I propose and will propose tomorrow and introduce in the Congress a Windfall Profits Rebate Act which will set a $40 target 

and impose an excise tax above that for the purpose of rebating to 

consumers. We can sit around and talk about this. There are a 

hundred reasons, I suppose, that people will have that this will not 

work, it should not be done. The question is are you going to do 

nothing while we have an industry that is going to reap about $80 

billion in windfall profits on a yearly basis? Are you going to say 

that is fine, just ignore it, it does not matter, and then have the 

American people pay it at the pump? 

There is a big difference in where the gain is and where the pain 

is, and I think this Congress needs to stand up, not only for good 

public policy—yes, for good public policy—but also for the interests 

of the American consumer. That has not been the case for a long, 

long time when it comes to energy. 

Again, we hear all this nonsense about markets. This is as far 

from a free market as about anything I know. There is just nothing 

free about this market. You have OPEC countries. You have a substantial amount of the oil on this little planet that is under the 

sands in a small area. You get a bunch of people around a table 

and they decide how they are going to deal with price and also with 

production. Then about 40 percent of that which is produced in this 

country and sold in this country is sold by increasingly concentrated markets from mergers and acquisitions and fewer and 

fewer and fewer big companies that also set price. 

I understand, Mr. Overdahl, what you are talking about with respect to the markets and the need for liquidity. I also understand 

and have studied tulipmania and all the other speculative bubbles 

that have occurred. I think what we have here is excess speculation 

and I think the consumer is injured as a result of it. 

So the question is not whether we do something, the question is 

what do we do. Most likely the Congress will do little or nothing 

and talk a great deal and hold hearings. But I think, I submit that 

we should at this point embrace a Windfall Profits Rebate Act and 

give the consumer some relief. 

I would exempt from a windfall profits rebate, from the taking 

as a result of windfall profits, I would exempt that that is going 

to be invested in additional production or that that is going to be 

invested in additional refineries. But take a look at what is happening in the industry today and you will see oil companies buying 

back their stock, among other things. Do you think that advances 

the interests of additional supplies, energy supplies for the consumer? It does not. 

Again, we can sit around and gnash our teeth and wring our 

hands and mop our brow about this, but I do think while we do 

it there are people driving up to the gas pumps, paying extraordinary prices that are not justified by this so-called perverted market. I intend to introduce a bill tomorrow dealing with the Windfall 

Profits Rebate Act. 

Now, several of my colleagues have made important and interesting points and let me say that we are a country that is hopeVerDate 0ct 09 2002 09:40 Jan 26, 2006 Jkt 109235 PO 25575 Frm 00046 Fmt 6633 Sfmt 6602 P:\DOCS\25575.TXT SENERGY2 PsN: PAULM
43

lessly addicted to oil. We need to find ways, and the chairman and 

I and others, and Senator Akaka and even President Bush, who 

talked about moving toward a construct in which we do not have 

to keep running gasoline through our carburetors or fuel injectors. We have a $3.7 billion title in the energy bill we just passed 

dealing with hydrogen fuel cells and that is a significant step forward. We have to remove this addiction we have. But in the short 

term, at the moment, we also have to stand up for the interests of 

the American consumer. Frankly, I think there is price-gouging in 

some areas. I do not allege that is the case in every circumstance, 

but I do believe this: This market is perverted, its arteries are 

clogged, this is not a free market, and the result is an extraction 

to the tune of $80 billion a year that is excess or windfall profits 

above record profit levels that already existed for this industry. I 

believe the Congress has a responsibility on behalf of consumers to 

do something about it. 

Mr. Chairman, thank you for allowing me to make my say here. 

It is therapeutic for me at least. 

The CHAIRMAN. Thank you very much, Senator. 

Now we are going to come back to our side and see if Senator 

Murkowski has questions and/or a statement. 

STATEMENT OF HON. LISA MURKOWSKI, U.S. SENATOR

FROM ALASKA 

Senator MURKOWSKI. Thank you, Mr. Chairman. I too appreciate 

you bringing this hearing as quickly as you have today, recognizing 

that this was on the table even before Katrina. I do hope that my 

colleague who has just spoken is wrong, that we do more than just 

have the hearings and do the talk, because that is not what our 

constituents want. That is not what the American consumers want. 

There comes a point when they say: Enough, we have had enough already. Whether it is paying $100 for the 2 cars at the gas 

pump—or is that the point where we say we are expecting, we are 

demanding, our Congress, our administration, the industry, to get 

together and do something about it? I think we are at that point. 

When world oil prices are $67 a barrel, Americans are paying 

$288 million a day more for fuel than we did this time last year. 

Those numbers kind of get your attention. We are paying a billion 

dollars a day more for fuel than we did 3 years ago, and this is according to the Oil Information Reporting Services. At some point in 

time, this starts affecting more than when you just go to the gas 

pump and see it ticking up and up and up. It is affecting us in our 

businesses. It is affecting the price of transporting our kids to 

school. It is affecting everything we do and how this country operates. So we get to the point where we say enough is enough. 

Now, we recognize that there are things that we can do. We look 

at the energy bill and we can cite to some of the things that we 

are doing to encourage more refineries, because we know that if 

you have the product, if you have the oil, but you do not have the 

capacity to do anything with it, we are in a world of hurt. 

But one of the things that I think Katrina has pointed out to us 

as a Nation is our vulnerability of having our energy resources to 

a good extent sitting in one part of the country. We have got 29 

percent of our oil coming out of the region, 21 percent of our gas 

44

coming out of the region. In terms of our refining capacity, we had 

10 percent of our Nation’s refining capacity shut down because of 

one incident that Mother Nature has wrecked upon us. 

We are just in the beginning of the hurricane season. What happens if we have another hurricane? What happens if there is labor 

unrest in Nigeria? We cannot be so bold as to say this is the end 

of the big crisis. I guess it was The New York Times this weekend 

running an article about the possibility of $100 a barrel oil, and we 

have to recognize that that is not so far out of the realm of possibility. 

But is that something that this country can sustain? I cannot sit 

before you today and not suggest that we need to do more to diversify our domestic resources. You all know that, coming from Alaska, that means ANWR, and what would another million barrels a 

day mean to this country if we had ANWR? We have got to be 

thinking about just those opportunities, and they are opportunities. 

Mr. Caruso, I want to ask you a question just in terms of what 

we can tell our constituents. They want to know, what are you 

doing about the price of oil, when is the price of gasoline going to 

be going down? In your comments you have indicated that in the 

third quarter coming up we are going to see a drop, I think you 

said around $2.60, and then in 2006 you said it was about $2.40. 

Now, you have cited in your written testimony some concerns 

that Senator Bingaman started to point out that we need to be 

looking at. You have mentioned the issue of the refinery outage 

problems, what we do, how we reckon with that, and is this something where we can actually time the outages so we do not see such 

a hit. But what about the volatility due to the MTBE issue that 

you have raised? 

You also bring up the potential supply problems due to the ultralow sulfur diesel program kicking in. There are some things out on 

the horizon that would seem to make the picture that much more 

bleak in terms of price to the consumer. So instead of seeing a drop 

in the price, quite potentially we are not going to see a drop and 

in fact it just continues to go up for the consumer. 

Am I missing something, or what do we need to be doing different to make a difference to the consumer? 

Mr. CARUSO. Well, you are correct, the risks are there for even 

higher prices. The prices you quoted are from our medium recovery 

case, which assumes things go reasonably well. With respect to the 

point you mentioned, there are some concerns about the phasing 

out of MTBE and how that might affect the volumetric output of 

our refineries, given the behavior we have seen so far; and the 

point that Senator Bingaman mentioned about the ethanol requirements; and then ultra-low sulfur diesel. All three of those potentially will put further strain on our refinery system. 

Senator MURKOWSKI. Do you factor these into your mix when you 

have come up with your $2.40 barrel for 2006? 

Mr. CARUSO. Yes. 

Senator MURKOWSKI. A gallon, excuse me. 

Mr. CARUSO. These estimates are based on, as I say, things going 

reasonably well. The point you have made is that there are certainly potentials for things going wrong. But this is the medium 

case, and we have a higher price case and a lower price case. So 

45

the risks certainly, as we have seen, are there when you are operating a system as close to full capacity, as we are. 

Senator MURKOWSKI. What does Katrina, or not even Katrina—

given what we are faced with today and the prices that we are 

looking at, what can we anticipate then as consumers for home 

heating oil for this winter? 

Mr. CARUSO. I mentioned in the statement that we are looking 

right now at about a 30-percent increase this winter for heating oil. 

Senator MURKOWSKI. Thank you, Mr. Chairman. 

The CHAIRMAN. Thank you, Senator Murkowski. 

Senator Johnson, it is your turn. Senator Johnson is not here. 

Senator Cantwell. 

STATEMENT OF HON. MARIA CANTWELL, U.S. SENATOR

FROM WASHINGTON 

Senator CANTWELL. Thank you, Mr. Chairman, and thank you 

for holding this hearing and for your opening comments about the 

bipartisan nature of the energy bill. I certainly went home and 

trekked across the State talking about tax credits for wind energy 

and biodiesel and a variety of other things, and found many people 

in my State very excited about those tools and the implementation 

of them. 

But I also found many Washingtonians very concerned about the 

high price of gasoline. As my colleague from Oregon has already 

stated, Washington, Oregon, and California pay some of the highest 

gas prices in the country. In fact, over the last 36 months we have 

gone from $1.30 a gallon to almost $3 a gallon in the Seattle-Puget 

Sound area. Just this weekend as I was traveling back across the 

State, in one of our rural communities, I paid $3.29 a gallon to fill 

up my car. 

So I can guarantee you that we are seeing an impact. This chart 

basically shows you what that impact has been on the Washington 

economy, and the red line just keeps going up and up and up and 

up. 

So consumers want to know what we are going to do about this. 

They want to know what we are going to put in place. For an economy that has already been wrecked by electricity markets, that at 

the beginning of the energy crisis we were all told that, well, it is 

just about not enough supply and it is just about these regulations 

and it is all about things not being put in place, only to find out, 

basically after my own constituents did the investigation, that market manipulation happened. 

So my constituents are very well aware of the payments being 

felt and they are very confused by going through the same dilemma 

this time about gasoline prices. They are very frustrated by the fact 

that someone would suggest that the FTC, as an oversight entity, 

would help solve this problem. 

In fact, in 2004 an argument broke out between the FTC and the 

GAO. Basically, they issued dueling reports about whether mergers 

and consolidations of the oil industry raised prices, and the FTC 

concluded that it had little impact, while the GAO said that increased market concentration generally led to higher gas prices in 

the United States. 

46

So they want to know, who is in charge of doing something about 

the high price of gas. Dr. Overdahl, I will have some questions for 

you about the CFTC and their role and responsibility, because as 

far as I am concerned there is a lack of transparency in the energy 

markets as it relates to what happens on the NYMEX and how we 

are looking, or I should say not looking, at physical deliveries. 

Everything we found out about the Enron market in electricity 

only was found out by digging deeper and deeper into the records, 

into phone conversations, and proving the case. I think everybody 

knows that any type of DOJ or FTC investigation takes, not 

months, but years. So are we going to allow the consumers to continue to be gouged while we are doing this? I suggest not. 

Now, another element of this dilemma, if I can indulge my colleagues, is the fact that we also have zone issues. Here is a gas station in Seattle selling unleaded at $2.77 a gallon. That was on September 1. Just less than a mile away or a couple miles away in Seattle, the same brand of gasoline selling at $2.97. So we are talking 

about a 20 cent difference in the same brand of gasoline in two different locations. 

So consumers definitely want to know what is going on. So I suggest, Mr. Chairman, working with my colleagues in the same bipartisan fashion that we worked on the energy bill, that we ought to 

consider this. In fact, I plan to introduce legislation regarding such, 

that: one, we reinstate the state of energy emergency powers given 

to the President of the United States in the 1970’s, that basically 

we allowed to expire in 1981. This state of energy emergency powers to the President gave the President the ability, similar to what 

States have, to look at this issue of price-gouging and to figure out 

remedies of what level of increase is realistic. 

Second, that we also give the President more ability to look at 

transparency of wholesale gas prices. As I just pointed out, I do not 

believe that the FTC or the DOJ can move fast enough to even investigate and to stop this issue. If you think back to where we were 

in the electricity markets, we started making these claims in January 2001 and finally in June 2001 we finally got the Federal energy 

regulators to act in putting in price mitigation measures. I think 

that most people would agree that they were effective at stopping 

the rapid increase of prices. 

Third, I believe that this investigation of zone pricing also needs 

to be looked at, given that we have such disparity. If we get to a 

point that the price continues to rise, I believe that price mitigation 

similar to the energy markets ought to be implemented as well. 

The American consumer is paying a great price and I think that 

today’s hearing is just another example of how you each have responsibilities, but no one has the clear oversight and responsibility 

to protect consumers today. So I recommend to my colleagues that 

we reinstate this legislation that was actually passed by my predecessor, Senator Scoop Jackson, and implemented, and it was a tool 

used by several Presidents in trying to address at that point in 

time the energy crisis that was felt in the 1970’s. 

Now, if I could, I have a question for you, Dr. Overdahl, and that 

is about the CFTC and the ability that the futures market has on 

setting price. If I look at prices in Seattle I say, well, gee, what it’s 

costing to produce is not that much more, the oil that we are getVerDate 0ct 09 2002 09:40 Jan 26, 2006 Jkt 109235 PO 25575 Frm 00050 Fmt 6633 Sfmt 6602 P:\DOCS\25575.TXT SENERGY2 PsN: PAULM
47

ting out of Alaska, but it is a lot more expensive to the refineries, 

the four refineries that we have in Washington State. So why is 

that? And then you look at this futures price and helping to set 

what is considered the market-clearing price, or obviously being a 

reflection of the world oil price. 

So what about it? What about actually tracking physical deliveries, understanding what is happening with those physical deliveries, what the payments and costs are on those physical deliveries? Do you believe that we should be doing that? 

Mr. OVERDAHL. Thank you for that question. In the futures markets themselves, we of course do track the physical deliveries to the 

contracts that are under CFTC jurisdiction. The CFTC is not the 

regulator of over the counter markets, not the regulator of forward 

markets or cash markets. Much of that in the cash markets would 

come under the domain of the FERC. Our job is to protect the market integrity and to preserve the hedging and price discovery performance of the futures market, and we believe that the tools we 

have allow us to do that. 

The CHAIRMAN. Thank you very much. Senator, I think your time 

has expired. 

Senator CANTWELL. Yes, my time has expired, Mr. Chairman. 

The CHAIRMAN. Now, on our side, I would just make an observation so we do not have any disputes on our side. We are going to 

let Senator Smith, who has an immediate need to leave, go next. 

The way I understand it, Senator Bunning would have been next, 

followed by Senator Thomas, and then Senator Smith. So we are 

going to let Senator Smith go ahead of both of them, if that is all 

right with Senator Bunning and Senator Thomas. Then the order 

will be Senator Smith, Senator Thomas and then Senator Bunning. 

Senator Smith. 

STATEMENT OF HON. GORDON SMITH, U.S. SENATOR

FROM OREGON 

Senator SMITH. Thank you, Mr. Chairman, and I thank my colleagues for their indulgence. I think all of us are appreciative of 

your leadership in holding this hearing. You began the hearing by 

indicating that this committee did not have jurisdiction over the 

FTC. I want my colleagues to know that the Commerce Committee 

has that jurisdiction and I chair the subcommittee over the FTC. 

We will soon—in fact, as I speak we are scheduling hearings on 

this very issue of the FTC. 

I also want to express my sympathy to the people affected by 

Katrina. It is not in the province of the Congress to repeal acts of 

nature or certainly the avarice of the few. But it is in our province 

to try and deal with, as best we can, a dire emergency, and certainly one of the consequences of this emergency is the high price 

of energy. 

I have heard some of my colleagues today talk about remedies 

tried in the past, price controls, excess profits taxes. I am old 

enough to remember the disastrous consequences when the Nixon 

administration pursued price controls. They did not work. I remember as a law student on a very short budget when Jimmy Carter 

pursued excess profits taxes, and I remember the gas lines in 

southern California. That did not work either. It may feel good in 

48

the short term, but it does not feel very good when you are waiting 

in a gasoline line for many, many hours, which I did on many, 

many occasions. 

Nevertheless, there is a point at which we have to figure out 

what can work. We know what history tells us did not work and 

we have heard some of the things proposed today that clearly will 

not work. 

But I was one of those Senators—I think I may have been the 

only Senator with Senator Feinstein who proposed Federal intervention in the energy crisis in California and the Pacific Northwest 

to do something, for FERC to do something. What we are looking 

for right here is the tools of what best to do. I will defend free markets all day long. I will not defend a rigged or broken market. The 

question I think many Americans are having is if in fact we have 

a broken market. 

It seems to me that the FTC is not aggressively enough pursuing 

the issue of price-gouging. That gouging in my mind does not represent a free market. It represents fraud in many cases or manipulation in a fashion that victimizes the most vulnerable people in 

our society. We should not spend 1 minute defending those kinds 

of activities. 

I suspect when all the facts are out we are going to find many 

instances of manipulation and fraud. That is the kind of thing the 

FTC should be pursuing much more aggressively. 

The question I have for you, any of you can comment: Are there 

any benchmarks that you know of that the FTC uses to trigger the 

90 days and the Justice Department pursuing price-gouging and 

manipulation? I do not know of any and I am wondering if anyone 

here does, because, frankly, there ought to be a level at which an 

investigation is triggered, and I am not sure that that exists. 

Do any of you have any knowledge of that? 

[No response.] 

Senator SMITH. Do any of you have any knowledge of a State law 

that does set a benchmark that triggers an investigation? 

[No response.] 

Senator SMITH. I do not know that either. But these are the kind 

of questions we are going to be investigating in our hearing in the 

Commerce Committee, because there needs to be a benchmark to 

trigger this kind of thing that can help us identify free markets 

versus manipulated markets, because I do not think that that currently exists. 

The question of burden of proof. Do any of you know who has the 

burden of proof when the Justice Department initiates an action? 

I suspect I know the answer and I suspect you do as well. 

[No response.] 

Senator SMITH. It is the Government that has the burden of 

proof. But I am wondering if perhaps the most effective thing we 

could do is to change the burden of proof from the Government to 

the person or the company or the manipulator who is actually pursuing these kinds of trades or is guilty of it. It seems to me we 

need a mechanism far quicker, far more efficient, that can help to 

keep downward pressure on fraudulent and manipulative activities, 

because I think that there may be the key for providing some relief 

to the American consumer, because what we have got now just is 

49

not cutting it, and I think a lot of people all over the country, as 

Senator Feinstein said, are deeply, deeply suspicious. They support 

free markets. They simply will not be quiet, though, when they feel 

like they are victims of fraud, and I think we may be at that point 

with many members. 

But again I want to say, price controls and excess profit taxes, 

I know what those mean. I remember being a student when those 

things were tried and I remember how disastrously ineffective they 

were to the American consumer. 

So, Mr. Chairman, know that we are going to pursue this in the 

Commerce Committee. The FTC, if they do not have the authority, 

they are going to get it. If they are not acting, then we need somebody that will act, because I think that the American people right 

now are being victimized more than any free market would warrant. 

Thank you, Mr. Chairman. 

Senator THOMAS [presiding]. Do you yield back the time? 

Senator SMITH. I yield it back. 

Senator THOMAS. Senator Salazar. 

STATEMENT OF HON. KEN SALAZAR, U.S. SENATOR

FROM COLORADO 

Senator SALAZAR. Thank you, Senator Thomas. To both Senator 

Bingaman and to Chairman Domenici and to the members of the 

committee, I just want to say thank you again for the great bipartisan effort and the great work of staff on the energy bill. It was 

a good product and I talked a lot about it while I was in Colorado. 

Let me say that I was very much looking forward to this hearing 

because I think that what my colleagues have said time and time 

again is very, very true, and that is that there is pain at the pump 

and there is pain in every American family and in every American 

business. I think that our taking some action in putting a spotlight 

on this issue that is affecting America today is something that is 

very important for us to do. 

I for one am particularly concerned also about the impact that 

the high rising costs of gasoline and diesel is going to have on 

America’s farmers and ranchers. We are in the midst of harvest 

season all across America today, and wherever I have gone in Colorado I have talked to farmers and ranchers who believe that they 

are possibly going to lose their farms and ranches simply because 

gas and diesel prices are so high. 

I talked to one farmer who has spent more on his diesel prices 

than he is going to get out of his product this year alone. Certainly, 

when they were putting together their financials for their bank 

mortgages last year and for their operating lines, they were not anticipating that they were going to have this 200 percent plus rise 

in the cost of diesel. 

So I have asked Chairman Chambliss and Senator Harkin from 

the Agriculture Committee to hold a hearing with respect to how 

these high rises on fuel costs are going to impact agriculture in 

America. 

Second, let me ask a question to you, Mr. Caruso. That is, I am 

quite frankly at a loss about how your agency operates, because 

when I look back at the figures that you gave to us back in SepVerDate 0ct 09 2002 09:40 Jan 26, 2006 Jkt 109235 PO 25575 Frm 00053 Fmt 6633 Sfmt 6602 P:\DOCS\25575.TXT SENERGY2 PsN: PAULM
50

tember 2004, it appeared to me that you were predicting that for 

this quarter or the upcoming quarter that we would be buying 

crude oil at about $34 to $35 a barrel. You were looking at the purchase of regular unleaded at $1.83, $1.73 in the third and fourth 

quarter of this year. 

Obviously, we have missed the mark by some huge numbers. In 

fact, almost everywhere that I have gone in Colorado I think it has 

been over $3 a gallon over the last several weeks. Much of this preceded Katrina. I was on a western slope town a week or so before 

Katrina and I saw $3 a gallon gasoline for the first time in my life. 

So my question to you as the person that is supposed to guide 

the United States of America, the Department of Energy, this Congress, with respect to looking ahead, how is it that we could have 

missed the mark by so much? Instead of having $1.75 or so gasoline today, we actually have $3 to $4 price for a gallon of gasoline. 

How is it that we could have missed the mark? Do we have a problem with our modeling? What is the issue? 

Mr. CARUSO. Well, I think it is the problem of any forecaster, 

that there are certain things that you cannot predict. Obviously, 

Katrina is one, but clearly there are other issues with respect to 

the numbers you have mentioned. We certainly try to look at the 

best estimates of what economic growth would be, what the best estimates of world crude prices would be. 

Senator SALAZAR. If I may, Mr. Caruso, though, we have been 

sitting in this Energy Committee now for the last 7 months looking 

at the charts of what our domestic production is, looking at what 

has happened in the last 30 or 40 years. It seems to me that we 

have a pretty good sense about what our supply side is going to be 

like. We also have seen what has happened with all of the information that we have on the increasing demand side of oil consumption 

here in our country and some of the global factors related to China 

and India coming into the marketplace. 

As the energy expert of the country, it seems that you would 

have had all those factors in mind, or should have had them, a 

year ago. So, being the expert that you are, much more of an expert 

on energy pricing than I am, I do not understand how we could 

have missed the mark by as much as we did. 

Mr. CARUSO. Well, it is a humbling experience, Senator. The only 

thing I can say in reference is, what is the benchmark? What were 

other forecasters saying then? I would say that we were probably 

on the higher end of others in the consulting business or others 

that published forecasts. 

Senator SALAZAR. Mr. Caruso, I guess the request that I would 

make of you is to take a look at whether or not the model that the 

EIA is using is a correct model or whether there are changes that 

would be more predictive. That would help us figure out these longterm prices of energy as you are making those forecasts to us. 

Let me change the subject and ask you another set of questions. 

I very much appreciated the remarks that were made by Senator 

Domenici and Senator Bingaman in terms of looking at a whole 

host of issues that we might take to try to address the issue of high 

gas and diesel and energy prices. I heard some of my other colleagues comment about how part of what we need to do is go out 

and increase supply, and that may be part of the answer here. 

51

But at the end of the day, if we are going to deal with making 

some savings from the consumption of energy within our country, 

I heard Senator Domenici talk about encouragement of conservation, new CAFE standards, as something that we might look at. I 

have seen also another piece of legislation that essentially would 

put in a temporary freeze with respect to gas prices until supplies 

are restored to pre-hurricane levels. That is a piece of legislation 

that Senator Levin is introducing, I think today. 

Talk to us just a little bit about what would be the effect on gasoline prices and energy prices if we were able to reduce consumption 

by, say, 5 percent or 10 percent? What would be the impact on 

prices? 

Mr. CARUSO. Well, certainly any reduction in demand should 

have an impact on price, assuming that the supply is there. We 

have benchmarks for that and I would certainly be happy to provide the results for the record. But it is clearly, as you pointed out, 

important to deal with this issue from both sides, supply and demand. 

Senator SALAZAR. I know my time is up, Mr. Chairman, but could 

I just ask a follow-up on that? 

The CHAIRMAN. Yes. 

Senator SALAZAR. In terms of just the concept of the reduction of 

consumption, how does that follow what happens in terms of the 

price of gasoline, based on your background and expertise on this 

issue? 

Mr. CARUSO. Well, the price elasticity of gasoline is extremely 

low, so that indeed in the short run there would be relatively small 

changes to consumption. But in the long run, we would expect that 

something like a 10 percent reduction in consumption could make 

a significant difference. I would certainly be happy to provide the 

numbers to you, Senator. 

[The information referred to follows:]

The Energy Information Administration (EIA) estimates that the short-term 

changes in gasoline prices have only a small impact on gasoline consumption. For 

example, EIA estimates that if gasoline prices were to increase by 100 percent for 

a period of six months consumption would only decrease by about 7 percent. This 

is due to the fact that the stock of automobiles changes very slowly and, therefore, 

higher prices can only affect driving habits in the short run and not the choice of 

cars.

Senator SALAZAR. I would appreciate that very much, Mr. Caruso. And thank you for your testimony here today. 

[The prepared statement of Senator Salazar follows:]

PREPARED STATEMENT OF HON. KEN SALAZAR, U.S. SENATOR FROM COLORADO

Thank you, Mr. Chairman, for holding this hearing. I want to just take a minute 

to quantify the problem we face. Based on government numbers, in Colorado, the 

average driver drives about 14,000 miles per year and the average family drives 

about 27,000 miles per year. One year ago today, the average price for a gallon of 

gasoline in Colorado was $1.81, but today the average price for a gallon of gas in 

Colorado is $3.10. For an average driver, that will mean $900 more spent on fuel 

in the next year. For the average family, that will mean $1700 (one thousand seven 

hundred) more spent on fuel in the next year. That is a lot of money. 

And this problem is hurting our farm communities even more. In Colorado the 

farming communities are being hit much harder than the average American, because it is now harvest time. At harvest time our farmers have to use a large 

amount of fuel to harvest their crops. I have been receiving an increasing number 

of phone calls from Colorado farm groups whose members are extremely concerned 

52

with these rapid, rising costs. It is my understanding that one farmer in Kit Carson 

County will need an additional $46,000 more for fuel costs alone just to be able to 

harvest this year—that is not including any surcharges he might be charged for this 

fuel. I have also heard that a farmer in Morgan County has been turned down for 

additional loans at banks to cover these costs because they are already overextended 

with their existing loans. 

Mr. Chairman, everything I do in Washington is based on what I think the people 

in Colorado want me to do—from Wray to Grand Junction, from Fort Collins to 

Trinidad. I have been busy touring every corner of my state this past month talking 

about energy and the energy bill. And the message I have come back with from 

every corner is clear: Coloradans want transparency and fairness with the way 

prices are set at the pump. This was what they asked me for before Hurricane 

Katrina, and their message is even stronger now. 

Mr. Chairman, I know how we got ourselves in this position: years of malignant 

neglect. Just last month the Energy Bill was signed into law, and while it is a respectable bill—and one that I support—it is clear we must do more. 

For years DC has closed its eyes to the rising demand for oil in our country, and 

instead of working to reduce that demand, we have only worked to increase its supply. 

By temporarily reducing our national supply, the effect Katrina has had on the 

price of gasoline is really just an indication of things to come. If America’s demand 

for oil continues to increase as it has in past years, prices will continue to go higher 

and higher, hurricane or not. What the hurricane has done to gasoline prices is simply accelerate the process. 

We cannot drill our way out of this problem. 

The current administration is singing a tired song, and will continue to do so in 

the weeks to come: they will say that if we just drill in more places, and drill faster, 

then the increase in supply will overcome our demand and prices will go back down. 

But this is not the case, as any earnest look at the numbers will show. China and 

India continue to consume more oil while production world wide is steadying and 

even declining. I repeat, we cannot drill our way out of this problem. We cannot 

go on with business as usual. 

The long term solution is clear: we need to reduce our dependence on foreign oil. 

And that means we need to consume less. But an administration in league with the 

big oil producers won’t look to this approach. Measures to reduce our dependence 

on foreign oil were adamantly opposed by the President—both the aggressive oil security amendment that I cosponsored, and even the weak oil savings clause that 

passed the Senate. Neither of these provisions made the final bill. 

Mr. Chairman, I look forward to this hearing, and I look forward to learning some 

real answers to the very real problems we are facing.

The CHAIRMAN. Thank you very much, Senator. 

Senator Thomas. 

STATEMENT OF HON. CRAIG THOMAS, U.S. SENATOR

FROM WYOMING 

Senator THOMAS. Thank you, Mr. Chairman. Again, thank you 

for this hearing. We are all very concerned about where we are. 

You have heard a great deal about the concerns from the members 

here. 

The purpose of this hearing as I understand it is to look at some 

ways, to find some ways that we can have an impact on this price 

in the short term. We have been dealing with policy. I think we 

have a policy out there, but that is a long-term policy. I am very 

happy about it, but that is not going to change things in the short 

term. 

You have been invited here because you are experts in this area. 

So I am going to switch it around and, instead of talking about my 

concern, I would like to ask each of you to give me your top three 

things you would do. What things could we do to have an impact 

on this price short-term? 

Ms. Watson? 

53

Ms. WATSON. Well, I am afraid that my agency is more in the 

long-term business. We manage the offshore——

Senator THOMAS. But the issue here is what can we do in the 

short term. How about sharing that with us? Do you have any 

ideas at all? 

Ms. WATSON. Well, I think that the energy bill has pointed us 

in the right direction. We need to increase our domestic supplies. 

That is in our control. I think that what the bill has pointed us in 

the direction is the right way to go, and I think we need to develop 

those supplies in ANWR, offshore, on the continental lands, and we 

need to increase our capacity to deliver those through refineries. 

The President has talked about the need to create refineries. Those 

are the types of things that will help bring down price. 

Senator THOMAS. You want to increase production. You want to 

do something about refineries. I am asking you for three things. 

Shorten it up, and if you can write them down. We want three 

ideas from each of you as to what you would do. 

Ms. WATSON. I think to look at the reduction of the different 

types of reformulated gas that one of the other Senators brought 

up is a good area to look at to reduce the complexity there. 

Senator THOMAS. Okay, all right. Let me just say that we constantly hear it is not the supply of oil that is the problem, it is the 

refining capacity. That is what we hear, at any rate. 

Mr. Caruso. 

Mr. CARUSO. I think in the very short term response to the crisis, 

as the President and many of you have indicated, and as Mr. 

Salazar’s question implies, consumers need to respond in a way 

that reduces consumption. 

Senator THOMAS. You do not mean changing the consumption of 

automobiles? 

Mr. CARUSO. No, I mean in the very short run. I am talking 

about in the next weeks and months. 

Senator THOMAS. Shut down our travel, okay. 

Mr. CARUSO. Second, something that has already been done is 

making the SPR available until the offshore oil production can be 

restored. Third, in terms of the restoration of refineries and other 

facilities, everything we can do to support the electric utilities to 

bring electricity back to the affected areas. 

Senator THOMAS. Specifically on those in the New Orleans area, 

for example. 

Mr. CARUSO. Yes, New Orleans, Mississippi. 

Senator THOMAS. Mississippi. 

Mr. CARUSO. Yes, sir. 

Senator THOMAS. And that can be done fairly short-term? 

Mr. CARUSO. Yes, sir. 

Senator THOMAS. Mr. Overdahl. 

Mr. OVERDAHL. Well, within the markets under CFTC jurisdiction, I guess what I would recommend is redoubling our efforts on 

market surveillance, which any time there is unusual activity in 

prices that happens. 

Senator THOMAS. And who should be doing that? Who has the 

most authority to do that? 

Mr. OVERDAHL. Well, that authority in the futures markets 

would be us. 

54

Senator THOMAS. Well, is that, the futures market, where it 

needs to be? 

Mr. OVERDAHL. Well, that is——

Senator THOMAS. You have kind of indicated the futures markets, not close. 

Mr. OVERDAHL. That is what we can do within the scope of our 

jurisdiction. 

Senator THOMAS. I see. How about the retail market? 

Mr. OVERDAHL. We do not have jurisdiction over the retail market. But I think one thing we can do for consumers of information 

in these markets is to make sure that people are aware of the type 

of statistics that we publish, so they can see what is going on and 

have faith that these—that activity in that market is being tracked 

and that it is transparent. 

Senator THOMAS. Transparent, okay. What else would you do? 

Mr. OVERDAHL. Well, to make sure that our enforcement program is vigorously pursuing anyone who breaks the rules. 

Senator THOMAS. I see. 

Mr. Caruso, some people at home have suggested we ought to reduce speed limits. We could do that quickly. Is that a possibility? 

For those that are in a hurry to get to work, no, I suppose. 

The CHAIRMAN. I did not hear your question, Senator. What did 

you say? 

Senator THOMAS. I am told by an owner of a trucking company, 

for example, that if they reduced—in the West we have a lot of 75 

mile an hour highways—that if that were reduced to 65 it would 

make a good deal of difference. I do not know that. 

Mr. CARUSO. I think there are some specific studies on exactly 

what reducing the speed limit might bring. 

Senator THOMAS. Any other ideas short-term, anyone? 

Ms. WATSON. I guess I would just echo—having to go first, I was 

at a disadvantage. But I would agree that conservation is the best 

short-term initiative that we can take. So I think that that would 

also yield some benefits on the demand side in the short term. 

Senator THOMAS. Thank you. 

I will yield my time, Mr. Chairman. 

The CHAIRMAN. Very good. 

Senator Corzine. 

STATEMENT OF HON. JON CORZINE, U.S. SENATOR

FROM NEW JERSEY 

Senator CORZINE. Thank you, Mr. Chairman. You and the ranking member should be commended for your foresight and timeliness 

of the hearing. 

Let me echo what my colleagues have said with regard to the 

tragedy in the gulf coast and the call for shared sacrifice that I 

think that brings. I will note to the committee today that there 

were a group of our colleagues that were at the World Trade Center site for the laying of the first rail for the new transportation 

center. Only by sharing in the rebuilding have we been able to get 

to the point that we are there, and I know we all have to do that 

here. 

That said, I have some serious concerns. I have rarely been 

asked as many questions about a single topic as I have been over 

55

the last 3 or 4 days with regard to gas prices, seeing it as high in 

the metropolitan New York area as $3.79 per gallon—this is on 

Saturday—and as low as $2.99 less than a mile away. I do not 

know whether that is zone pricing. I do not know what kind of pricing that is. That is not a market that is sensible, 40 and 50 cent 

ranges for oil companies, or at least distributors for oil companies. 

Just to give you a few raw numbers, a year ago, according to AAA, it was about $1.80 a gallon in northern New Jersey, $2.35 a 

month ago, and $3.10 today. For a 15-gallon tank of gas that was 

filled once a week, it was about $28 a year ago, $34 a month ago, 

$45 today. 

That is a 60 percent increase in expenses for an average citizen 

just in the last year. I am not much of an economist, but that 

sounds like a heck of an imposition. 

I put that in combination with what my colleague from Oregon 

talked about, where crude oil prices are up 64 percent over the 

least year. I am very sympathetic—I grew up on a farm and I know 

exactly what I hear from my colleagues in rural areas. If you are 

from a commuting State where you have no choice on how you get 

to and from work, which New Jersey is, this is a big problem and 

it is going to have real implications for an economy that is about 

two-thirds consumer-driven. 

I am actually going to get to Dr. Overdahl, because one thing I 

actually do understand a little bit is how these futures markets 

work. But I do not understand retail price disparities of this proportion and factually, being real, I hope that Senator Smith is as 

effective in his hearings as he would indicate. There clearly is 

something going on with how it is being distributed. 

New Jersey actually has four refineries. We are one of the major 

refining States in the country. So the refinery product is there. I 

do not understand the instantaneous price movement in all sections of the country where there are supplies and it does not sound 

like it is consistent with free market principles. 

So there are enough indications that something is afoul in the 

market. I want to ask the CFTC, though, have we been following 

whether there is an increasing element of delivery being taken in 

the oil markets in the settlement months over the last 3 months, 

and could we have those statistics? And are you working with 

FERC or the other agencies to understand whether there is being 

an accumulation of supply of refined product, the price of which is 

up 132 percent? 

By the way, we all know it is actually up 25 percent in 1 week, 

while crude oil prices have gone down. Now, some of it is because 

of the release from the Strategic Petroleum Reserve. There is something not right about how the market is working. 

Can you answer, both specifically with regard to whether people 

are taking deliveries and the real question, is there a squeeze going 

on here with regard to refined products? Are there any indications 

in the underlying commodity markets, which I worked in for 25 

years and have more than a little bit of standing, and have seen 

this occur in other markets at other times and other places? 

Mr. OVERDAHL. I apologize for not having those numbers with me 

at this time, but that is something we would certainly track and 

know, just what exactly deliveries have been over time. 

56

To date, we have not seen any evidence of manipulation or 

squeezes, but we are certainly vigorously surveilling those markets 

to make sure that that continues to be the case. 

Senator CORZINE. Do you coordinate with the other agencies of 

government to understand what the underlying inventories are, 

where they lie, and whether they are controlled by some who might 

be taking delivery, to indicate that a squeeze might be in development? 

Mr. OVERDAHL. Our futures markets specialists and economists 

within our market surveillance section look at a wide variety of 

data. They are gathering market intelligence, not only from other 

government agencies such as the FERC or from the Energy Information Agency, which is routinely tracked, but also talking to people in the markets to find out exactly what is going on. 

Senator CORZINE. If those are being done, I can only hope that 

they are being done on a current and ongoing basis, because the 

red flags are there when you see the concentrations of inventories 

built up and then releases that occur, typical market behavior, and 

clearly something is afoul based on the differential that has occurred and the differentials and disparities that are showing up in 

the retail markets. 

[The prepared statement of Senator Corzine follows:]

PREPARED STATEMENT OF HON. JON S. CORZINE, U.S. SENATOR FROM NEW JERSEY

Hurricane Katrina was devastating, and I would like to take a minute to express 

my personal grief over the events happening in the Gulf Coast region. This is a national tragedy and my deepest sympathies and prayers are with the families affected. My deepest admiration is with the relief workers and first responders, and 

members of the National Guard who are operating under the toughest of circumstances. 

But I am also saddened and angered by the slow federal response to this disaster. 

I know it has failed to meet the expectations of the American people and has failed 

the people of New Orleans. At all levels, we must do more. First and foremost, we 

must worry about the immediate relief of those who are suffering. This should be 

a time of shared sacrifice, not exploitation. 

I want to thank the Chairman and Ranking Member for holding this hearing on 

gas prices today. Even before the devastation of Hurricane Katrina, skyrocketing 

gas prices was a salient issue for the American consumer. But with an energy crisis 

looming, it is even more critical that we address it. 

The high cost of gas affects every American. Families in New Jersey rely heavily 

on their cars to commute to work and drive their children to school. But it is getting 

harder and harder to afford these daily activities. Last weekend, gas prices in New 

Jersey increased by an average of three percent between Saturday and Sunday. In 

addition, the percentage increase between today and a month ago was 30 percent—

again, that is just in the last month alone! In addition, last year at this time, it 

cost, on average, $27.32 to fill a 15-gallon tank. Today it costs, $45.21. This in an 

annual increase in cost of about $930 per year. Low and middle-income families in 

New Jersey and across the country cannot sustain this radical increase in prices. 

With the devastation caused to oil production in the Gulf, I am pleased that Secretary Bodman has moved forward on releasing oil from the strategic petroleum reserve, or SPR. But more needs to be done. If this does not take pressure off of the 

market in the next couple of weeks and there is no relief for consumers, then we 

must consider other options such as a federal gas tax holiday. We can consider a 

windfall profits tax on oil companies to capture the lost tax revenue. But working 

Americans cannot continue to pay these exorbitant gas prices for an extended period 

of time. 

In 2000, President Bush promised he would ‘‘get on the phone with the OPEC cartel and say we expect you to open your spigots.’’ He hasn’t done that—and if he’s 

ever going to follow through on that promise, now is the time. 

It is also imperative that we address the price gouging already being reported in 

my State and all across the country. This cannot be tolerated, and I urge the Chairman and Ranking Member to hold additional hearings on this issue. 

57

I, along with my colleague, Senator Schumer, have written a letter to the FTC 

urging them to form an immediate task force to promptly identify and set up a system to prosecute the many cases of price gouging being reported across the country. 

Just as this must not be used as an opportunity for price gouging, those who have 

been arguing for years that we must open up the Outer Continental Shelf (OCS) 

and the Arctic National Wildlife Refuge (ANWR) to drilling must not be allowed to 

use this tragedy as an excuse to drill. We are already seeing environmental hazards 

throughout the Gulf Coast as a result of oil rigs adrift that make it clear there is 

a better way. 

One step toward weaning this country off of oil is investing in, and asking Americans to rely on, alternatives to driving like mass transit. Increased support for mass 

transit, including the $2.5 million to build a new trans-Hudson rail tunnel between 

New Jersey and New York in the transportation bill will not only offer alternatives 

to driving that help individual families save money, but they will also make a major 

impact on the wasted gasoline lost in traffic. 

In addition, Congress and the President should encourage conservation while we 

take every step to restore our oil production and refining capacity in the Gulf Coast 

as quickly as possible. 

We must take our energy policy in a different direction by increasing fuel economy 

through stronger CAFE standards, and promoting fuel diversity using renewable energy sources. 

I look forward to hearing from the witnesses about effective ways to address rising gas prices and the growing energy supply crisis that will neither hurt our environment or economy in the long-term.

The CHAIRMAN. Are you finished, Senator? I did not hear it. 

Senator Bunning, you are next. 

Senator BUNNING. Thank you, Mr. Chairman. 

The CHAIRMAN. I am sorry it has taken so long, but there is a 

lot of interest today. 

STATEMENT OF HON. JIM BUNNING, U.S. SENATOR

FROM KENTUCKY 

Senator BUNNING. It is all right. There are Senators behind me, 

so I can understand. 

First of all, I would like to send my condolences to everybody in 

the New Orleans, Louisiana, Mississippi, and Alabama area. It is 

the worst tragedy in my lifetime, natural disaster, and I guess for 

everybody sitting at this committee hearing it is the worst tragedy 

that any of us has seen. The devastation is almost totally beyond 

belief. 

I do have some questions about energy and I would like to start 

off by asking anybody at the table: domestic oil production has long 

been limited to the gulf coast, particularly the area that was so 

devastated by Hurricane Katrina. U.S. refining and shipping capacity is also highly concentrated in this part of the country. Mr. 

Slaughter in his statement that is in testimony of the following 

panel has said: ‘‘Domestic exploration and production should be a 

No. 1 priority for future energy policies.’’

The United States has significant natural gas and oil reserves on 

the North Slope of Alaska, the Western United States and the 

Outer Continental Shelf. How would you envision the United 

States tapping these vast resources and what impact would it have 

in buffering the domestic energy supply from supply shock? In 

other words, if we acted in the things that we have available to us 

how would that impact any kind of future shock? Would anybody 

like to answer that? 

Ms. WATSON. I guess I would go first and I guess I would just 

say that diversity of supply is security. Many have said that before, 

58

but the President has said that and it is accurate. All of these 

sources of energy are domestic. They are something that we can 

produce and they are something that we know how to produce in 

an environmentally responsible way. I think this recent storm and 

the storm that preceded it, Ivan, demonstrates that we know how 

to produce energy offshore and we know how to put in safeguards 

to withstand even events such as this. 

We have tremendous resources. The resource in ANWR I believe 

is equivalent to what we daily import from Saudi Arabia, so it is 

not an insignificant amount. So we have that opportunity in our 

country and diversifying the resources that we have at our disposal 

would be of benefit. 

Senator BUNNING. Anyone else? 

[No response.] 

Senator BUNNING. Well, we had an oil crunch in the early 1970’s, 

middle 1970’s, in this country. the Congress of the United States 

did not do anything, did not do anything until this year, when we 

passed the energy bill. So it is not a big surprise that we find ourselves in this situation. We have been sitting on our hands in the 

Congress of the United States since the middle 1970’s, when OPEC 

first acted against and supply was cut. 

I do not offer that as an excuse. I offer it as a reason that you 

see the spiking. We produced about 65 percent of our natural oil 

and gas production at that time and now we are producing about 

40 percent. So we are importing everything else. We do have a 

major problem in supply and demand, and we are not capable of 

really limiting the cost as the OPEC nations raise the price of oil, 

crude. 

Of course, our 40 percent that we produce domestically is something that we are focusing on today because people think there has 

been gouging, and I do not know if that is true. But if there is, we 

ought to find it and root it out. 

My problem is that 1974-75 is a long time ago and we had ample 

red flags in this country that we could have a problem. I think 

Katrina just emphasized the fact that we are at the mercy, not of 

our own domestic production, but of others’ production. I want to 

send a flag that the energy bill is not going to solve the short-term 

problems in this country, but more the long-term problems. 

Until we get more in tune with our own domestic production, 

both of crude oil and natural gas, I want everybody in the country 

to know that we have a 50-year supply of natural gas in the continental United States untapped, untapped, and environmentalists 

and others have restricted our ability on U.S. properties to drill for 

that natural gas. So we have to have a balanced policy here and 

we do not. 

I would urge the Energy Committee and anyone else that has an 

opportunity that we start to balance the supply with the demand 

if we are going to have a problem. I hope that this committee does 

not drop the ball after passing the energy bill and we look for other 

areas for exploration. We have a chance with our reconciliation bill 

this year with the Alaskan Arctic Reserve. That is what it was designed for. That is what we should do with it, for production of petroleum and for the production of natural gas. I urge us to act 

59

when we have a chance, which is in the next month or 2, to make 

sure that we get it done. 

Thank you, Mr. Chairman. 

The CHAIRMAN. Thank you, Senator. 

I think now we are going to go to Senator Talent, Senator Burr, 

and then I will wrap it up. I want to ask the remaining witnesses—

we have four. I gather, looking at this, two of you are from out of 

the city and two of you are from the city; is that correct? Who are 

our witnesses? 

President of the National Petroleum Refiners, are you from here? 

Mr. SLAUGHTER. Yes. 

The CHAIRMAN. William Shipley, Shipley Stores, where are you 

from? 

Mr. SHIPLEY. Pennsylvania. 

The CHAIRMAN. Mr. Darbelnet, president and CEO of AAA. 

Mr. DARBELNET. From Florida. 

The CHAIRMAN. Mr. Dowd. 

Mr. DOWD. New York City. 

The CHAIRMAN. We are trying to figure out how we can get you 

in somehow before we abandon this hearing. So we are going to try. 

Just be patient. 

Now let us move here with Senator Talent and Senator Burr. 

STATEMENT OF HON. JAMES M. TALENT, U.S. SENATOR

FROM MISSOURI 

Senator TALENT. Thank you, Mr. Chairman. I think I get the 

message and I will be brief. 

I did want to mention, I think it is owing to the committee with 

its great bipartisan work on the energy bill, just to say that the renewable fuel standard and the presence of renewables in the fuel 

supply is moderating somewhat prices. We conducted an informal 

survey of gas stations in Missouri that were pumping e-85, which 

is an 85 percent ethanol blend, and in a number of places as of 

September 2 it was selling for around $2 a gallon, a dollar less 

than unleaded gasoline was selling in Missouri. Once we get the 

distribution network worked out and enough stations pumping it to 

create a competitive market, then as supply increases I would expect that prices will go down as well. So that is part of the future 

and it was in the energy bill, and we put it in in this committee, 

and I think that that is the kind of thing that we need to do in 

the future to try and protect us against natural disasters or increases in world oil costs or blackmail from foreign oil producers. 

Let me just ask one thing on the question of prices and what we 

can expect. Mr. Caruso, you say in your testimony that ‘‘Both spot 

market prices and near-month future prices for gasoline and distillate products have risen dramatically in the days following the 

hurricane. Retail prices are also rising. We expect that prices will 

begin to fall back as production and refining capacity are restored, 

although the pace of restoration is at present highly uncertain.’’

Now, Ms. Watson was, one hesitates to say optimistic or pleased 

in this context, because we are not optimistic about anything that 

is happening in that area, but she did seem to indicate that production was coming back on line in a manner that, if anything, exceeded our expectations maybe a week ago. 

60

So that means we should expect prices to be falling, is that correct, Mr. Caruso? 

Mr. CARUSO. Yes, sir, that is what we are saying in our latest 

short-term outlook, that over the next few weeks and particularly 

months, when the additional supply comes on-stream, particularly 

gasoline imports, that should put downward pressure on prices. 

Senator TALENT. So, Dr. Overdahl, I take it your agency will be 

watching this very carefully, and if prices do not go down after this 

production comes back on line that would be a pretty clear sign 

that something is going on in the market that we do not like. 

Would you agree with that? 

Mr. OVERDAHL. Well, I am not sure I would, because I think 

some of this is anticipated in those prices already. If you look at 

futures prices for gasoline at the New York Mercantile Exchange, 

you see the current October contract at $2.11 a gallon. This is for 

wholesale unleaded. If you go out to February 2006 you see $1.90. 

So in some ways that has already been built into their expectations, I think. 

Senator TALENT. I appreciate your candor. I do not see how, 

though, if we are going to say that rapid and unexpected cuts in 

production are the reason prices go up, then when that production 

comes back on line prices will not necessarily go down. I do not understand why there would not be a parallelism in that. 

Mr. OVERDAHL. Well, I think a lot of that is built into the expectations. So it is not just when the actual production comes on line, 

but the expectation that it will be on line. 

Senator TALENT. You are saying the market has already discounted against the possibility of it coming back on line. 

Mr. OVERDAHL. Exactly. 

Senator TALENT. Well, I for one will be highly suspicious if we 

do not see prices go back down somewhat to reflect the situation 

before Hurricane Katrina. I would hope that would happen. 

Thank you, Mr. Chairman, for holding the hearing. I know we 

have another panel you want to get to and I will yield back. 

[The prepared statement of Senator Talent follows:]

PREPARED STATEMENT OF HON. JAMES M. TALENT, U.S. SENATOR FROM MISSOURI

First and foremost, I want to express my sincerest condolences for the families 

of the Katrina victims in Louisiana, Mississippi, Alabama, and Florida. My prayers 

are with all of the survivors who must now rebuild their lives and face a very uncertain future. I offer my sincerest thanks for all of those relief workers who are working around the clock to get aid to folks and restore power to the region. 

I also want to thank Chairman Domenici and Ranking Member Bingaman for 

calling, then expediting, this critical hearing. 

Nearly every caller to my office wants to know, ‘‘Why are gasoline prices so high? 

What are the oil companies doing with all of that money? What are you going to 

do about it?’’

I’d like to be able to tell my fellow Missourians that we can legislate an immediate solution, but we know that’s not possible. This is a long-term problem that 

requires long-term thinking, much of which is incorporated into the energy legislation signed into law by the President in July. 

We need to remember that Katrina’s impact on gasoline prices wouldn’t be welcomed even if pre-hurricane gasoline prices were under $2.00. So, after doing what 

we can to help the communities that are under water and hurricane debris, we need 

to address the underlying concerns with energy supplies. 

We need to remember that Katrina’s impact on energy prices will be relatively 

short-lived—it will subside when electric power is restored and the refineries and 

pipelines come back on line. 

61

However, the fuel price hikes we face as a result of Katrina are indicative of some 

of the fundamental problems we face and began to address in the recently-passed 

energy bill. Global demand is ever increasing, driving up gasoline prices (e.g., China 

and India). It’s getting harder to find new supplies of oil to replace existing production. At home, refineries operating at capacity serve as a bottleneck for gasoline supply, since it prevents the crude oil from being turned into gasoline. 

We need to increase and diversify our crude oil supplies and gasoline feedstocks. 

This nation has substantial oil and gas off its Atlantic and Pacific coasts, not to 

mention the reserves in Alaska’s Arctic National Wildlife Refuge. These have gone 

untapped due largely to opposition from local residents or environmental groups. 

Similar opposition has prevented the construction of a single new refinery since 

1976 and has made pipeline construction quite difficult. 

Thirty percent of our domestic production is located in the Gulf of Mexico, and 

more than 60 percent of U.S. oil imports come through ports along the Gulf. Almost 

half of all U.S. refining capacity is located on the Gulf Coast. Hurricane and flooding 

damage and electricity outages have dramatically curtailed our available gasoline 

supplies. 

Katrina has reduced the nation’s daily refining capacity by 1.8 million barrels a 

day, or 11%. It seems to me that this may indicate that the nation has concentrated 

too much of its energy facilities in too small an area. This puts our energy supply 

at great risk, as evidenced by the ongoing price spikes at the pump. 

Greater offshore production in other parts of the country would help us avoid the 

magnitude of oil supply disruption we are currently experiencing. We considered allowing states to decide whether they want to explore drilling off of their coasts during the debates over the energy bill. Perhaps we need to reconsider this proposal 

to increase our domestic energy supplies and to reduce our dependence on Gulf of 

Mexico production. 

Similarly, drilling in ANWR would also increase supply from a region that doesn’t 

face hurricane risks. The increase in supply, wherever we get it from, can only help 

bring down prices. 

Likewise, one of the most important elements of the energy legislation was our 

encouragement of ethanol and biodiesel production. 

e-85, which is auto fuel made of 85 percent ethanol and 15 percent gasoline, is 

considerably cheaper that even pre-Katrina gasoline. About 90% of the ethanol used 

in the U.S. is sold under 6 month contracts—the average price per gallon in these 

contracts is $1.50. Current spot market prices for ethanol range from about $1.50 

to about $3.00, with a majority of the spot purchase at $2.00. An informal survey 

of gasoline prices across my state on September 2 shows that e-85 is selling anywhere from 20 cents to almost $1.00 less than regular gasoline.

MISSOURI GAS PRICES 

[9/2/05] 

E85 Unleaded Difference 

Columbia, MO (Central) ......................................... 2.79 2.99 0.20

Edina, MO (NW) ..................................................... 1.99 2.93 0.94

Higginsville, MO (W. Central) ............................... 2.79 2.99 0.20

Jefferson City, MO (Central) ................................. 2.74 2.99 0.25

Kansas City, MO (West)1 ....................................... Marshall, MO (W. Central) .................................... 2.77 2.97 0.20

Marshall, MO (W. Central) .................................... 1.99 2.97 0.98

Maryville, MO (NW) ............................................... 2.03 3.01 0.98

Rolla, MO (S. Central)2 .......................................... Smithville, MO (West) ............................................ 2.94 3.19 0.25

St. Charles, MO (East) ........................................... 2.99 3.19 0.20

Average ............................................................. 2.56 3.03 0.47

1 Wouldn’t give over phone. 2 Wouldn’t give over phone. (0.20 price difference) 

We are a long way away from being able to grow a substantial portion of our own 

fuel—we only sell 4 million gallons of e-85 fuel annually at this point—but we can’t 

ignore the promise of these fuels, both from an environmental perspective and as 

a way to add supply to drop the price of gasoline. Ethanol is competitive at as little 

as $42 a barrel of crude oil, $48 without the current federal tax incentives, and has 

tremendous growth potential. Already there are 5 million flexible-fuel cars and 

62

trucks on the road that can use regular gasoline or a blend of up to 85 percent ethanol. These vehicles are produced by Chevrolet, Dodge, and Ford, which has recently 

announced the production of a new flexible fuel pickup truck. 

I know that there are many farmers and producers in the Midwest that are excited by the prospects of growing our own fuel and are actively pursuing building 

plants to produce ethanol and biodiesel as fast as possible to increase the supply 

of this fuel. 

The recently passed energy bill includes tax incentives to encourage the conversion of gasoline pumps to handle ethanol blends so that this product can achieve 

greater availability outside of the Midwest. 

We also need to consider ways of increasing refining capacity. I intend to explore 

why, with the importance of gasoline to this nation’s economy, we are running at 

such a razor thin margin on refinery capacity. How are the oil company revenues 

being used, and why are returns on refinery investment insufficient to support expanding or building new refineries? We need to remove this bottleneck on our fuel 

supplies. 

I am concerned that the lack of regulatory certainty is preventing investment in 

new refineries. I don’t want to suggest the relaxation of environmental rules; rather 

I want investors to know that the rules won’t change after they’ve committed their 

funds to a particular project. After committing to a project, industry cannot and 

should not have to recalculate plant profitability based on changing environmental 

requirements. If rules must change later, perhaps they either need to be applied 

uniformly, so the economics are the same for all existing refiners, or they need to 

be applied only to new plants that have not begun the regulatory approval process. 

Lastly, the gasoline price crunch we are in points to the urgency of the fuel diversity encouraged by our recently signed-into-law energy bill. We simply must press 

on to find alternatives to dependence on crude oil, whether domestically or internationally produced. 

We need to continue pursuing innovative energy sources such as hydrogen fuel 

cells for powering cars with hydrogen, developing more hybrid cars, expanding the 

use of ethanol, renewable energy, clean coal and nuclear energy. We need to make 

sure that we are not held hostage to any oil crisis, whether by natural disaster or 

OPEC decision. 

I look forward to hearing from the witnesses and the chance to ask questions, 

though I am a bit disappointed that we don’t have any oil company representatives 

who might be able to answer some of the difficult gasoline price questions asked 

by my fellow Missourians.

The CHAIRMAN. Senator Burr. 

STATEMENT OF HON. RICHARD BURR, U.S. SENATOR

FROM NORTH CAROLINA 

Senator BURR. Thank you, Mr. Chairman. 

I looked over at my good friend Ron Wyden and realized this is 

not the first time we have been through hearings together as it relates to the rapid increase in oil prices. I would also point out to 

my good friend Ron that today it is cheaper to buy a gallon of gas 

in California and Oregon than it is in North Carolina. So what a 

reversal we have seen in a period of time. 

As a matter of fact, a year ago, on August 29, in the United 

States the average retail price of gasoline was $1.86 for regular. 

This year it was $2.61. The gasoline demand a year ago was 9.26 

million barrels per day. This year it was 9.4 million barrels per 

day. Gasoline production a year ago was just shy of 8.9 million barrels a day. This year it was just shy of 8.8 million barrels a day. 

Our imports of gasoline, refined gasoline, a year ago, just shy of 

.9 million barrels per day. This year in August, just shy of 1.3 million barrels per day. And the gasoline stock is down to 1.194 million barrels per day, and it was at 2.06 a year ago. 

Clearly, a recipe for increases in prices as we see more reliance 

on foreign refined product, as we see demand go up, and as we see 

refinery capacity in the United States go down. 

63

If I could, let me focus on a number of things, Mr. Caruso, for 

you. One, the General Accounting Office, GAO, issued a report in 

June that found the proliferation of special gasoline blends has 

made it more complicated to supply gasoline and has raised the 

cost, significantly affecting operations at refineries, pipelines, and 

storage terminals. A 2001 EPA study found that harmonization of 

fuel blends throughout the country could be done without major 

cost increases, increases in emissions, or reductions in gasoline 

supplies. 

Has the EIA ever done an analysis on how the various blends of 

reformulated gas affect supply or a study on the harmonization of 

the number of blends? 

Mr. CARUSO. We have not done that study specifically. But as I 

mentioned to Senator Allen, there is an incremental cost of making 

reformulated gasoline and the study we did specifically with reference to California and the banning of MTBE last year indicated 

that was about 7 to 8 cents. But in terms of the proliferation of, 

the term, ‘‘boutique fuels,’’ we have not actually done a study. 

Senator BURR. I think you also alluded to that there would be 

a tradeoff for that and that might be an environmental tradeoff. 

But in fact, if you accepted the 9 blends or 12 blends right at the 

top of the formulas, you would not have a tradeoff. Everybody 

would accept the higher, the California formula. That would not 

have a tradeoff with the environment. 

Mr. CARUSO. No. It would have a tradeoff with the price of gasoline in States that did not have the more stringent requirements. 

Senator BURR. If in fact, since we have gone from 321 refineries 

to 129 refineries, if we focused those refineries on longer runs of 

the same fuel regardless of where they were going because they 

could now go to 50 States, would we not reach new efficiencies in 

production that might actually bring the price down, even for the 

most stringent, environmentally stringent mixes? 

Mr. CARUSO. It may. That would be something we would have to 

look at carefully. 

Senator BURR. It is an interesting thing to look and study. 

Let me ask you as it relates specifically—is OPEC price-gouging? 

Mr. CARUSO. Well, I think probably by almost any definition the 

answer would have to be yes. 

Senator BURR. I think the important thing is that gouging is a 

moving target from a standpoint of a definition. 

When the shift in governments took place in Venezuela—and 

that at one time was 22 percent of our domestic supply we got from 

Venezuela—did that change in government have a positive or negative impact on the price of crude oil for the United States? 

Mr. CARUSO. Well, certainly the strikes and the stoppage of Venezuelan oil in December 2002 and January 2003 had a negative impact. 

Senator BURR. Caused the prices to go up. 

Has the growth in the Chinese economy had a positive or a negative impact on the price of crude oil? 

Mr. CARUSO. It would certainly be one of the most important factors in upward pressure on crude prices. 

64

Senator BURR. In a study that was put out by EIA, I think, said 

that you anticipated no increase in non-OPEC production. Is that 

a pretty safe thing? 

Mr. CARUSO. We expect a small increase this year. 

Senator BURR. But enough to make up the growth in our economy and the growth in the world? 

Mr. CARUSO. No. In our longer term forecast, a large share of the 

incremental production will have to come from OPEC. 

Senator BURR. So we really are locked into the supply coming 

from the same individuals. This is a pretty predictable thing as we 

look 6 months out, a year out. We have refinery challenges, we 

have the same people supplying us. If they are gouging us today, 

without international pressure they are going to gouge us tomorrow. 

Mr. CARUSO. What is predictable is a very tight oil market, yes, 

sir. 

Senator BURR. How much pressure was taken off of the price of 

gasoline as a result of lifting the clean air standards, specifically 

the reformulated regulations that the President lifted? 

Mr. CARUSO. The waiver that the EPA granted last week had to 

do with allowing refiners to market winter-grade gasoline earlier 

than normally would have been the case. We think that probably 

adds on a nationwide basis about 150,000 barrels a day to supply. 

Senator BURR. Does a refining capacity cushion exist in the 

United States? 

Mr. CARUSO. No, sir. 

Senator BURR. We have no cushion, do we? 

Mr. CARUSO. No, and that is one of the reasons prices spiked. 

Senator BURR. Mr. Caruso, we strategically put crude oil in the 

ground. Should the United States think about a strategic refined 

petroleum reserve? 

Mr. CARUSO. There have been a number of studies thinking 

about that over the years and they have always concluded that it 

would be a very expensive proposition because of where to store it, 

the right specifications, and the need to turn that product over. So 

it is something that certainly could be worth looking at. 

Senator BURR. I want to thank our witnesses and I want to 

thank the chairman. I think every member, Mr. Chairman, agrees 

with the comments of these witnesses that short-term conservation, 

the restoration of the pipeline and the product coming through that 

pipeline, and—maybe one you did not add—predictable regulation, 

which I believe is the result of what we tried to accomplish in a 

bipartisan way in the energy bill, is in fact the best short-term recipe. 

With that, I yield back. 

The CHAIRMAN. Thank you very much, Senator. 

I think I have gotten everybody except myself. Does that sound 

right? I did not ask any questions and I am going to be brief because we are committed to the proposition of bringing the other 

witnesses up, however late it is. We may have to not do as well 

a job of letting them be heard as they deserve. 

Let me ask any of you, and perhaps Mr. Caruso or Dr. Overdahl, 

first I think just some primer ideas to get repeated. People look at 

the oil and gas industry and they include crude oil and obviously 

65

refineries. You mentioned, Mr. Caruso, that we had a great diminution, reduction, in the number of refineries over a period of time 

in the United States, and your comment as to why was that the 

profits that refineries made was too small for the risks and the expenses involved in building them. Did I read you right? 

Mr. CARUSO. Yes, during the 1980’s and 1990’s, that is accurate, 

Senator. 

The CHAIRMAN. I know people listening will not believe that because they figure everybody involved in oil and gas must be awash 

in money. But I always heard that the refiners were at the tail end 

and for some reason they were not making very much money. 

Now, quickly, has that changed today? If in fact we were trying 

to establish a policy of building some more refineries, are we running uphill, where it is not economically feasible because of the economics that you have just described of the 1970’s? Or do you know? 

Mr. CARUSO. Even excluding this current catastrophe, in which, 

of course, margins have grown tremendously, margins had improved quite substantially in the last 3 years or so. We do think 

that those kind of margins, if they could be counted on, would certainly make it worthwhile to make investments in refining and 

other downstream facilities. 

The CHAIRMAN. I just want to say and the record will reflect that 

the Saudi minister was in town talking about many things. I saw 

him and he said: We want to build refineries; we would like the 

United States to have more refining capacity; it is your business, 

not ours. But he said: I have been looking for partners; we would 

like to build a couple of new refineries in America with partners. 

He said: We cannot find any; nobody wants to build them with us. 

Does that strike you—and I just ask; I do not know why you 

would know, but you are the closest one on this panel to maybe 

having an idea. Why might that be? Is it still back to where we 

were, that the regulatory issues and the like, nobody wants to do 

it? Or why would that statement be? If it is true, why would it be 

so? 

Mr. CARUSO. Of course, I am not familiar with their seeking of 

partners, but clearly it is the same sort of fundamentals that have 

caused that problem. 

By the way, the Saudis themselves have now decided to go ahead 

with two large export refineries. 

The CHAIRMAN. Well, they said that: We are going home and we 

are going to build two. And they said how much they were going 

to spend, and within a month they announced them. 

Mr. CARUSO. Yes, sir. 

The CHAIRMAN. So they are going to produce refined product; it 

is just not going to be here. 

Mr. CARUSO. That is correct. 

The CHAIRMAN. So they are going to add to the world’s supply. 

Now, when crude oil prices go up and down, is there a—and gasoline prices go up and down, obviously in between the crude oil 

prices and the gasoline something happens, like refining, right, and 

other things, but refining. Is it the up and down of the refined 

product that the price of gasoline is responding to quickly or is it 

the crude oil price? Which is quick and which is slow, oil prices 

66

going up, quick responses on gasoline prices, or refining going up 

and down, quick response on gasoline? 

Mr. CARUSO. It is the price of refined products at the wholesale 

level and in the NYMEX that gets fed through the retail most 

quickly. For most contracts, although they are volumetrically set, 

the price is indexed to either NYMEX or wholesale spot price. 

The CHAIRMAN. Now again, I ask any of you, and it may be the 

next panel who knows more about this. But what I think the people are upset about and do not understand and I think I do not to 

some extent is that today they drove by a filling station and they 

saw the price of gasoline, and 2 days later they drive by the same 

filling station and the price of gasoline is substantially higher, not 

5 cents but in some cases 25 cents or 30 cents higher. 

Now, I ask you, in the regular market, assuming nobody is doing 

anything untoward, it is supply demand, it is a righteous fair play 

business, how does that occur? How does that price get determined 

and who does it, that it goes up so much in 48 hours? Does anybody know? 

Mr. CARUSO. Well, the retailer is always pricing his product 

based on whatever the price was for the last tankwagon of supply 

that was delivered and thinking about what the price might be tomorrow. So sometimes they are pricing on the expectations of 

where the market is going, so it very easily could change with the 

delivery of each tank truck in each retail facility. 

The CHAIRMAN. Now, let me ask, being absolutely honest—I do 

not believe there is gouging that is occurring by any conspiracy. I 

do not believe major oil has a conspiracy going on to gouge, nor do 

I think there is an ongoing competitive monopoly that is doing 

that. But I do think that it is very probable that individual retailers are not very concerned about the consumer in terms of how 

much they are going to raise the price, even under the scenario you 

have explained. 

Example: You have a very big underground tank capacity. It has 

been filled. The price is X. You do not get any deliveries for 3 days, 

but the price each of those 3 days went up on the pump. Part of 

what you have just explained is that should not happen because 

there have been no refills, there is nothing in that that would 

cause it, but it might be expectations of future increases, right? 

Mr. CARUSO. That is correct, sir. 

The CHAIRMAN. And as an expert, that is probably something 

that is done? 

Mr. CARUSO. That would be my opinion, yes, sir. 

The CHAIRMAN. Now, what is the gauge for that? That is the best 

idea they have about their expectation of the future, or does somebody tell them? 

Mr. CARUSO. Each individual operator has to make that determination. The constraining factor, as was pointed out by several 

Senators, is variations within the same area. The consumer obviously can just move to the next service station. 

The CHAIRMAN. Now, we have been talking around this issue of 

gouging, so might I ask—and again, I do not hold you to this. I do 

not know if you want to do it or if you know. But Mr. Overdahl, 

what does the word ‘‘gouging’’ mean? 

67

Mr. OVERDAHL. Well, I am not sure it is a well-defined term if 

you looked in an economics textbook. We have heard I think Senator Burr refer to it as a moving target. I guess in my own mind 

it has something to do with prices that take advantage of particular supply situations, when customers, when consumers have 

little or few choices. 

The CHAIRMAN. Would you not say that it would probably be intentional, along with what you were just saying? 

Mr. OVERDAHL. Likely so. 

The CHAIRMAN. It would seem like it, would it not? 

Mr. OVERDAHL. Yes. 

The CHAIRMAN. More times than not. 

What about, Mr. Caruso, do you have something in your mind 

that answers that question? 

Mr. CARUSO. In terms of what is the definition of ‘‘gouging’’? 

The CHAIRMAN. Yes. 

Mr. CARUSO. I would say unreasonable pricing, given the market 

principles. 

The CHAIRMAN. Now, foreign countries that have been causing 

the price to go up and up, obviously somebody could say that it is 

all gouging because they have paid for everything, they have no expenses, the oil is very cheap to get out of the ground, but they are 

charging $50-$60 a barrel. Is that not what the market will bear, 

rather than gouging? 

Mr. CARUSO. Except they are restricting supply as a cartel. So I 

think that would, in my view, satisfy a definition. 

The CHAIRMAN. Okay. In that respect, so everybody will know, 

there does not seem to be anything we can do about that; is that 

correct? 

Mr. CARUSO. Well, I think you have started it with EPACT 2005. 

You have to deal with this on a long-term basis. 

The CHAIRMAN. But what I mean is we cannot tell them what to 

do or not to do, right? 

Mr. CARUSO. Yes, sir. 

The CHAIRMAN. So the price that we are talking about, that we 

are all so worried about for our constituents and for Americans, is 

predominantly, no matter what we talk about American supply, 

predominantly dictated by the price of crude charged by those companies delivering oil to the marketplace, right? 

Mr. CARUSO. That is correct. 

The CHAIRMAN. And currently we could have an effect by reducing our demand, but we are not the only spigot to demand, right? 

There are other countries and other actions that have spigots on 

this demand, one being China and India of late that are going up 

dramatically; is that correct? 

Mr. CARUSO. That is correct, they have the fastest growing oil 

consumption. 

The CHAIRMAN. You are an expert. What do you say about the 

next 10 years? Are we going to have prices of crude oil continuing 

to go up, meaning that the supply is very tight and demand is very 

big? Or are we going to have something different and the price of 

crude oil is going to come down? Just use a 10-year prediction for 

me. 

68

Mr. CARUSO. Well, I would make it in two segments. One is that 

in the next 2 to 3 years I do not see much improvement in the 

tightness on the crude market, because of the lack of spare productive capacity and our demand forecast. 

The CHAIRMAN. So that means we are talking about crude oil over $60 a barrel. 

Mr. CARUSO. Our forecasts are not quite that high, but certainly even in the 3 to 4-year period in the $40 to $50 range. These are 

not official. This is my own view. You are getting the Guy Caruso 

view right now. 

The CHAIRMAN. Okay. But you are the best we have here, so we 

have to listen to you. 

Mr. CARUSO. Well, I do not know. Senator Salazar did not think 

very much of it. 

The CHAIRMAN. No, he does not even try to be—where is Senator 

Salazar? 

Mr. CARUSO. But I do think that these prices will do two things. 

They will attract investment in the upstream and bring forth some 

additional capacity. So over the 5 to 7-year period, I think the supply side will improve. The second thing it will do, unfortunately, as 

we have heard already, is it will have an impact on demand 

through both consumer behavior and the economic growth of our 

country and the world. We are going to see slower economic growth 

rates as a result of higher prices. 

Our models indicate going from $30 to $60 for a full year takes 

about 1 percentage point off GDP, and that will reduce energy consumption. 

The CHAIRMAN. That is not a very happy scenario, is it? 

Mr. CARUSO. No. 

The CHAIRMAN. Well, I want to tell you and for the record that 

it is good that we ask experts like you, but I do not believe it is 

even going to be that good. So I am acting based upon what I hear 

from other sources. I do not see where that new production is going 

to come from to make up for the demand that is going to increase, 

because it is not going to diminish that much unless something is 

really done to overtly cause it to happen, and price alone does not 

seem to be enough. I think it will have some, but it looks like the 

elasticity is not what it is for other commodities. 

Having said that, I have just one question. What do you think 

would be the effect of a mandatory minimum level of inventory for 

products like gasoline and other products? 

Mr. CARUSO. In my view it would reduce the flexibility of the industry and I personally think that would not be the right way to 

go. 

The CHAIRMAN. My last question has to do with the charts we 

see where the major integrated companies have such large reserves 

of cash. What does that tell you, and why are they so big, if they 

are big? 

Mr. CARUSO. Well, they are big I think because we have seen 

such a quick run-up in prices. Why are they accumulating? I think 

there is the long memory of oil prices peaking and declining in the 

1980’s and staying low in real terms. So I think it will take time, 

but ultimately these investments will be made and they will come 

to fruition. If indeed the individuals to whom you refer are correct 

69

about holding a much more pessimistic view of what these investments will bring forth, then the prices will go even higher. 

The CHAIRMAN. Is there any indication in that accumulation in 

that graph that I am seeing in my mind’s eye as I have described 

to you that there might not be a good investment opportunity for 

additional production of oil and gas and-or refining capacity? If 

there was, would they not use it for that? 

Mr. CARUSO. I think they will, as soon as the expectations shift. 

We have heard from some of the major oil companies they are still 

using expectations of $25 per barrel to evaluate investment prospects. That I believe is starting to change, but we will not know 

that until we actually see the results of those investments. 

The CHAIRMAN. Well, speaking just as one Senator, I think the 

companies that have those accumulations—far be it from me to be 

talking about it, because I do not run them and I do not know what 

all this means, but I think there is a great vulnerability from a 

standpoint of policymakers looking at that if that is not used to 

produce something tangible and productive for the people. I do not 

know what that means, but it seems to me they ought to be investing it. 

Having said that, I do not think there are any other questions 

and we thank you all. We are going to proceed to the next panel 

quickly. We apologize for asking so few questions and making such 

long-winded statements, but most of you are experienced at it. 

Senator MURKOWSKI. Mr. Chairman, while the panel is assembling could I just make a comment following up on your point to 

Mr. Caruso? In our arguments and the debate to get ANWR open, 

some of the great frustration has been this reliance on a price that 

we have not seen this year, we did not see last year, and we are 

not going to see for the next 3 years, according to Mr. Caruso. 

So it would be helpful to understand really the direction, both 

short-term, mid-term, and long-term. Thank you. 

The CHAIRMAN. Thank you for your observation. 

Now let me make a point here. We have a vote. If any of you 

Senators would like to go make it, I will wait and let you go, come 

back, and you can take over for me, any of you. We have 11 minutes. 

Senator BURR. I will run. 

Senator WYDEN. I will run and I will come back. 

The CHAIRMAN. You will come back. I am not sure we will welcome Ron back, but anyway. The witnesses are geared up. We are 

going to start right now. 

First let us start with Mr. Slaughter, Mr. Shipley—is it 

‘‘Darbelnet’’? 

Mr. DARBELNET. Darbelnet. 

The CHAIRMAN. Darbelnet. 

Mr. DARBELNET. Yes. 

The CHAIRMAN. And Mr. Dowd. Is that correct? 

Mr. SLAUGHTER. Yes. 

The CHAIRMAN. Let us start that way. Would you keep your 

statements to 3 minutes and we will put your written statements 

in the record. If there is anything we do not ask you afterwards 

that today has prompted, would you kindly help us by submitting 

70

something later saying, you did not get this information but we 

heard such and such and we would like to share this with you. 

Go ahead, Mr. Slaughter; you start. 

STATEMENT OF BOB SLAUGHTER, PRESIDENT, NATIONAL 

PETROCHEMICAL AND REFINERS ASSOCIATION 

Mr. SLAUGHTER. Thanks, Mr. Chairman. I am here for NPRA, 

the national association for petrochemicals. 

The CHAIRMAN. Right. 

Mr. SLAUGHTER. Just kind of skimming, I think sometimes we 

are losing appreciation of the magnitude of what happened last 

week. We lost 25 percent of our crude supply, 14 percent of natural 

gas supply, and 20 percent of our refining capacity, plus the ability 

to ship products to the Eastern United States for an indeterminate 

period. 

Now, some people may be surprised that there was a market reaction to that news, but I think it is quite obvious that there would 

be. Now, hopefully, and we are making great progress in bringing 

those things back, we will see improvement soon. But we still are 

going to have some refineries, probably four refineries with about 

900,000 barrels a day capacity, that do not yet have determined restart dates. 

If I could just for a second show you my charts very quickly. I 

just want to make really quick points. The biggest determinant in 

gasoline price is the price of crude oil. You will see there that the 

chart shows that the curves follow one another. The FTC has found 

that 85 percent of the movements in gasoline are due to movements in the price and supply of crude oil. 

The next one is just going to again show that 55 percent of the 

cost of gasoline delivered is attributable to the cost of crude oil and 

20 percent or slightly less is taxes and refining just basically adds 

18 percent. 

This is just the blizzard of things, the different programs that refineries have to do, their environmental programs for the refineries 

or the fuels in the next 3 years. We are investing about $20 billion 

in that over this 10-year period. 

This last one is the one that Senator Bingaman mentioned. 

[The prepared statement of Mr. Slaughter follows:]

PREPARED STATEMENT OF BOB SLAUGHTER, PRESIDENT,

NATIONAL PETROCHEMICAL & REFINERS ASSOCIATION

Mr. Chairman and members of the Committee, thank you for the opportunity to 

appear today to discuss the impact of the wide-spread devastation caused by Hurricane Katrina on transportation fuels markets. While I will focus: on that urgent 

matter, I will also discuss the many other factors impacting current transportation 

fuels markets. My name is Bob Slaughter and I am President of NPRA, the National Petrochemical & Refiners Association. NPRA is a national trade association 

with 450 members, including those who own or operate virtually all U.S. refining 

capacity, and most U.S. petrochemical manufacturers. 

PART I. RESPONDING TO HURRICANE KATRINA

In the aftermath of Hurricane Katrina our nation confronts death, injuries and 

devastation of staggering proportions. The images of the tragedy displayed in the 

last several days on television and other media underscore the human toll and 

seeming hopelessness in ways more eloquent and compelling than could ever be captured in testimony. We share both the sense of dismay and increased humility felt 

by all Americans before this latest reminder of nature’s power to devastate and conVerDate 0ct 09 2002 09:40 Jan 26, 2006 Jkt 109235 PO 25575 Frm 00074 Fmt 6633 Sfmt 6621 P:\DOCS\25575.TXT SENERGY2 PsN: PAULM
71

found the best efforts of human beings. NPRA offers our sympathy and prayers to 

those who have suffered the loss of loved ones among family members, or their 

neighbors and colleagues, as well as to those who have lost much or all of their personal assets and livelihood in this worst U.S. natural disaster. 

Today’s hearing has been called to inquire into the impact of Hurricane Katrina 

on the nation’s energy supply. It is appropriate that Congress turn immediately to 

such questions because of the huge impact of that storm on the Gulf Coast, the energy heartland of the United States. This is a time when national, attention is and 

should be focused on human needs. Many industry employees and their familieshave been victims as you will hear. Nevertheless, NPRA appreciates the committee’s 

immediate attention to the issue of energy supply; which was the subject of considerable debate and attention even before the hurricane disaster occurred. We also appreciate the opportunity to respond to the committee’s questions in person on this 

matter of critical national importance. Because our expertise lies in the area of refining and petrochemicals, we will focus on those areas, but will try to provide other. 

available. information insofar as is possible. 

Thus, on behalf of our refining and petrochemical industry members we have attempted to respond to the questions most asked about Hurricane Katrina’s impact 

on the industry and energy supply, as follows: 

1. HOW MUCH OF THE NATION’S OIL AND GAS SUPPLIES COME FROM THIS REGION?

According to the U.S. Energy Information Administration (ETA),, the Gulf of Mexico produces 1.582 million barrels per day (mmb/d) of federal offshore crude production, which is 28.5% of the U.S. total federal offshore crude production (5.488 million 

barrels per day). 

Again according to EIA, the region contains 8.068 million barrels per day of refining capacity, 47.4% of the nation’s total refining capacity (17 million barrels per 

day). 

The Gulf Coast region receives 6.490 mmb/d of crude oil imports, 60.4% of the nation’s total crude oil imports (10.753 mmb/d): (23.5% of the nation’s total comes into 

ports in Louisiana, Mississippi and Alabama, and 8.5% of the nation’s total crude 

imports come into the LOOP.) 

The Gulf Coast region produces 10.4 billion cubic feet (bcf/d) of natural gas per 

day, 19.2% of the nation’s total offshore natural gas production (54.1 bcf/d). 

2. HOW EXTENSIVE WAS THE DAMAGE?

Crude Oil, Natural Gas Production 

According to the U.S. Minerals Management Service (MMS), as of September 2, 

88.53% (1.328 mmb/d) of Gulf crude oil production was shut-in, and 72.48% (7.248 

bcf/d) of Gulf natural gas production was shut-in. This amounts to 25% of total federal offshore crude production and 14% of the nation’s offshore natural gas production. 

Crude Oil Import Facilities 

The storm resulted in temporary closure of LOOP, the Louisiana Offshore Oil 

Port. More than 10% (900,000 b/d) of the nation’s crude oil imports enter through 

LOOP. Roughly 500,000 b/d of crude produced offshore is also unloaded at LOOP, 

which ceased operations on Sunday, August 28 as the storm approached. 

REFINERIES

The following refineries were directly affected by Hurricane Katrina:

Belle Chasse, Louisiana (ConocoPhillips) 247,000 b/d; shut 

Chalmette, Louisiana (ExxonMobil/PDVSA) 190,000 b/d; shut 

Convent, Louisiana (Motiva) 235,000 b/d; shut 

Garyville, Louisiana (Marathon) 245,000 b/d; shut 

Meraux, Louisiana (Murphy) 125,000 b/d; shut 

Norco, Louisiana (Motiva) 227,000 b/d; shut 

Pascagoula, Mississippi (Chevron) 325,000 b/d; shut 

Port Allen, Louisiana (Placid) 48,500 b/d; shut 

St. Charles, Louisiana (Valero) 260,000 b/d; shut 

Vicksburg, Mississippi (Ergon) 23000; shut

Together, these facilities constitute about 2 mmb/d, 12% of the nation’s total refining capacity (17 mmb/d). 

In addition, the following refineries were forced to reduce operations because of 

the impact of Hurricane Kristina:

Baton. Rouge, Louisiana (Exxon Mobil) 488,000 b/d; reduced runs 

72

Krotz Springs, Louisiana (Valero) 85,000 b/d; reduced runs 

Memphis, Tennessee (Valero) 180,000; reduced runs 

Port Arthur, Texas (Total). 285,000 b/d; reduced runs 

Tuscaloosa, Alabama (Hunt Refining: Co.), 35,000 b/d; reduced runs

In addition, several Midwestern refineries were affected by shutdown of the 

Capline Pipeline, which supplies crude oil from the Gulf region to refineries in the 

Midwest (16% of the nation’s refining capacity is in the Midwest). For example, 

Marathon’s refineries at Catlettsburg, West Virginia (222,000) and Robinson, Illinois 

(192,000) were affected by Capline’s closure, as were other Midwestern facilities. 

In total, we believe that at least 20% of the nation’s refining capacity (3.4 mmb/

d) ceased operations or reduced runs at some time due to the direct impact of Hurricane Katrina and the loss of crude supplies from pipelines affected by the storm. 

This is probably a conservative estimate. 

Recent reports indicate that many of these refineries are either up and running 

or anticipate start-up as early as this week. But, unfortunately, there are some refineries representing a significant amount of capacity that will remain shut for an 

undetermined period. 

The Gulf refineries were first impacted by the need to protect the personal and 

family safety of employees, as well as the high likelihood of wind and flood damage 

as a result of the hurricane. After the hurricane passed, many of these facilities remained totally off-line as damages were assessed. In some instances companies 

could not physically enter the facilities to conduct an assessment for several days, 

and had to first depend on flyovers to study the plant. Damages included flooding, 

wind damage, and lack of electricity. 

Pipelines 

In addition, the widespread damage caused by the storm disrupted the electricity 

supply, which affected all industry operations. From a refiner’s point of view, among 

the most serious was closure of three pipelines: 

The Colonial Pipeline, 5,500 miles of pipeline originating in Houston and ending 

in New York Harbor, carries a daily average of 100 million gallons of gasoline, diesel and other petroleum products from refineries in the Gulf to customers in the 

South and Eastern United States. 

The Plantation Pipe Line, 3,100 miles of pipeline, performs a similar function 

along a slightly different route, delivering a total of 620,000 barrels (26 million gallons) of refined petroleum products per day to Birmingham, Alabama; Atlanta, Georgia; Charlotte, North Carolina; and Washington, D.C., among other cities. 

The Capline Pipeline (previously mentioned), which carries 1.1 million b/d of 

crude oil to refineries in the Midwest where it is refined to produce gasoline, diesel 

and other petroleum products for distribution primarily in the Midwest. 

All three of these pipelines were totally or partially out of service due to disruption of electricity supplies as a result of Hurricane Katrina. As a result, the major 

supply lines of refined products to the Southern and Eastern states were unavailable for shipment in whole or in part, during the initial period after the storm. Midwestern gasoline and diesel production was affected by lack of supply from the 

Capline Pipeline. This led to reduced supplies of gasoline, diesel, and other products 

in parts of the country often far removed from the Gulf area. 

Petrochemical Facilities 

The Gulf region is home to many of America’s petrochemical plants, which manufacture plastics and other products made from oil and natural gas feedstocks, and 

which rely on these energy sources for fuel and electricity for power. The impact 

of Hurricane Katrina on these facilities is not currently known but is potentially 

quite serious, both in terms. of facility damage due to water or wind damage and 

temporary closure or reduced operations due to feedstock shortages, lack of fuel or 

electricity and transportation problems. 

Petrochemical products serve as the building blocks for many ultimate products 

such as computers, medicines and other medical products, plastic packaging for 

food, and also automobile components, to name just a few. Disruption of petrochemical production due to the storm, if it continues, could affect the economy considerably due to the economic importance of petrochemical-based products. 

Other Facilities 

In addition to the major impacts outlined above, company pipelines and shore facilities and other operations were impacted by the hurricane, but information on 

these matters is less readily available to us. Company and government statements 

indicate that many of these facilities were not operating due to lack of electricity 

or because other related facilities (e.g. refineries) were down. Some natural gas procVerDate 0ct 09 2002 09:40 Jan 26, 2006 Jkt 109235 PO 25575 Frm 00076 Fmt 6633 Sfmt 6621 P:\DOCS\25575.TXT SENERGY2 PsN: PAULM
73

essing plants were affected but NPRA does not have more information on this sector 

of the industry. 

3. WHAT IS THE CURRENT STATE OF REPAIRS?

The many different sectors of the energy industry, working around the clock together with core service providers and with important help from local, state and federal government agencies, have made considerable progress in restoring some of the 

operations affected by the storm. 

The magnitude of the impact outlined above clearly dictates caution in any assessment of when the energy production, refining, distribution and related facilities will 

be back in service and industry conditions will return to normal. Clearly, our national energy infrastructure has suffered a setback from which it will take some 

time to emerge completely. 

Crue Oil, Natural Gas 

According to the MMS as of Saturday, September 3, 78.98% of Gulf of Mexico 

crude oil offshore production remained shut-in, an improvement of 10% over Friday. 

Shut-in Gulf natural gas production stood at 57.80% of total Gulf gas marketed production, an improvement of 21% over Friday’s figure. The number of manned offshore platforms that are evacuated declined by 25% over the same period. Thus, important but limited progress has been made both in restoring the flow of crude and 

natural gas necessary for refiners to manufacture gasoline, diesel, jet fuel and other 

petroleum products and to meet the needs of petrochemical manufacturers. In addition, it is reported that LOOP is operating at 75% of capacity. 

These figures still leave significant amounts of offshore Gulf crude oil and natural 

gas shut-in, and oil and gas volumes not produced in the past several days are 

large. During the period 8/26-9/3 9.8 million barrels were shut-in, totaling 1.8% of 

yearly crude oil production in the Gulf. During the same period 53.2 billion cubic 

feet of natural gas were shut-in, roughly 1.45% of annual gas marketed production 

from offshore. 

There are indications of progress as well regarding refineries. Marathon announced this weekend that, barring unforeseen problems, all seven of its refineries 

would be operating at capacity on Monday. This includes the Midwestern refineries 

impacted by the Capline Pipeline closure as well as the Garyville, Louisiana refinery 

impacted directly by the hurricane. Valero has announced that its St. Charles refinery will probably return to operation in the next two weeks. Shell has stated that 

the Convent refinery may be restarted Sunday and the Norco refinery midweek. 

Those refineries will be returned to full production gradually and safely as soon as 

start-ups take place. Assessments of physical damage to the Chalmette and Meraux 

refineries last week helped ascertain the extent of damage was. limited; no start=up 

date has been set. 

The Colonial Pipe Line expected to return to 86% capacity service by the end of 

the Labor Day weekend. Plantation Pipe Line has returned to 100% operation as 

has the Capline-crude oil pipeline. This means that major pipeline links to the Midwest,, South and East have been gradually restored. Serious problems remain, however, due to the significant loss of product and crude volumes which would have 

been shipped on these lines last week. 

In addition, it remains unclear when many, if not most, of the refineries impacted 

directly by Hurricane Katrina in the Gulf can return , to service. Problems with 

wind and water damage, electricity supply and other infrastructure remain to be addressed despite the best efforts of facility owners and operators. Thus, although 

some of the affected refineries may restart and return to capacity or near-capacity 

levels this week, there are indications that several facilities may be out of service 

for a longer period. 

The industry is committed to operation of these facilities as soon as possible, but 

employee safety and overall safe start-up and operation concerns are paramount. 

Significant flooding and damage still affects some facilities. However, some refiners 

with operating facilities have indicated that they will be able to ramp-up production 

from currently reduced levels at refineries near the affected areas which should 

have a positive impact on product supplies. 

4. WHAT ELSE IS INDUSTRY DOING TO IMPROVE THE SITUATION?

As indicated above, ,the industry has moved with considerable speed to restart the 

nation’s energy infrastructure so severely damaged by Hurricane Katrina. Even 

more important than assessing and repairing physical damage however, was the 

need to locate and assist employees, many of whom experienced significant personal 

losses of family or friends in the tragedy as well as loss of or severe damage to their 

74

homes. (All industry companies throughout this region have been deeply involved 

in locating and providing for the needs of their employees at the same time they. 

were attempting to assess and respond to facility damages and restore energy production). 

Many companies are offering varying types of assistance to personnel arid their 

families who were impacted by the hurricane. These include interest free loans; temporary living supplements for housing and food; pay continuation while facilities are 

closed; transportation assistance; paid time off; medical and prescription drug assistance; temporary housing, including trailers, tents, and other available housing. 

The oil, gas and petrochemical industries have already contributed millions of dollars to the American Red Cross and other relief agencies involved in assisting all 

residents of the affected communities. They are also matching employee contributions. Companies are also supplying in-kind assistance, often including fuel, for relief efforts as well. The industry will doubtless maintain its deep commitment to 

help end the suffering in the affected communities and to begin planning for the 

future. 

5. WHAT HAS THE FEDERAL GOVERNMENT DONE TO ADDRESS

THESE EMERGENCY CONDITIONS?

Federal authorities have taken several decisive actions to help relieve the many 

energy-related problems left in the wake of Hurricane Katrina. 

SPR Release, 

The Administration has released 9 million barrels of crude oil from the Strategic 

Petroleum Reserve (SPR) to assist refiners who are short crude supplies as a result 

of hurricane damage. The recipients will use this crude to manufacture more gasoline, diesel, jet fuel and home heating oil to be supplied to consumers across the 

nation. This is a dynamic process, and additional volumes may be needed as more 

refineries restart. 

The current situation is precisely the type of event meant to trigger SPR release. 

It demonstrates the importance of careful SPR management. 

Waivers to Increase Fuel Flexibility 

EPA has provided temporary fuel waivers that will make it easier to provide fuels 

to affected areas. This action pertains to both gasoline and diesel specifications, and 

will help alleviate some of the supply problems in these areas by increasing the 

available supply of both domestic production and imports. Affected states participated in the EPA’s decision process on this action. 

Jones Act Waiver 

DOT has temporarily lifted Jones Act requirements to allow non-U.S. flag vessels 

to transport much needed refined products from one U.S. port to another. 

IEA (International Energy Agency) Exchange 

The Secretary of Energy has announced that the IEA will make available 60 million barrels. of petroleum. This will provide relief in the form of refined products 

(gasoline, diesel, jet fuel, home heating oil) which are much needed due to disrupted 

supplies from several refineries. These products should begin to reach the U.S. in 

one to two weeks. The agreement with the IEA also requires the U.S. to release an 

additional 30 million barrels of SPR crude. 

Industry appreciates these actions, which were taken by the Administration with 

bipartisan support from the Congress. They will be very helpful in dealing with the 

serious supply problems that have resulted from Hurricane Katrina. 

6. WHAT IS THE IMPACT ON FUEL SUPPLY? WHEN WILL THE SITUATION

RETURN TO NORMAL?

As indicated above, Hurricane Katrina’s direct hit on the energy heartland of 

America resulted in significant damage to offshore energy production in the Gulf, 

to facilities that are critically important to imported oil supplies, to refineries in the 

affected states and beyond, and to pipelines that serve as the major providers of refined products and crude to large parts of the East, South and Midwest. 

All segments of the industry are working together in an intensive effort to repair 

as much of the damage as is possible at this time in order to increase the flow of 

crude oil to refineries and refined products to consumers throughout the country. 

Safety considerations. and the immediate needs of the industry’s workforce are of 

course taken into account at all times. 

75

Industry and government are working together to provide: available supplies of 

product to areas that are experiencing supply concerns. The fuel and Jones Act 

waivers mentioned above will be of immediate and near-term assistance. 

Increased product imports through the IEA should also help when they arrive. Refiners who. have the ability to do so will attempt to increase production to help meet 

the needs of the affected areas. The release of oil from the SPR will be helpful in 

supplying them with some of the crude needed to make these products. 

Despite this hopeful news, our nation faces a disruption of the fuel supply system 

that should not be understated. The hurricane temporarily affected more than 90% 

of the Gulf’s oil production and 80% of its gas production. It effectively removed 10% 

of the nation’s gasoline supply by its impact on U.S. refining capacity located near 

the Gulf. It also impacted refineries hundreds of miles away that lost access to 

crude oil supplies. Although important progress has been made through the efforts 

of government and industry, and with some help from abroad, full recovery will take 

time. Hard work and cooperation throughout this difficult period will certainly help 

speed the return to normal conditions. The direct and indirect impact of the hurricane on energy demand, which cannot yet be determined, will also be a major factor 

during this period. 

7. SHOULD WE CONTINUE TO RELY ON FREE MARKET FORCES DURING THIS PERIOD?

Absolutely. Continued reliance on market forces provides appropriate market signals to help balance supply and demand even during difficult times. President 

Reagan eliminated price controls on oil products immediately upon taking office in 

1981. He was outspoken about the inefficiencies and added costs to consumers as 

a result of America’s ten-year experiment with energy price controls. 

The energy price and allocation controls of the 1970s resulted in supply shortages 

in the form of long gas lines. Studies have shown that, although intended to reduce 

costs, they actually resulted in increased costs and greater inconvenience for consumers. The benefits of market pricing became clear soon after their elimination. 

The U.S. Federal Trade Commission stated in an extensive study published this 

June that ‘‘Gasoline supply, demand and competition produced relatively low and 

stable annual average real U.S. gasoline prices from 1984 until 2004, despite substantial increases in U.S. gasoline consumption’’ and ‘‘. . . For most of the past 20 

years, real annual average retail gasoline process in the U.S., including taxes, have 

been lower than at any time since 1919.’’ Price caps and other forms of price regulation are no more effective in the 21st century than they turned out to be in the 

1970s. Interference in market forces always creates inefficiencies in the marketplace 

and extra costs for consumers. 

The same holds true for ‘‘windfall profit taxes.’’ The U.S. had a ‘‘windfall profit 

tax’’ on crude oil from 1980 until 1988. That tax, which was actually an ad valorem 

tax imposed on crude oil, discouraged crude oil production in the United States and 

resulted in. other market distortions. It was repealed in 1988. 

Calls for re-imposition of a windfall profits tax on refiners reflect a misunderstanding of refining industry economics. In the ten-year period 1993-2002, average 

return on investment in the refining industry was only about 5.5%. This is less than 

half of the S&P industrials average return of 12.7% for the same period. Refining 

industry profits as a percentage of operating capital are not excessive. In dollars, 

they seem large due to the massive scale needed to compete in a large, capital-intensive industry. For example, a new medium scale refinery (100,000 to 200,000 b/d) 

would cost $2 to $3 billion. In short, company revenues can be in the billions, but 

so, too are the costs of operations. 

The FTC June 2005 study cited above had the following comments on industry 

profits: ‘‘Profits play necessary and important roles in a well-functioning market 

economy. Recent oil company profits are high but have varied widely over time, over 

industry segments and among firms... Profits also compensate firms for taking 

risks, such as the risks in the oil industry that war or terrorism may destroy crude 

production assets or, that new environmental requirements may require substantial 

new refinery capital. investments.’’

Many other industries enjoy higher earnings than the oil industry. Among these 

are telecommunication services, software, semiconductors, banking, pharmaceuticals, coal and real estate, to name just a few. Imposition of a, windfall profits 

tax on the industry would discourage investment at a time when significant capital 

commitments to all parts of the. industry, including refining, will be needed. 

Tight gasoline market conditions have often led to calls for industry investigations. More than two dozen federal and state investigations over the last several 

decades have found no evidence of wrongdoing or illegal activity on our industry’s 

part. For example, after a 9-month FTC investigation into the causes of price spikes 

76

* The attachments have been returned in committee files. 

in local markets in the Midwest during the spring and summer of 2000, former FTC 

Chairman Robert Pitofsky stated, ‘‘There were many causes for the extraordinary 

price spikes in Midwest markets. Importantly, there is no evidence that the price 

increases were a result of conspiracy or any other antitrust violation. Indeed, most 

of the causes were beyond the immediate control of the oil companies.’’ Similar investigations before and since have reached the same conclusion. 

There have been, however, reports of price gouging by unscrupulous individuals 

who seek to profit during this time of national emergency and crisis. Federal and 

state laws prohibit actions of this kind in emergency situations like the present. 

Each alleged situation should be thoroughly investigated by the appropriate state 

and federal authorities and prosecuted when the law has been broken. 

PART II. A SHORT DISCUSSION OF OIL AND OIL PRODUCT SUPPLY DRIVERS

1. INTRODUCTION

This hearing was originally intended to inquire into the factors affecting the gasoline market. The natural disaster resulting from Hurricane Katrina required an understandable shift in emphasis to the human needs damages resulting from that 

storm and only then to supply impacts. But it is important to remember that the 

effect of Hurricane Katrina is an overlay on a pre-existing condition. That was and 

is a situation characterized by high crude prices, strong demand for gasoline, diesel 

and other petroleum products, and a challenged energy infrastructure, especially in 

refining. In the interest of space and time, NPRA has shortened the following discussion of these conditions and policy recommendations for improving them. We 

urge members of the committee to consider the need for policy changes to increase 

the nation’s supply of oil, oil products and natural gas as soon as possible. 

As the nation moves forward in its resolve to address and overcome the effects 

of Katrina and the transportation fuels production and distribution systems regain 

much-needed pre-storm productivity levels, an underlying domestic fuel supply problem remains that requires immediate, bold, and perhaps politically unpopular actions. NPRA believes that policy changes must be put in place to enhance domestically-produced supplies of oil, oil products and natural gas. NPRA has consistently 

urged policy makers in gasoline. Over the last 20 years, changes in crude oil prices 

have explained 85 percent of the changes in the price of gasoline in the U.S.’’

Crude prices have been steadily increasing since 2004, largely because of surprising levels of growth in oil demand in countries such as China and India, and 

in the United States as well. Actual demand growth for oil and oil products in these 

countries in 2004 exceeded the experts’ predictions and has remained strong this 

year. As a result, world demand for crude is bumping up against the worldwide ability to produce crude. 

Strong demand for crude has dissipated the cushion of excess available worldwide 

oil supply, just as strong U.S. demand for refined products has eliminated excess 

refining capacity in the United States. The good news is that producing countries 

will probably be able to add crude production capacity in the years to come. The 

bad news is that the United States has thus far shown only limited willingness toface up to its own energy supply problems. 

As shown in Attachment I, gasoline costs closely track the cost of crude oil. Before 

hurricane Katrina, gasoline price increases lagged crude oil price increases on a gallon for gallon basis. This means that refiners did not pass through all of the increased costs in their raw material, crude oil. Crude oil accounts for 55-60% of the 

price of gasoline seen at the service station. 

The cost of federal and state taxes adds another 19% to the cost of a finished gallon of gasoline. Therefore under current conditions, 74-79% of the total cost of a gallon of gasoline is pre-determined before the crude is delivered to the refiner for manufacture into gasoline. (See Attachment 2)* 

Another contributor to gasoline costs is tightness in our nation’s gasoline markets. 

While U.S. refiners are producing huge volumes of products, strong demand has 

tightened supply. Gasoline demand currently averages approximately 9 million barrels per day. Domestic refineries produce about 90 percent of U.S. gasoline supply, 

while about 10 percent is imported. Thus, strong and increasing demand can only 

be met by either adding new domestic refinery capacity or by relying on more foreign gasoline imports. Unfortunately, the desire for more domestic gasoline production capacity is often thwarted by other public priorities. Congress and the Administration to support environmentally sound, economically justifiable policies that enVerDate 0ct 09 2002 09:40 Jan 26, 2006 Jkt 109235 PO 25575 Frm 00080 Fmt 6633 Sfmt 6621 P:\DOCS\25575.TXT SENERGY2 PsN: PAULM
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courage the production of an abundant supply of petroleum and natural gas products for U.S. consumers. 

NPRA supports requirements for the orderly production and use of cleaner burning fuels to address health and environmental concerns, while at the same time 

maintaining the flow of adequate and affordable gasoline and diesel supplies to the 

consuming public. Since 1970, clean fuels and clean vehicles have accounted for 

about 70% of all U.S. emission reductions from all sources, according to EPA. Over 

the past 10 years, U.S. refiners have invested about $47 billion in environmental 

improvements, much of that to make cleaner fuels. For example, according to EPA, 

the new Tier 2low sulfur gasoline program, initiated in January 2004, will have the 

same effect as removing 164 million cars from the road when fully implemented. 

Unfortunately, however, federal environmental policies have often neglected to 

consider fully the impact of environmental regulations on fuel supply. Frankly, policy makers have often taken supply for granted, except in times of obvious market 

instability. This attitude must end. A healthy and growing U.S. economy requires 

a steady, secure, and predictable supply of petroleum products. 

Unfortunately, there. are no silver bullet solutions for balancing supply and demand. Indeed most of the problems in today’s gasoline market without factoring the 

market disruptions caused by Katrina—result from the high price of crude oil due 

to economic recovery abroad together with strong U.S. demand for gasoline and diesel due to the improving U.S. economy. 

2. UNDERSTANDING GASOLINE MARKET FUNDAMENTALS: HIGH, CRUDE PRICES; STRONG

GASOLINE DEMAND GROWTH

It is important to recognize the overwhelming factor affecting gasoline prices; 

crude oil. In June of this year the U.S. Federal Trade Commission released a landmark study titled: ‘‘Gasoline Price Changes: The Dynamic of Supply, Demand and 

Competition.’’ To quote from the FTC’s findings: ‘‘Worldwide supply, demand, and 

competition for crude oil are the most important factors in the national average 

price of gasoline in the U.S.’’ and ‘‘The world price of crude oil is the most important 

factor in the price of gasoline. Over the last 20 years, change sin crude oil prices 

have explained 85 percent of the changes in the price of gasoline in the U.S.’’

Crude prices have been steadily increasing since 2004, largely because of surprising levels of growth in oil demand in countries such as China and India, and 

in the United States as well. Actual demand growth for oil and oil products in these 

countries in 2004 exceeded the experts’ predictions and has remained strong this 

year. As a result, world demand for crude is bumping up against the worldwide ability to produce crude. 

Strong demand for crude has dissipated the cushion of excess available worldwide 

oil supply, just as strong U.S. demand for refined products has eliminated excess 

refining capacity in the United States. The good news is that producing countries 

will probably be able to add crude production capacity in the years to come. The 

bad news is that the United States has thus far shown only limited willingness to 

face up to its own energy supply problems. 

As shown in Attachment I, gasoline costs closely track the cost of crude oil. Before 

hurricane Katrina, gasoline price increases lagged crude oil price increases on a gallon for gallon basis. This means that refiners did not pass through all of the increased costs in their raw material, crude oil. Crude oil accounts for 55-60% of the 

price of gasoline seen at the service station. The cost of federal and state taxes adds 

another 19% to the cost of a finished gallon of gasoline. Therefore under current 

conditions, 74-79% of the total cost of a gallon of gasoline is pre-determined before 

the crude is delivered to the refiner for manufacture into gasoline. (See Attachment 

2) 

Another contributor to gasoline costs is tightness in our nation’s gasoline markets. 

While U.S. refiners are producing huge volumes of products, strong demand has 

tightened supply. Gasoline demand currently averages approximately 9 million barrels per day. Domestic refineries produce about 90 percent of U.S. gasoline supply, 

while about 10 percent is imported. Thus, strong and increasing demand can only 

be met by either adding new domestic refinery capacity or by relying on more foreign gasoline imports. Unfortunately, the desire for more domestic gasoline production capacity is often thwarted by other public priorities. 

3. U.S. POLICY SHOULD ENCOURAGE ADDITIONAL DOMESTIC REFINING CAPACITY. 

Domestic refining capacity is a scarce asset. There are currently 148 U.S. refineries owned by 55 companies in 33 states, with total crude oil processing capacity 

at roughly 17 million barrels per day. In 1981, there were 325 refineries in the U.S. 

with a capacity of 18.6 million barrels per day. Thus, while U.S. demand for gasoVerDate 0ct 09 2002 09:40 Jan 26, 2006 Jkt 109235 PO 25575 Frm 00081 Fmt 6633 Sfmt 6621 P:\DOCS\25575.TXT SENERGY2 PsN: PAULM
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line has increased over 20% in the last twenty years, U.S. refining capacity has decreased by 10%. No new refinery has been built in the United States since 1976, 

and it will be difficult to change this situation. This is due to economic, public policy 

and political considerations, including siting costs, environmental requirements, a 

history of low refining industry profitability and, significantly, ‘‘not in my backyard’’ 

(NIMBY) public attitudes. 

Nevertheless, existing refineries have been extensively updated to incorporate the 

technology needed to produce a large and predictable supply of clean fuels with significantly improved environmental performance. Capacity additions have taken 

place at some facilities as well; several of these projects implemented over several 

years can actually increase product output as much as a new refinery. But this increase in capacity at existing sites has not kept pace with the growth in U.S. demand for products, meaning that the nation is increasing its reliance on imports of 

gasoline and other petroleum products each year. 

Proposed capacity expansions can often become controversial and contentious at 

the state and local level, even when necessary to produce cleaner fuels pursuant to 

regulatory requirements. We hope that policymakers will recognize the importance 

of domestic refining capacity expansion to the successful implementation of the nation’s environmental policies, especially clean fuels programs. The Administration’s 

New Source Review reform program will also provide one tool to help add and update capacity. 

NPRA wants to recognize a provision in the recently enacted energy legislation 

that will help encourage additional refining investment. The provision allows 50% 

expensing of the costs associated with expanding a refinery’s output by more than 

5%. The refiner must have a signed contract for the work by 1/1/08, and the equipment must be put in service by 1/1/12. 

Common sense dictates that it is in our nation’s best interest to manufacture the 

lion’s share of the petroleum products required for U.S. consumption in domestic refineries and petrochemical plants. Nevertheless, we currently import more than 62% 

of the crude oil and oil products we consume. Reduced U.S. refining capacity clearly 

affects our supply of refined petroleum products and the flexibility of the supply system, particularly in times of unforeseen disruption or other stress. Unfortunately, 

EIA currently predicts ‘‘substantial growth’’ in refining capacity only in the Middle 

East, Central and South America, and the Asia/Pacific region, not in the U.S. 

4. THE U.S. REFINING INDUSTRY IS DIVERSE AND COMPETITIVE. 

Today’s U.S. refining industry is highly competitive. Some suggest past . mergers 

are responsible for higher prices. The data do not support such claims. In fact, companies have become more efficient and continue to compete fiercely. There are 55 

refining companies in the U.S., hundreds of wholesale and marketing companies, 

and more than 165,000 retail outlets. The biggest refiner accounts for only about 

13% of the nation’s total refining capacity; and the large integrated companies own 

and operate only about 10% of the retail outlets. The Federal Trade Commission 

(FTC) thoroughly evaluates every merger proposal, holds industry mergers to the 

highest standards of review, and subjects normal industry operations to a higher 

level of ongoing scrutiny. 

Critics of mergers sometimes suggest that industry is able to affect prices because 

it has become much more concentrated, with a handful of companies controlling 

most of the market. This is untrue. According to data compiled by the U.S. Department of Commerce and by Public Citizen, in 2003 the four largest U.S. refining companies controlled a little more than 40% of the nation’s refining capacity. In contrast, the top four companies in the auto manufacturing, brewing, tobacco, floor coverings and breakfast cereals industries controlled between 80% and 90% of the market. 

5. INDUSTRY IS WORKING HARD TO KEEP PACE WITH GROWING DEMAND FOR FUEL. 

Despite the powerful factors that influence gasoline manufacturing, cost and demand, refiners are addressing current supply challenges and working hard to supply 

sufficient volumes of gasoline and other petroleum products to the public. Refineries 

have been running at very high levels, producing gasoline and distillate. Refiners 

operated at high utilization rates even before the start of the summer driving season. To put this in perspective, peak utilization rates for other manufacturers average about 82%. At times during summer, refiners often operate at rates close to 

98%. However, such high rates cannot be sustained for long periods. 

In addition to coping with higher fuel costs and growing demand, refiners are implementing significant transitions in major gasoline markets. Nationwide, the 

amount of sulfur in’ gasoline will be reduced to an average of 30 parts per million 

79

(ppm) effective January 1, 2006, giving refiners an additional challenge in both the 

manufacture and distribution of fuel. Equally significant, California, New York and 

Connecticut bans on use of MTBE are in effect. This is a major change affecting 

one-sixth of the nation’s gasoline market. MTBE use as an oxygenate in reformulated gasoline accounted for as much as 11% of RFG supply at its peak, substitution 

of ethanol for MTBE does not replace all of the volume lost by removing MTBE. 

(Ethanol’s properties generally cause it to replace only about 50% of the volume lost 

when MTBE is removed.) This lost volume must be supplied by additional gasoline 

or gasoline blendstocks. Especially during a period of supply concerns it is in the 

nation’s interest to be prudent in taking any action that affects MTBE use. That 

product still accounts for 1.6% of the nation’s gasoline supply on average, but it provides a larger portion of gasoline supplies in areas with RFG requirements that are 

not subject to an MTBE ban. 

Obviously, refiners face a daunting task in completing many changes to deliver 

the fuels that consumers and the nation’s economy require. But they are succeeding. 

And regardless of recent press stories, we need to remember that American gasoline 

and other petroleum product prices have long been low when compared to the price 

consumers in other large industrialized nations pay for those products. The Federal 

Trade Commission recently found that ‘‘Gasoline supply, demand and competition 

produced relatively low and stable annual average real U.S. gasoline prices from 

1984 until 2004, despite substantial increases in U.S. gasoline consumption.’’

6. REFINERS FACE A BLIZZARD OF REGULATORY REQUIREMENTS AFFECTING BOTH

FACILITIES AND PRODUCTS. 

Refiners currently face the massive task of complying with fourteen new environmental regulatory programs with significant investment requirements, all in the 

same 2006-2012 timeframe. (See Attachment 3.) In addition, many programs start 

soon. (See Attachment 4.) For the most part, these regulations are required by the 

Clean Air Act. Some will require additional emission reductions at facilities and 

plants, while others will require further changes in clean fuel specifications. NPRA 

estimates that refiners are in the process of investing about $20 billion to sharply 

reduce the sulfur content of gasoline and both highway and off-road diesel. Refiners 

will face additional investment requirements to deal with limitations on ether use, 

as well as compliance costs for controls on Mobile Source Air Toxics and other limitations. These costs do not include the significant additional investments needed to 

comply with stationary source regulations that affect refineries. 

Other potential environmental regulations on the horizon could force additional 

large investment requirements. They are: the challenges posed by increased ethanol 

use, possible additional changes in diesel fuel content involving cetane, and potential proliferation of new fuel specifications driven by the need for states to comply 

with the new eight-hour ozone NAAQS standard. The 8-hour standard could also result in more regulations affecting facilities such as refiners and petrochemical 

plants. 

These are just some of the pending and potential air quality challenges that the 

industry faces. Refineries are also subject to extensive regulations under the Clean 

Water Act, Toxic Substances Control Act, Safe Drinking Water Act, Oil Pollution 

Act of 1990, Resource Conservation and Recovery Act, Emergency Planning and 

Community Right-To-Know (EPCRA), Comprehensive Environmental Response, 

Compensation, and Liability Act (CERCLA), and other federal statutes. The industry also complies with OSHA standards and many state statutes. A complete list 

of federal regulations impacting refineries is included with this statement. (See Attachment 5.) 

API estimates that, since 1993, about $89 billion (an average of $9 billion per 

year) has been spent by the oil and gas industry to protect the environment. This 

amounts to $308 for each person in the United States. More than half of the $89 

billion was spent in the refining sector. 

Obviously, refiners face a daunting task in completing many changes to deliver 

the fuels that consumers and the nation’s economy require. But they are succeeding. 

And regardless of recent press stories, we need to remember that American. gasoline 

and other petroleum products have long been low when compared to the price consumers in other large industrialized nations pay for those products. The Federal 

Trade Commission recently found that ‘‘Gasoline supply, demand and competition 

produced relatively low and stable annual average real U.S. gasoline prices from 

1984 until 2004, despite . substantial increases in U.S. gasoline consumption.’’

80

7. A KEY GOVERNMENT ADVISORY PANEL HAS URGED MORE SENSITIVITY TO SUPPLY

CONCERNS. 

The National Petroleum Council (NPC) issued a landmark report on the state of 

the refining industry in 2000. Given the limited return on investment in the industry and the capital requirements of environmental regulations, the NPC urged policymakers to pay special attention to the timing and sequencing of any changes in 

product specifications. Failing such action, the report cautioned that adverse fuel 

supply ramifications may result. Unfortunately, this warning has been widely disregarded. On June 22, 2004 Energy Secretary Abraham asked NPC to update and 

expand its refining study and a report was released last December. NPRA again 

urges policymakers to take action to implement NPC’s study recommendations in 

order to deal with U.S. refining problems. 

8. NPRA RECOMMENDATIONS TO ADD REFINING CAPACITY AND

INCREASE FUTURE PRODUCT SUPPLY

• Make increasing the nation’s supply of oil, oil products and natural gas a number one public policy priority. Now, and for many years in the past, increasing 

oil and gas supply has often been a number 2 priority: Thus,-oil and gas supply 

concerns have been secondary and subjugated to whatever policy goal was more 

politically popular at the time. Enactment of the recent Energy Bill is a first 

step to making a first priority the supply of energy sources the nation depends 

upon. 

• Remove barriers to increased supplies of domestic oil and gas resources. Recent 

criticism about the concentration of America’s energy infrastructure in the western Gulf is misplaced. Refineries and other important onshore facilities have 

been welcome in this area but not in many other parts of the country. Policymakers have also restricted access to much-needed offshore oil and natural gas 

supplies in the eastern Gulf and off the shores of California and the East Coast. 

These areas must follow the example of Louisiana and many other states in 

sharing these energy resources with the rest of the nation because they are 

sorely needed. 

• Resist tinkering with market forces when the supply/demand balance is tight. 

Market interference that may initially be politically popular leads to market inefficiencies and unnecessary costs. Policymakers must resist turning the clock 

backwards to the failed policies of the past. Experience with price constraints 

and allocation controls in the 1970s demonstrates the failure of price regulation, 

which adversely impacted both fuel supply and consumer cost. 

• Expand the refining tax incentive provision in the Energy Act. Reduce the depreciation period for refining investments from 10 to seven or five years in order 

to remove a current disincentive for refining investment. Allow expensing under 

the current language to take place as the investment is made rather than when 

the equipment is actually placed in service. Or the percentage expensed could 

be increased as per the original legislation introduced by Senator Hatch. 

• Review permitting procedures for new refinery construction and refinery capacity additions. Seek ways to encourage state authorities to recognize the national 

interest in more domestic capacity. 

• Keep a close eye on several upcoming regulatory programs that could have significant impacts on gasoline and diesel supply. They are: 

• Design and implementation of the credit trading program for the ethanol 

mandate (RFS) contained in the recent Energy Act. This mechanism is vital 

to increase the chance that this program can be implemented next year without additional gasoline supply disruption. Additional resources are needed 

within EPA to accomplish this key task. 

• Implementation of the ultra low sulfur diesel highway diesel regulation. The 

refining industry has made large investments to meet the severe reductions 

in diesel sulfur that take effect next June. We remain concerned about the 

distribution system’s ability to deliver this material at the required 15 ppm 

level at retail. If not resolved, these problems could affect America’s critical 

diesel supply. Industry is working with EPA on this issue, but time left to 

solve this problem is growing short. 

• Phase II of the MSAT (mobile source air toxics) rule for gasoline. Many refiners are concerned that this new regulation, which we expect next year, will 

be overly stringent and impact gasoline supply. We are working with EPA to 

help develop a rule that protects the environment and avoids a reduction in 

gasoline supply. 

81

• Implementation of the new 8-hour ozone NAAQS standard. The current implementation schedule determined by EPA has established ozone attainment 

deadlines for parts of the country that will be impossible to meet. EPA has 

to date not made changes that would provide realistic attainment dates for 

the areas. The result is that areas will be required to place sweeping new controls on both stationary and mobile sources, in a vain effort to attain the unattainable. The new lower-sulfur gasoline and ULSD diesel programs will provide significant reductions to emissions within these areas once implemented. 

But they will not come soon enough to be considered unless the current unrealistic schedule is revised. If not, the result will be additional fuel and stationary source controls which will have an adverse impact on fuel supply and 

could actually reduce U.S. refining capacity. This issue needs immediate attention.

NPRA’s members are dedicated to working cooperatively with government at all 

levels to resolve the current emergency conditions that result from Hurricane 

Kristina. But we feel obliged to remind policymakers that action must also be taken 

to improve energy policy in order to increase supply and strengthen the nation’s refining infrastructure. We look forward to answering the Committee’s questions.

The CHAIRMAN. Could you just go back to that other one. 

Mr. SLAUGHTER. Yes, sir, the other one. 

The CHAIRMAN. Pull that down. In your statement do you tell us 

about those? 

Mr. SLAUGHTER. Yes, sir. 

The CHAIRMAN. Are some of those less important than you would 

think in terms of the urgency versus the cost imposed on society? 

Mr. SLAUGHTER. Well, some have large costs and they do have 

large potential costs on supply. We have suggested in our statement that you ought to take a look at a few of them. 

The CHAIRMAN. Okay. Will you remind us of that, staff, when 

you look at them? Thank you. 

Next one. 

Mr. SLAUGHTER. This last one basically just shows everything 

that refiners have to do between now and the end of 2007, some 

of which is mandated by the recently passed Energy Act, which is 

a great first step. But that just shows everything we have got to 

rationalize in the next 2 years, sir. Again, we are hoping that the 

members would pay some attention to that. 

That is really my statement. 

The CHAIRMAN. Thank you very much. I hope we do too. Thank 

you. Your statement examines all that for us, right? 

Mr. SLAUGHTER. Yes, sir. 

The CHAIRMAN. Mr. Shipley, nice to have you again. 

STATEMENT OF WILLIAM S. SHIPLEY III, CHIEF EXECUTIVE 

OFFICER, SHIPLEY STORES, ON BEHALF OF THE NATIONAL 

ASSOCIATION OF CONVENIENCE STORES AND THE SOCIETY 

OF INDEPENDENT GASOLINE MARKETERS OF AMERICA 

Mr. SHIPLEY. Thank you. Good afternoon, Mr. Chairman and 

members of the committee. My name is Bill Shipley. I am chief executive officer of Shipley Stores in York, Pennsylvania. Thank you 

for inviting me to testify before you today on behalf of NACS and 

SIGMA. I will concentrate much of my testimony on the personal 

experiences over the past week as a gasoline retailer in Pennsylvania. 

This first chart depicts the daily movements of wholesale prices 

in south central Pennsylvania market last week. These wholesale 

prices jumped an average of over 15 cents per day for a total inVerDate 0ct 09 2002 09:40 Jan 26, 2006 Jkt 109235 PO 25575 Frm 00085 Fmt 6633 Sfmt 6602 P:\DOCS\25575.TXT SENERGY2 PsN: PAULM
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crease between Monday and Friday, September 2 of 75 cents per 

gallon. 

The second chart shows how my company reacted to these rack 

price increases in terms of our retail outlet prices. As you can see, 

our retail prices in general rose by a similar and in some cases 

lower amount than our wholesale costs. 

Chart three provides a broader look at wholesale gasoline prices 

in the Philadelphia market last week and shows that my companies experience was not unique. 

Chart four summarizes the changes in rack pricing in each region of the country, broken down by PAD. 

Chart five, the final chart, provides a look at wholesale rack 

prices last week in five randomly chosen cities: Atlanta, Boston, 

Dallas-Fort Worth, Detroit, and Philadelphia. All of these cities 

witnessed substantial increases in rack gasoline prices last week. 

There have been widespread media reports and even some comments by congressional leaders of gasoline price gouging by gasoline marketers in the wake of Katrina. I cannot assure the committee that isolated instances of profiteering for personal gain in 

the midst of this crisis did not occur last week. It is important for 

this committee to understand, however, before you rush to judgment on whether my or other retailers’ actions were proper, how 

I and other retailers establish our retail prices in a market with 

escalating wholesale prices. 

Simply stated, I try to sell my retail prices—set my retail prices 

on the basis of replacement cost of the gallons I have in my outlets. 

When wholesale prices are rising and I know that the next load of 

gasoline I purchase from my supplier will cost me substantially 

more than my last load, my sales must generate significant cash 

for me to make that next purchase and to pay my supplier. 

If the only thing you knew about my company was that I raised 

gasoline prices by over 75 cents per gallon last week, would you 

suspect that I was attempting to profit by this crisis? Maybe, but 

based on the information I have given you today I trust that you 

would reach a different conclusion after you had investigated the 

facts. 

I urge this committee and your colleagues to gather the facts on 

last week’s gasoline supply and retail pricing situation before 

reaching conclusions about my actions or the actions of other motor 

fuel retail marketers. 

I do commend you, Mr. Chairman and your colleagues, for taking 

the lead in making the energy bill a reality after 5 long years. This 

is a good first step. 

With that, we can move on. 

[The prepared statement of Mr. Shipley follows:]

PREPARED STATEMENT OF WILLIAM S. SHIPLEY, III, CHIEF EXECUTIVE OFFICER, SHIPLEY STORES, LLC, ON BEHALF OF THE NATIONAL ASSOCIATION OF CONVENIENCE

STORES AND THE SOCIETY OF INDEPENDENT GASOLINE MARKETERS OF AMERICA

I. INTRODUCTION

Good afternoon, Mr. Chairman and members of the Committee. My name is Bill 

Shipley. I am Chairman and Chief Executive Officer of Shipley Stores, LLC, 

headquartered in York, Pennsylvania. I am proud to be the fourth generation leader 

of a family business started by my great-grandfather in 1929. My company owns 

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* The charts have been retained in committee files. 

and operates 26 convenience stores and supplies gasoline and diesel fuel over 100 

retail locations throughout the south central Pennsylvania. 

I appear before the Committee today representing the National Association of 

Convenience Stores (‘‘NACS’’) and the Society of Independent Gasoline Marketers of 

America (‘‘SIGMA’’). 

II. THE ASSOCIATIONS

NACS is an international trade association comprised of more than 2,200 retail 

member companies operating more than 100,000 stores. The convenience store industry as a whole sold 142.1 billion gallons of motor fuel in 2004 and employs 1.4 

million workers across the nation. 

SIGMA is an association of more than 240 independent motor fuel marketers operating in all 50 states. Last year, SIGMA members sold more than 58 billion gallons of motor fuel, representing more than 30 percent of all motor fuels sold in the 

United States in 2004. SIGMA members supply more than 35,000 retail outlets 

across the nation and employ more than 350,000 workers nationwide. 

Together, NACS and SIGMA members sell approximately 80 percent of the motor 

fuel retailed in the United States each year. 

III. SUMMARY OF TESTIMONY

Thank you for inviting me to testify before you today on the impact of Hurricane 

Katrina on the nation’s wholesale and retail motor fuel supply and prices. The past 

ten days have been some of the most challenging in my twenty-five years as a motor 

fuel marketer and I welcome this opportunity to share my personal experiences, and 

the experiences and impressions of other NACS and SIGMA members with whom 

I have talked, with you. 

As an initial matter, I would like to express my personal sympathy, and the sympathy of our entire industry, for the victims of Hurricane Katrina. Individually and 

collectively, our industry shares the suffering of our fellow citizens and will do all 

in our power to alleviate this suffering at the earliest possible date. 

My testimony will touch on three broad topics today. First, I will provide the committee with as much information as I have available on the impact of Hurricane 

Katrina on gasoline supplies and prices. Specifically, I will share with you my personal experiences over the past ten days and summarize, to the extent possible, the 

information I have received from my fellow retailers. 

Second, I am here to respond to allegations that I, and my industry, have taken 

advantage of this tragedy by ‘‘gouging’’ our customers by raising retail motor fuel 

prices. Such allegations are personally offensive to me, and in general reflect a lack 

of understanding of the market events that have led to the gasoline and diesel fuel 

price spikes of the last ten days. While it is certainly possible that some ‘‘bad actors’’ 

have sought to exploit this crisis for personal gain, I can assure you that their actions are not the actions of the vast majority of our industry. 

Third, my testimony contains recommendations to the committee on steps that 

should be taken to lessen the likelihood that such supply disruptions and wholesale 

and retail price spikes will occur in the future. Unfortunately, these recommendations are remarkably similar to the steps NACS and SIGMA have been urging public policymakers to take for the last ten years. While the enactment of the ‘‘Energy 

Policy Act of 2005’’ earlier this summer was a good first step towards implementing 

some of these recommendations, much remains to be done. 

IV. IMPACT OF HURRICANE KATRINA ON WHOLESALE AND RETAIL GASOLINE PRICES

For much of the eastern two-thirds of the nation, the impact of Katrina on wholesale and retail gasoline prices could not have been more immediate and profound. 

I will leave it to other witnesses here today to discuss the impact Katrina had on 

crude oil production and imports, crude oil movements from production to refineries, 

domestic refining capacity, and the movement of finished gasoline and diesel fuel 

throughout the country via pipeline, barge, and truck. That is not my area of expertise. Instead, I will concentrate my testimony on my personal expenses over the past 

ten days as a marketer in Pennsylvania, and on the experiences of fellow marketers 

in other areas over the past ten days. 

It will be helpful for me to use several charts to graphically make these points. 

This first chart (Chart 1)* depicts the daily movements of wholesale prices in my 

south central Pennsylvania market last week. This is the ‘‘rack,’’ or wholesale 

price—the price at which my suppliers are willing to sell me, and other marketers, 

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truckloads of 87 octane conventional gasoline. As you can see, these wholesale prices 

increased daily, and dramatically, last week. On August 28th, before Katrina struck, 

my wholesale gasoline cost was $2.44 per gallon including federal, state, and local 

taxes. Early last week, as Katrina struck the Gulf Coast, these wholesale prices 

jumped an average of over fifteen cents per day, for a total increase between Monday, August 29th and Friday, September 2nd of 75 cents per gallon. 

I must point out that I am primarily a branded marketer—the stations .I own and 

supply fly the flag of a major refiner. The wholesale prices in this chart reflect 

branded rack prices, not unbranded, or independent, rack prices. However, I also 

operate two unbranded outlets. During this same five day period, wholesale prices 

for these unbranded stores rose $1.00 per gallon, or over 20 cents per day. 

This second chart (Chart 2) shows how my company reacted to these rack price 

increases in terms of our retail outlet prices. As you can see, our retail prices in 

general rose by a similar, and in some cases, lower amount than our wholesale 

costs. In short, my company reacted primarily to changes in wholesale price increases when determining where to set our retail prices. In some cases, because of 

competition from other retailers in our market area, we did not pass the entire increase in rack prices through to retail. On these days, virtually every gallon we sold 

from our stations resulted in no or negative profit margins for our company, once 

our operating costs are taken into account. 

My personal experience is similar to the experiences of other retailers across the 

nation. NACS and SIGMA obtained rack pricing data from the Lundberg Survey, 

an independent report on wholesale motor fuel prices, for several major metropolitan areas for last week. This chart (Chart 3) provides a broader look at wholesale 

gasoline prices in the Philadelphia market last week. 

The next two charts (Charts 4 & 5) indicate that my experience in Pennsylvania 

was not unique. Chart 4 summarizes the changes in rack pricing in each region of 

the country, broken down by PADD. As you can see, wholesale prices were up significantly last week in all areas of the country. Chart 5 provides a look at wholesale 

rack prices last week in five randomly chosen cities—Atlanta, Boston, Dallas/Fort 

Worth, Detroit and Philadelphia. All of these cities witnessed substantial increases 

in rack gasoline prices last week. 

I have used these charts to provide you with detailed evidence that Katrina had 

a widespread impact on gasoline prices in much of the country last week—not just 

in the areas devastated by the storm itself. Because crude production was reduced, 

refineries crippled, and gasoline pipelines were taken out of service, gasoline supply 

shortages began to occur, first in areas close to the areas hit by Katrina and rapidly 

moving outwards to areas of the country served directly or indirectly by the production, refining and transportation hub of the nation’s Gulf Coast. 

These statistics confirm that retail gasoline price increases last week were justified by movements in the wholesale cost of gasoline. While two months from now 

hindsight may provide us with additional facts that will indicate that the markets 

could have responded to this supply crisis differently, as we are going through this 

crisis, the fundamental laws of economics tend to apply forcefully—if demand remains the same or increases and supply is reduced, prices will rise. This is the situation we have experienced for the last ten days. 

V. ALLEGATIONS OF PRICE ‘‘GOUGING’’

Last week, there were widespread media reports, and even some comments by 

congressional leaders, of gasoline price ‘‘gouging’’ by gasoline marketers in the wake 

of Katrina. I can not assure the committee that all of these reports are false or that 

isolated instances of profiteering for personal gain in the midst of this crisis did not 

occur last week. I wish I could. 

However, I can tell you that such actions were not the norm in our industry. The 

vast majority of gasoline marketers are fair and scrupulous businesses. As my testimony has shown, I personally responded to wholesale price hikes in my area in setting my retail prices. I am not aware of any credible instance in which retail price 

increases were not justified by the supply crisis faced by a retailer. 

It is important for this committee to understand how I and other gasoline retailers establish our retail prices in a market with escalating wholesale prices. Simply 

stated, I try to set my prices on the basis of the replacement cost of the gallons I 

have at my outlets. This is an important concept which may not be readily grasped. 

When wholesale prices are rising, and I know that the next load of gasoline I purchase from my supplier will cost me substantially more than my last load, my sales 

must generate sufficient cash for me to make that next purchase and to pay my supplier. 

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1 All information based on publicly available sources.

For example, assume the gasoline at one of my retail stations cost me $2.00 per 

gallon yesterday. I know that the next gasoline truckload from my supplier, to be 

purchased tomorrow, will cost me $2.25 per gallon. I will, if I can based on competition in my area, set a retail price at my outlet today that will cover the higher price 

I will have to pay tomorrow. If I don’t, I will be forced to borrow money from my 

company’s banks to pay for tomorrow’s gasoline. Such debt only increases my cost 

of staying in business and adds to the upward pressure on retail gasoline prices. 

It is a sound business practice for a retailer to price today on the replacement cost 

of gasoline at the outlet, not the cost of product actually at the outlet. 

If instances of profiteering on this tragedy have occurred, federal and state officials have ample legal recourse for dealing with those bad actors, including Section 

5 of the Federal Trade Commission Act. Such behavior must not be tolerated now 

or in the future in our industry or any industry. 

However, just as such behavior must not be tolerated in our industry, neither 

should the media or other opinion leaders react to such anecdotal reports by issuing 

blanket indictments of all motor fuel marketers. Such generalizations may make for 

good ‘‘sound bites,’’ but they do not reflect what is actually happening across the 

country and unfairly damage the reputations of many companies that are struggling 

to meet the challenges of the current crisis. 

If the only thing you knew about my company was that I raised by retail gasoline 

prices by over 70 cents per gallon last week, would you suspect that I was attempting to profit from this crisis? Maybe. But based on the information I have given you 

today, I trust that you would reach a different conclusion after you had investigated 

the facts. I urged this committee and your colleagues to gather the facts on last 

week’s gasoline supply and retail pricing situation before reaching conclusions about 

my actions or the actions of other motor fuel marketers. 

As a final point with respect to retail pricing, I have one more chart to share with 

you (Chart 6). This chart outlines the approximate gross revenues that several different parties in the petroleum exploration, refining, and distribution system realize 

from each barrel of crude oil. Simply stated:

• In August 2003, the royalty owner of the crude oil received approximately $4 

per barrel; in August 2005, the royalty owner received about $8 per barrel; 

• In August 2003, the crude exploration and extraction company was receiving 

approximately $28 per barrel of oil; in August 2005, this company received 

about $67 per barrel; 

• In August 2003, a refiner was receiving around $11 per barrel; in August 2005, 

this company received about $27 per barrel; 

• In August 2003, a gasoline retailer was receiving approximately $6 per barrel; 

in 2005, that retailer still received about $6 per barrel; and, 

• In August 2003, a credit card company was receiving approximately $1.50 per 

barrel; in 2005, that company is receiving approximately $3 per barrel.1

Based on this information, I question whether it is appropriate to single retailers 

out for pricing scrutiny. 

VI. RECOMMENDATIONS FOR THE FUTURE

In 1996, Tom Robinson, a former president of SIGMA, offered the following testimony to this committee as part of a hearing on ‘‘Recent Increases in Gasoline 

Prices.’’ ‘‘The federal and state governments regulate the gasoline refining and marketing industry with little or no thought given to costs, distribution difficulties, or 

market efficiencies. Congress must acknowledge that... the present course will 

lead to further market disruptions and higher gasoline prices at the pump.’’ Mr. 

Robinson made that statement over nine years ago. 

Last year, Bill Douglass testified on behalf of NACS and SIGMA at a House Energy and Commerce Committee hearing on gasoline prices and stated:

‘‘Our nation’s gasoline and diesel refining industry is shrinking at a time 

when consumer demand continues to rise. Unless we collectively change course, 

domestic refining capacity will be unable to keep pace with demand, gasoline 

and diesel fuel price spikes such as the one we have experienced this year will 

become the norm rather than the exception, and our nation will become more 

reliant on imports of gasoline and diesel fuel to meet increased consumer demand in the coming years. Congress has a choice, it can either pursue policies 

that will encourage the expansion of domestic refining capacity, or it can turn 

its gaze overseas for our nation’s future gasoline and diesel fuel needs.’’

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Unfortunately, both Mr. Robinson’s and Mr. Douglass’ predictions have come true. 

Domestic refining capacity continues to shrink, wholesale and retail motor fuel price 

spikes have become the norm rather than the exception, and more of our nation’s 

gasoline needs are being met by foreign sources. NACS and SIGMA assert that it 

is time to stop talking about these problems and do something about them. 

In my opinion, the enactment of the ‘‘Energy Policy Act of 2005’’ (EPAct 2005) is 

a good first step towards addressing these problems. I commend you, Mr. Chairman, 

and your colleagues for taking the lead in making this important legislation a reality after five long years. Specifically, EPAct 2005 gave the Environmental Protection Agency the statutory authority to waive certain gasoline and diesel fuel controls 

last week, providing the market with much needed flexibility to move product between markets to mitigate supply disruptions. This is an immediate example of the 

positive impact this energy bill has had on the market. 

There are other important provisions in the 2005 energy bill that will assist in 

expanding domestic refining capacity and in mitigating gasoline supply dislocations 

and price spikes, including:

• Repeal of the reformulated gasoline program’s oxygenate mandate; • Restrictions on creation of new ‘‘boutique fuels’’ which strain refining capacity 

and the distribution system; • Authority for retailers to blend compliant RFGs for limited periods each summer; and, • Federal tax incentives to encourage the expansion of domestic refining capacity.

NACS and SIGMA urge this committee and this Congress to build on the progress 

made through EPAct 2005 in the following ways:

• Assure prompt implementation of the EPAct 2005 provisions outlined above, including the joint Environmental Protection Agency and Department of Energy 

study on increasing gasoline and diesel fuel supplies while protecting the environment; • Streamline permitting and siting procedures for expanding existing domestic refining capacity and for the construction of new grassroots refineries; • Adopt additional tax incentives to expand our domestic refining capacity, or a 

federal government-led effort to site and build three new 500,000 barrels per 

day refineries on federal lands to augment domestic production; • Encourage increased price transparency and lower price volatility in the nation’s gasoline futures markets by increasing the number of delivery points and 

product types under such contracts; and, • Investigate the pricing policies of credit card companies, whose charges make 

up an ever-increasing portion of the price of gasoline at retail outlets, particularly when gasoline prices are high.

None of these recommendations will result in a substantial short-term increase 

in gasoline supplies or retail price decreases. However, if we do not undertake these 

initiatives now, we will be sure to repeat the experiences of the ten days in the future. 

VII. CONCLUSION

Thank you for inviting me to testify today on this important topic. I would be 

pleased to answer any questions my testimony may have raised.

The CHAIRMAN. Let me say thank you, and let me also say I am 

very sorry that the hearings have proceeded as they have because 

you deserve, both of you deserve to be heard by a much larger audience, including different media than is here—there is not much 

media left—because I think both of you talk about some very practical things, one on some things we ought to be doing, another on 

rather realistically showing us what one chain company through its 

hierarchy is doing. 

There is no chance that at the lower level that anybody is changing the prices you recommend in your chain? That is the price that 

is going to be charged, right? 

Mr. SHIPLEY. You mean other than me setting prices? 

The CHAIRMAN. Yes. 

Mr. SHIPLEY. Actually, there are other people that are setting 

prices, but they are doing it at my direction. 

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The CHAIRMAN. That is what I mean. If we find one of your stations, it should be setting prices that you have already indicated 

are what you want? 

Mr. SHIPLEY. That are consistent with—which is basically to be 

able to afford——

The CHAIRMAN. So it is basically pursuant to the plan you have 

just told us about? 

Mr. SHIPLEY. Yes. 

The CHAIRMAN. Are the business notions that mean survival for 

you. 

Mr. SHIPLEY. Yes. Last week was one of the most unusual weeks 

we have ever been through. The uncertainty of not knowing what 

our cost is made it difficult to price it. 

The CHAIRMAN. Right. 

Mr. SHIPLEY. But also, we were threatened by the fact that we 

could end up in a situation where we could not buy. 

The CHAIRMAN. Right. Very good. 

Now we are going to go to you, Mr. Darbelnet. The same rules 

for you, if you please. 

STATEMENT OF ROBERT L. DARBELNET, PRESIDENT AND 

CEO, AMERICAN AUTOMOBILE ASSOCIATION 

Mr. DARBELNET. Thank you. Good afternoon, Mr. Chairman and 

remaining members of the committee. I am Robert Darbelnet, 

president and CEO of AAA. In a sense, every American has been 

visited by the emotional impact of Katrina and now many Americans have also been affected by the economic consequences of what 

has occurred. I will speak to the latter, but let me be clear. The 

greatest tragedy is on the gulf coast. Addressing the situation there 

must be the Nation’s first priority. 

I stated that many Americans would be impacted by the economic consequences of Katrina. That will occur through potentially 

limited availability of gasoline and increasing prices. In fact, gas is 

already selling at a dollar more than it was 12 months ago. The 

price of gas increased by 45 cents last week alone. That is not a 

function of increased costs of crude. In fact crude remained flat last 

week. It is not a function of increased cost of refining. Most of this 

gas was refined before the storm hit. It may be marginally a function of the fact that this was more expensive to transport under the 

circumstances. But the increase of 45 last week is primarily a function of what the market will bear. 

To avoid this escalating into a nationwide crisis, the country 

needs a broad and well-coordinated effort. This gets to Senator 

Thomas’s question about what are some of the near-term measures. 

Some of the near-term measures involve motorists, oil companies, 

Federal authorities, local authorities, and the media. The required 

measures include the following: 

Motorists must reduce consumption by using their most fuel efficient car and avoiding unnecessary trips. Oil companies must ensure that their pricing yields what they need and deserve, but no 

more. Federal authorities need to relax requirements for blended 

fuels and release crude oil from the SPR. We applaud that they 

have. 

88

Local authorities must be vigilant with regard to any retail pricing abuses which may occur. The media must carefully cover the 

situation. Overreporting a limited number of shortages could provoke panic buying or hoarding. 

But doing all of these things will not put an end to the crisis. 

There are three other things that Congress could do that would 

help the situation. First, you could require that the EPA modify its 

MPG testing procedures to accurately reflect real world driving 

conditions. Current tests assume drivers never go over 55, never go 

up hills, and never use air conditioning. The American people deserve better if we expect them to make intelligent purchases of vehicles. 

Second, we ought to seek a Federal standard for clean gasoline 

that does not result in a patchwork of fuel blends, which was 

amply discussed earlier. 

Third, we must commit to achieving higher fuel economy standards on all vehicles. We acknowledge that the administration has 

issued a proposal to revise the current CAFE program. However, 

this proposal does nothing to address the largest and heaviest passenger vehicles on the road today and that simply is not right. 

[The prepared statement of Mr. Darbelnet follows:]

PREPARED STATEMENT OF ROBERT L. DARBELNET, PRESIDENT & CEO, AAA 

Good afternoon, Mr. Chairman, and members of the committee. I am Robert 

Darbelnet, President and CEO of AAA. 

The devastation resulting from Hurricane Katrina is unfathomable. I suspect all 

of us have been moved over the last few days by the heartbreaking pictures of those 

who have lost everything and are now homeless. 

In a sense, every American has been visited by the emotional impact of Katrina. 

Soon though, many American’s will also be affected by the economic impact of what 

has occurred. 

I will speak to the latter, but let me be clear—the greatest tragedy is on the Gulf 

coast. Addressing that situation must be the nation’s first priority. 

Mr. Chairman, not only has this hurricane wreaked havoc on the inhabitants of 

the Gulf region, it has added considerably to an energy market already on edge. In 

addition to laying waste to millions of homes, it has devastated much of our nation’s 

fragile gasoline infrastructure. Many people were already paying nearly $3.00 a gallon for gasoline before the storm with no end in site. Katrina had made what was 

a bad situation, worse. 

I stated that soon many Americans would be impacted by the economic consequences of Katrina. 

That will occur through potentially limited availability of gasoline and increasing 

prices. Gas may soon be selling at a dollar more a gallon than it was 12 months 

ago. In some areas, it already is. 

In times of abundance and low prices, we don’t realize how critical fuel is to our 

economy and our way of life. As a public service, AAA maintains a nationwide gasoline price report on the Internet, the Fuel Gauge Report (www.fuelgaugereport.com). 

We list daily average prices for 250 metropolitan locations and all 50 states which 

is updated every 24 hours. At the end of last week the Fuel Gauge Report showed 

that the national average price for a gallon of regular unleaded gasoline was $2.867. 

This compares to $1.852 per gallon a year ago, or an increase of over $1 per gallon. 

Although AAA is not involved in the production, shipping, refining, or retailing 

of gasoline, we have serious concerns about policy decisions and approaches to the 

nation’s price and supply of gasoline, and the resulting impact on consumers. 

The uninterrupted availability of reasonably priced gasoline is what allows:

• people to get to work, 

• children to get to school, 

• goods to be transported, 

• business people to travel, and 

• families to vacation.

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Katrina has disrupted our access to crude oil and our refining capability, both of 

which were already under enormous pressure. 

To avoid this escalating into a nationwide crisis, the country needs a broad and 

well-coordinated effort. 

To be successful, this immediate effort must involve:

• motorists • oil companies • federal authorities • local authorities, and • media.

The required measures include the following, some of which are already under 

way:

• Motorists must reduce consumption by using their most fuel efficient car, avoiding unnecessary trips, maintaining their vehicle, driving ‘‘gently’’ and car-pooling whenever possible. 

We should also avoid the impulse to hoard gas or constantly top off tanks. 

Even in the best of times there is not enough fuel in the system to fill every 

car and truck to the top of their fuel gauge. 

Effective use of energy is a learned behavior. To conserve, Americans must 

find ways to lessen their demand for gasoline and do more with less. But Americans are faced with marketing messages that promote a bigger, high-powered 

automotive culture. We are urged to ‘‘drive bigger,’’ ‘‘go faster,’’ and ‘‘do more.’’ 

Such messages are inconsistent with fuel conservation, let alone traffic safety. 

Americans can do a great deal to conserve gasoline. They can use public 

transportation wherever and whenever feasible. They can form carpools for commuting. They can purchase fuel-efficient vehicles. And they can take everyday 

actions that will help reduce the amount of gasoline they have to purchase. 

In particular, the car or truck you drive, how it’s maintained, where you drive 

and how you drive are the most important factors in conserving fuel:

• Routinely maintaining your vehicle by keeping tires properly inflated, keeping 

moving components well lubricated, and emissions systems operating properly 

will help you achieve maximum fuel economy and extend its useful life. • A heavier vehicle uses more gasoline so don’t haul extra weight or cargo if 

you don’t have to. • Take a look at your owner’s manual. If your vehicle does not require premium 

or mid-grade fuel, purchase less expensive regular unleaded. • Consolidate trips and errands to cut down on driving time and slow down. 

Leave enough time to reach your destination at a proper speed. • Avoid sudden stops and ‘‘jack rabbit’’ starts that waste fuel and are hard on 

your vehicle’s components. • Finally, comparison shop for gasoline prices just like you would any other 

consumer good.

• Employers can do their share too. Many companies have telecommuting policies, 

allowing staff to work from home. Now is the time to apply those policies more 

liberally, especially while refining capacity is diminished. 

• Oil companies must ensure that their pricing yields what they need and deserve, but not more. 

• Federal authorities needed to relax requirements for blended fuels and release 

crude oil from the Strategic Petroleum Reserve. We applaud that they have. 

• Local authorities must be vigilant with regard to any retail pricing abuses 

which may occur. Also, they must be prepared to institute fuel purchase management programs if the need arises. 

• The media must carefully cover the situation. Over-reporting a limited number 

of shortages may provoke panic buying or hoarding, and that will only make 

the situation worse.

Doing all of these things will not end the crisis, but will mitigate its impact. 

There are three other things Congress could encourage that would also help the 

situation: 

1. Require that the EPA modify its MPG testing procedures to accurately reflect realworld driving conditions. 

Current MPG tests assume drivers never go over 55 miles per hour, drive up hills 

or use their air conditioners. That’s wrong and the American people deserve better, 

especially if we expect them to make informed car purchases. 

Americans need to be smarter, better informed consumers when it comes to fuel 

efficiency. Unfortunately, people who shop for new vehicles are experiencing a difVerDate 0ct 09 2002 09:40 Jan 26, 2006 Jkt 109235 PO 25575 Frm 00093 Fmt 6633 Sfmt 6621 P:\DOCS\25575.TXT SENERGY2 PsN: PAULM
90

ferent kind of ‘‘sticker shock’’ when it comes to the posted mileage estimate for highway and city driving. Unfortunately, motorists find out after they’ve bought that 

new vehicle that the posted estimated mileage by the Environmental Protection 

Agency (EPA) is not going to reflect the results they experience in the real world. 

The EPA uses tests designed in the mid-1970s, to measure vehicle miles per gallon under ideal circumstances that reflect little of the actual driving conditions that 

face most motorists. AAA has urged the EPA repeatedly to use whatever means at 

its disposal to enhance these mileage tests to better reflect the manner in which 

people actually drive. We were very appreciative of Senator Cantwell’s efforts to address this issue during consideration of the Senate version of the transportation bill. 

But AAA believes the MPG provision in the recently enacted energy bill will not 

solve this problem and we will therefore continue to advocate an effective standard 

to achieve more accurate mileage estimates. 

Another tool that consumers can utilize is AAA’s Fuel Price Finder. This is a new 

Internet-based tool to research local gasoline prices. When prompted by a ZIP code 

or a city name, the site will identify recent prices for fuel stations within a three, 

five, or ten-mile radius with addresses and a map of their locations. This is a new 

service that is currently available to approximately 50 percent of AAA’s membership 

in the United States. Just like you shop around for other consumer products, AAA 

recommends you shop around, when possible, for gasoline. 

2. Seek a federal standard for clean gasoline that does not result in a patchwork of 

fuel blends. 

AAA has no interest in scaling back improvements in air quality, but so-called 

‘‘Boutique Fuels’’ have contributed to price volatility and regional disruptions. We 

need to find a way to achieve both our clean air and supply goals. 

3. Commit to achieving higher fuel economy standards on all vehicles. 

We would prefer to see automakers commit to this challenge voluntarily, but if 

they are unwilling to do that, Congress should require improvements through 

changes in CAFE standards. AAA acknowledges that the Administration has issued 

a proposal to revise the current CAFE program. However, this proposal does nothing to address the largest and heaviest passenger vehicles on the road today. That’s 

not right. 

AAA believes the proposal is flawed: it is merely a small step toward fuel efficiency and does nothing to capture the heaviest passenger vehicles on the road. This 

is unacceptable while the nation faces the reality of high gasoline prices and potential supply problems. 

AAA understands that Americans want choice in their vehicles, but we also believe choice is possible among much more fuel efficient vehicles. We can no more 

ignore these vehicles in CAFE standards than we can when we try to park next to 

one. 

When things do return to normal, we should not forget the fragility of our situation. 

As Katrina has reminded us, we are never more than a disaster away from this 

type of crisis. 

If we do not reduce our dependency on fossil fuel or increase our access to a reliable source of it—or both—the narrow margin we rely on for stability will continue 

to erode. 

There are also longer term strategies that are important, such as:

• developing alternate fuel sources, 

• building more fuel efficient vehicles, 

• expanding efficient public transit, 

• reducing our dependency on foreign oil, etc.

These will all take time and thus won’t resolve our more immediate problems. 

But these longer term strategies are important and are deserving of your attention. These are not new issues, but it is now clearly time for them to be elevated 

in importance and priority. 

Mr. Chairman, a word of caution. In the Spring and Summer of 2000 as the nation grew alarmed by $2 per gallon gas prices, Congress seriously considered a temporary repeal of federal gasoline taxes. AAA opposed those efforts then, and would 

caution against such an effort now as well. 

While attractive at first glance, such a course of action will do little to address 

the root causes of our gasoline price problem today. The resulting loss in receipts 

to the Highway Trust Fund would severely compromise the safety of the traveling 

public. Asking the American people to choose between a gas tax reduction and safety is posing the wrong question. Short term fixes, while politically popular, are not 

91

the answer to a long-simmering national energy problem, and are not in the best 

interests of highway safety and the overall economic well-being of the nation. 

Let me reiterate that the greatest hardship resulting from Katrina is not at a fuel 

pump that displays a high price or—even worse—the word ‘‘empty’’. 

The greatest hardship is that faced by the people of the Gulf coast, and our hearts 

go out to them. 

In conclusion, Mr. Chairman, AAA will continue to urge motorists to do their part, 

but we are also looking to our leaders in government and industry for answers. 

If we consider the issues in a comprehensive fashion, we will better be able to 

serve our constituents—and yours—together. 

Once again, thank you for the opportunity to testify today. I will be happy to answer any questions.

The CHAIRMAN. Mr. Darbelnet, would you give me a moment. I 

must vote or I will miss it. Senator Burr is here, Senator Wyden 

is here. My recommendation as chairman is that the next witness 

proceed and that we go, collectively not go beyond 6 o’clock, meaning that the two of you could take over and ask some questions, 

but that we not stay open for very long. 

Senator BURR. Mr. Chairman, before you leave could I ask unanimous consent that all members be allowed to submit written questions to the second panel? 

The CHAIRMAN. That will be done. I have already asked if you 

would submit questions to things you have heard that we might 

not have time today to inquire of you because of this problem. 

Senator WYDEN. Mr. Chairman. 

The CHAIRMAN. Yes? 

Senator WYDEN. You have been very gracious. Could I amend 

that UC to perhaps say 10 after 6? 

The CHAIRMAN. Yes. 

Senator WYDEN. Would that be acceptable? 

The CHAIRMAN. That would be fine. 

Senator WYDEN. Thank you. 

The CHAIRMAN. If it is all right with you, if you do not mind. 

I would say to all of you, it has been most enlightening, just the 

little bit I have heard, and I think, Mr. Dowd, you will contribute 

to a continuation of that. I think that the most interesting thing 

is that there is nobody here yelling and screaming. They are being 

very productive. AAA, I commend you. You know what is out there 

and I think what you are talking about in terms of practical things 

are very good. 

Senator Burr will be in charge because that is the way it is. We 

are in the majority, regardless of his experience, age, and baldheadedness. No, you are about the same. But with that, I am going 

to relinquish the chair. Thank you. 

Senator BURR [presiding]. Mr. Darbelnet, please continue. 

Mr. DARBELNET. Thank you. 

If we do not reduce our dependency on fossil fuel or increase our 

access to a reliable source of it or both, the narrow margin we rely 

on for stability will continue to erode. There are also longer term 

strategies that are important, such as developing alternate fuel 

sources, building more fuel efficient vehicles, expanding efficient 

public transit, and reducing our dependency on foreign oil. But all 

of these will take time and thus will not resolve our more immediate problems. However, these long-term strategies are important 

and they are deserving of your attention. 

92

These are not new issues, but it is now clearly time for them to 

be elevated in importance and in priority. Let me reiterate that the 

greatest hardship resulting from Katrina is not at a fuel pump that 

displays a high price or, even worse, the word ‘‘empty.’’ The greatest hardship is faced by the people of the gulf coast and our hearts 

go out to them. 

As it relates to fuel, gentlemen, we at AAA will do our part to 

calm the public and to calm our 48 million members, but only if 

we are confident that you are doing your part, too. Katrina has 

shown the public and perhaps the world how vulnerable our transportation and energy networks are. There is an opportunity here, 

in fact an obligation, to go beyond the energy bill and to make the 

changes that will keep this from ever happening again. 

Thank you for the opportunity to testify today. 

Senator BURR. Thank you, sir. 

At this time the chair would recognize Mr. Dowd. 

STATEMENT OF JOHN DOWD, SENIOR RESEARCH ANALYST,

SANFORD C. BERNSTEIN AND CO., LLC 

Mr. DOWD. Thank you. I would first like to thank you for the opportunity to speak today. My name is John Dowd. I am a senior 

energy analyst at Sanford Bernstein, which is a firm that specializes in providing expert advice to Wall Street investors. 

Actually, I would like to deviate from the script a little bit because there are some key points that have not been addressed. The 

key point: This is a global problem. Changing U.S. consumption by 

5 percent would alter global demand by 1.3 percent. Now, 1.3 percent is a large number, depending on how you look at it. It would 

double the amount of spare capacity in the oil markets today. But 

1.3 percent is also about enough to offset 2 years of Chinese demand growth. The point is this is not just us. 

Also, energy independence is a sense a myth. Even if the United 

States were an exporter of crude, it is not clear that would help out 

the U.S. consumers. The UK is a net exporter of crude and gasoline 

prices in the UK are above where they are right here in the United 

States I think it is important to recognize the global extent of these 

issues. 

With spare capacity in the energy industry at the lowest level in 

decades, not just in the United States but globally, it really was 

just a matter of time before a disruption somewhere upset what is 

currently a very delicate balance in the markets. At present the 

world has only 1.4 million barrels per day of spare capacity, and 

this assumes that all of the Gulf of Mexico production that is offline today comes back immediately. That is less than 2 percent of 

current oil demand, less than 1 year of demand growth. 

Two months ago my company provided expert analysis to support 

a simulation exercise called Oil Shockwave that examined the sensitivity of the oil markets to supply shocks and potential policy responses. The simulation brought together nine former high-level 

White House Cabinet officials right here in Washington. It was 

sponsored by two independent organizations, SAFE, which is Securing America’s Future Energy, and the National Commission on 

Energy Policy. 

93

I would like to include in my testimony two reports issued as a 

result of that simulation. 

Senator BURR. Without objection. 

Mr. DOWD. The conclusion is that our policy response is really 

straightforward. We can either increase spare capacity—well, that 

is it. We can increase spare capacity. We can do that either by increasing world oil supplies or by reducing global demand, either of 

which will reduce the risk premium and prices will fall. 

In practice, accomplishing that task of increasing spare capacity 

is anything but straightforward. My key point is that the reason 

we find ourselves with such limited spare capacity in the global hydrocarbon markets is because it has been so difficult to accelerate 

supply. This is not intuitive. Conventional wisdom holds that if an 

industry invests more money then supply growth will accelerate. 

Unfortunately, conventional wisdom has not been working and that 

is why we are in the situation we are in today. 

The data is fairly stunning. Coming from Wall Street, we talk 

primarily in terms of data. The investment in the U.S. oil and gas 

industry has doubled over the past decade to one of the highest levels in history. Nonetheless, domestic hydrocarbon production continues to decline. My point being it is going to be very difficult to 

solve the world’s supply issues through additional investment in 

the United States. 

There are striking examples overseas as well. A decade ago, the 

hope of the industry was that new reserves in deep water basins 

would provide for the next wave of global supply additions. The industry invested aggressively and tripled the number of deep water 

rigs in order to tap reservoirs beyond the continental shelves. However, after the initial flurry of exploration success, discovery rates 

stabilized despite the jump in drilling activity. Reserves outside of 

OPEC and the former Soviet Union peaked in 1997 despite all of 

the exploration in the deep water and the record investment by the 

oil industry since that timeframe. 

This lack of sizable discoveries is one reason why non-OPEC production growth rates have slowed. Excluding the former Soviet 

Union, production growth rates from non-OPEC countries have 

slowed in each decade over the past 5 years. It does not seem to 

be tied to investment. 

A major concern—there are two going forward. First, E&P spending, spending by the energy industry, is already at a record high 

level. Virtually every rig in the world is already being used. There 

are four quality offshore drilling rigs that are idle. It is about 1 

percent of supply. This industry is running hard today. Adding new 

equipment to the drilling rig industry will take 3 to 5 years. That 

is how long it takes to build a modern piece of equipment. 

Another concern is that events outside our border will influence 

oil prices here. Much attention has been focused on the growth in 

China, which has been responsible for 25 percent of the growth in 

global oil demand over the past 10 years. All of the increase in Chinese oil demand, however, has been offset by increased exports 

from the former Soviet Union. What makes that an alarming statement is that, while Chinese demand continues to grow, Russian 

production growth stopped last September. This is potentially a 

94

game-changing event for the oil markets and one that we in the 

United States have limited control over. 

We are probably all familiar with the well-worn homily about 

having the serenity to accept what you can change, the courage to 

change what you can, and the wisdom to know the difference. I do 

not know that anyone would counsel serenity under the current circumstances, but courage and wisdom are certainly called for. 

We cannot control hurricanes, terrorists, or the investment climate in foreign countries. We cannot stop international oil markets 

from adding a sizable risk premium to oil prices as long as global 

spare capacity is as low as it is. The only way that we can really 

help the U.S. consumer mitigate the effects of global price inflation 

is to help them conserve. I would recommend stronger fuel efficiency rules. That could make a difference. Increasing U.S. production really is not likely to make a difference to the global crude 

price. We should build more refineries, we can build more refineries. Refining investment in the United States this year is going 

to be the highest in 10 years, so I know that efforts are under way 

to do that. 

But I caution that this is global. This is not a U.S.-specific event. 

And I thank you for your time. 

[The prepared statement of Mr. Dowd follows:]

PREPARED STATEMENT OF JOHN DOWD, SENIOR RESEARCH ANALYST, SANFORD C. BERNSTEIN & CO., LLC 

INTRODUCTION

Good afternoon. I am John Dowd, Senior Research Analyst at Sanford Bernstein 

& Co., a firm that specializes in providing expert advice and research to Wall Street 

investors. I would first like to thank you for the opportunity to speak today about 

why gasoline prices are so high and how we might better protect ourselves in the 

future from the kinds of price shocks we have been seeing over the last few years 

and more recently, of course, in just the last few days. 

This hearing was scheduled weeks before Hurricane Katrina barreled into the 

Gulf Coast, setting off a chain reaction in energy markets that has now raised the 

visibility and the urgency of the issues we are discussing to a whole new level. Once 

again we find ourselves wondering if an energy crisis is at hand and how long and 

how bad it might be. Once again, we find ourselves asking: Isn’t there some way 

to stop having these crises in the future? 

My esteemed colleagues on this panel can speak with authority to the specifics 

of our current situation and to the pain it is causing the average American consumer and the larger economy. It is, of course, important that we address these specifics and that we take whatever steps we can to ameliorate the effects and minimize the duration of the present crisis. Hurricane Katrina has exposed the 

vulnerabilities created by a critical shortage of refinery capacity in our country and 

I agree with many of my fellow panelists that this must be addressed. 

But I would also like to take the opportunity in my testimony to step back from 

the specifics of the pre-and post-Katrina situation to address some of the bigger-picture forces of oil supply and demand that have brought us here. For I believe that, 

unless we address some of these underlying dynamics now, we will be back in a few 

months or a few years, re-examining the same issues we are discussing today. 

I would like to highlight five main points about our current oil predicament and 

what we can and can’t do about it. 

1. The oil industry is inherently volatile in the sense that it is driven by a host 

of supply and demand factors which are largely beyond our control, at least in the 

short-run. That volatility becomes acute when, as now, spare production capacity is 

extremely tight. Under these circumstances, even a small disruption can produce 

large price spikes. 

2. The primary reason that we find ourselves with such limited spare capacity is 

because the record investment by the energy industry aimed at expanding oil production has not resulted in the expected supply response. Conventional wisdom 

holds that more investment will lead to more supply. In the case of global oil proVerDate 0ct 09 2002 09:40 Jan 26, 2006 Jkt 109235 PO 25575 Frm 00098 Fmt 6633 Sfmt 6621 P:\DOCS\25575.TXT SENERGY2 PsN: PAULM
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duction, the validity of conventional wisdom does not appear to be certain. This uncertainty emanates from several sources: 

a. Global oil production growth rates outside of OPEC and the Former Soviet 

Union have slowed each decade over the past five, regardless of the level of investment. 

b. Investment in U.S. hydrocarbon production has doubled over the past decade 

and production has not grown. The record investment undertaken by the industry 

over the past five years has not been sufficient to cause global oil reserves outside 

of OPEC and Russia to expand. Furthermore, exploration success rates in deepwater 

basins have been substantially below initial expectations. 

c. Virtually every rig and every petroleum engineer in the world is already working. Materially increasing the level of activity beyond the current level is not feasible over the coming 3-5 years. 

3. In the case of the refining industry, conventional wisdom regarding the effectiveness of additional investment does appear to be correct. We can and should build 

more refining capacity. Nonetheless, the industry today finds itself operating at a 

very high level of utilization due to the robust economic growth over the past decade, the slowdown in efficiency improvements in the auto fleet, more stringent environmental requirements, and the deteriorating quality of crude available to the industry. 

4. This is not only a U.S. predicament. Gasoline prices this year have risen equally in Europe and the Far East. This is a global supply and demand issue. Important 

trends taking place overseas will likely exacerbate the situation. For instance, 

China has accounted for 1/4 of the global increase in oil demand over the past decade. To date, this increase in demand from China has been entirely offset by accelerated production from the Former Soviet Union (FSU). What is alarming is that 

while Chinese demand continues to expand, Russian production stopped growing 

last September. 

5. In the short run we have relatively few options for addressing a crisis beyond 

tapping the Strategic Petroleum Reserve. So even as we cope with today’s realities 

we must begin to think—and act—beyond the short run. In doing so it’s important 

to recognize that U.S. consumers and policymakers have far more control over longterm demand than they do over long-term supply. The demand side of the equation 

is where we have the most leverage and where we must focus our effort and resources. 

HIGH UTILIZATION IS THE CAUSE OF HIGHER PRICES

With spare production and refinery capacity at the lowest levels they have been 

in decades—not just in the United States, but globally—it was only a matter of time 

before some disruption, somewhere, would have the dramatic impact on oil markets 

and on our economy that we are seeing as a result of Katrina today. In fact, as you 

well know, gasoline prices have been rising for some time now, largely because rapidly growing global demand has outpaced the oil industry’s ability to bring new supplies to the market. This created a situation in which any disruption to existing supplies, even a relatively small one, would inevitably have an exaggerated impact on 

oil markets and on gasoline prices. 

Just two months ago, in fact, my company provided expert analysis to support a 

simulation exercise called Oil ShockWave that attempted to examine how we might 

respond to a short to medium-term oil supply crisis of just the sort are experiencing 

now. The simulation brought together nine former high-level White House and Cabinet officials right here in Washington D.C. It was sponsored by two independent 

non-profit organizations—Securing America’s Future Energy or SAFE and the National Commission on Energy Policy—that see our nation’s oil dependence as constituting one of the preeminent public policy challenges of our time. In Oil ShockWave, 

the hypothetical events that trigger a crisis primarily involved terrorist attacks and 

political unrest in far-off lands. But the point of the exercise was that, due to the 

lack of spare capacity, it really doesn’t take much of a disruption to trigger a crisis 

in today’s market and it doesn’t really matter how that disruption comes about. Indeed, recent events may be proving, all too tragically, that Mother Nature can do 

just as well as Al Qaeda at sending a shockwave through the world’s advanced 

economies. 

In addition, because there is so much overlap between these points and the findings that emerged not only from Oil ShockWave but also from the bipartisan National Commission on Energy Policy, which issued a comprehensive set of policy recommendations last December, I am including with my testimony the two reports 

issued as a result of both those efforts. 

96

* The exhibits and other attachments have been retained in committee files. 

As I have already mentioned, our growing susceptibility to a supply disruption 

like that caused by Katrina is rooted in a dramatic decline in spare production capacity as global demand for oil has grown more quickly than the ability to bring 

new supplies to market. The volatility and high prices we’ve been seeing since well 

before last week are a direct consequence of historically low spare production capacity, not only in the United States but in the world as a whole. When spare capacity 

is low, even a relatively small disruption in global supply can cause shortages and 

produce sharply higher prices. The market responds to the increased risk of future 

shortages by attaching a premium to the prices they would otherwise charge based 

on current inventories and current demand. This premium appears to be directly 

proportional to the amount of spare production capacity held in reserve. 

For example: if there were 6 million barrels per day of idle capacity worldwide, 

no single terrorist act or natural catastrophe would be sufficient to cause a shortage. 

The risk premium would be low. At present, however, the world has only 1.4 million 

barrels per day of spare production capacity (assuming that all of the Gulf of Mexico 

capacity returns imminently), or less than 2 percent of current global demand. This 

is only enough spare capacity to meet a little more than one year of expected demand growth and it leaves world oil markets at the mercy of political conditions in 

Venezuela, Nigeria, and Iraq, not to mention natural disasters and potential terrorist acts. In fact, the price of oil over the last year has hovered somewhere between the cost of producing it and the $100-per-barrel price (in real terms) witnessed during past crises, indicating that the market was already factoring in some 

probability that a shortage would occur at some point in the future. In the weeks 

before Katrina, oil prices were fluctuating near $60 per barrel; last week, after the 

storm, they hit a high of $70 per barrel. Analysts have since speculated that at this 

point, any additional supply disruption—in the United States or elsewhere—could 

easily send prices into the triple-digits. In this context, the situation depicted in Oil 

Shockwave—where a global supply shortfall of less than 4 percent produces a world 

oil price of $160 per barrel—looks prescient. 

WHY HAS SUPPLY GROWTH LAGGED EXPECTATIONS?

In theory, the policy response to this situation is straightforward. If we can increase spare capacity—either by increasing world oil supplies or by reducing world 

demand—we will reduce the risk premium and crude oil prices will fall. In practice, 

accomplishing either is anything but straightforward. On the supply-side, the primary concern stems from the apparent inability of non-OPEC producers to materially increase production in recent years despite increased investment and rising 

prices. The conventional wisdom within the energy industry for decades has been 

that the price of oil could not permanently move above $25 per barrel because if 

it did, this would invite a non-OPEC production response. High prices would attract 

more oil investment and production would rise. 

Unfortunately, recent history suggests that the relationship between investment 

and output is not quite so simple, at least when it comes to this industry. The primary reason that capacity growth has been slower than expected is that the productivity of new basins has been substantially less than expected. A stark example can 

be seen in Exhibit 1.* In the United States, capital investment by the oil and natural gas industry has doubled since 1994—yet natural gas production has not grown 

and oil production has actually fallen. This situation does not appear to be an aberration. 

A decade ago, the hope of the industry was that new reserves in the deepwater 

regions of the world would provide the next wave of global supply additions. The 

industry invested sizable sums in building new drilling equipment in order to tap 

the hoped-for reservoirs beyond the continental shelves in the Gulf of Mexico, 

Brazil, West Africa, and the North Sea. However, after an initial flurry of exploration success, discovery rates have been stable despite a jump in drilling activity 

(Exhibit 2). 

While the deepwater basins are a source of supply growth, it is important to keep 

the size of this production growth in context. For instance, roughly 1/3 of the deepwater drilling equipment in the world is operating offshore Brazil, and has been for 

a decade. 

Nonetheless, Brazil is still a net importer of crude oil. Viewed more broadly, even 

with the opening of the deepwater basins to exploration, reserve discoveries outside 

of OPEC producing countries and the Former Soviet Union have not kept pace with 

production from those regions. As seen in Exhibit 3, discovered oil reserves outside 

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of OPEC and the Former Soviet Union peaked in 1997, despite the record investment by the oil industry since that time. 

In fact, the same trend has occurred in all non-OPEC countries outside the former 

Soviet Union. Collectively, these countries have not only been unable to sustain production growth rates, they have witnessed a decline in production growth rates in 

each of the last five decades. During the 1970s, oil production in these countries 

grew by 3.1 percent annually. Over the past decade, production in these countries 

grew only 1.1 percent annually, despite considerably higher levels of investment, as 

seen in Exhibit 4. 

Non-OPEC countries outside the former Soviet Union have experienced sub-par 

reserve discoveries despite an increase in exploratory drilling and the development 

of more sophisticated locating equipment. In fact, annual reserve discoveries in 

these countries have failed to substantially increase over the past 20 years. Worse, 

over the past four years the discovery of new reserves has fallen behind current production, resulting in a decline in total reserves for these countries. 

To some extent, these recent trends are explained by simple geologic reality. As 

reservoirs are gradually depleted, the remaining oil becomes harder and more expensive to extract. New discoveries must constantly be made just to compensate for 

the depletion of existing basins, let alone to meet a substantial new increment of 

global demand growth each year. The world’s largest and most accessible reservoirs 

have already been tapped. As a result, we are now pursuing the less accessible and/

or smaller reserves which typically cost more and experience more rapid production 

declines once they are developed (Exhibit 5). The U.S. experience with natural gas 

production provides a worrisome analog in this regard. Hence, I am including with 

this testimony a separate short paper that provides some additional detail about 

that experience. 

We are also pursuing development of crude oil reserves that in prior times, under 

lower pricing scenarios, were considered to be of unacceptably poor quality. The implications are significant not only for the oil producing industry, but also for the oil 

refining industry. When lower-quality crude oil enters the refining system, it must 

be refined more intensively in order to yield the same amount of gasoline. This is 

one of the factors that has contributed to the high utilization of the refining system. 

The performance of the U.S. refining industry in particular has been impressive. 

The industry has been able to increase gasoline production by 10 percent over the 

past decade, despite a reduction in the absolute number of refineries, more stringent 

environmental requirements, and a slow but persistent deterioration in the quality 

of crude oil available to the market (see Exhibit 6). 

To grossly oversimplify the energy sector, the exploration industry is essentially 

the business of finding gasoline, while the refining industry is the business of making gasoline. It is not possible to analyze one without the other. One of the major 

reasons that refining industry is tight today is because the lack of success of the 

E&P industry in finding new resources. Because we have not found substantial new 

deposits of light sweet crude oil, we have been forced to refine the barrels that we 

have found more intensively. Further deterioration in the quality of crude supplies 

will likely mitigate the benefits of future refining capacity additions. 

One major concern is that the lack of necessary equipment and expertise may 

limit the future supply response. For example, there are today only four competitive 

offshore drilling rigs that are idle available to go to work tomorrow (by contrast, 

some 422 offshore rigs are already working). While demand for offshore drilling 

equipment has recently spiked, supply is expected to rise by only 3 percent annually 

through 2008 based on already signed construction contracts. One difficulty in 

quickly expanding offshore production capacity is that building a modern drilling rig 

requires 3-5 years and costs between $150 million and $500 million, depending on 

the type of equipment. Another difficulty is that qualified labor in the oil industry 

is limited, and we are already running into shortages of skilled workers. 

THESE ARE INTERNATIONAL, NOT DOMESTIC, ISSUES

Meanwhile, a lively debate about whether we are, in fact, beginning to ‘‘run out’’ 

of oil has recently been picked up even by the mainstream press. My first response 

to that debate is to say that no one really knows. My second response is to say that 

I’m not sure it really matters. The question is not whether global oil production has 

begun to reach a peak. The question is whether the growth rate of supply can continue to keep pace with the growth rate of demand. Much attention has recently 

focused on the impacts of China’s growth on world oil markets. In fact, all of the 

increase in Chinese oil demand over the last decade has been offset by increased 

exports from the former Soviet Union (Exhibit 7). This does not, however, appear 

likely going forward. The fact that production in Russia stopped growing last SepVerDate 0ct 09 2002 09:40 Jan 26, 2006 Jkt 109235 PO 25575 Frm 00101 Fmt 6633 Sfmt 6621 P:\DOCS\25575.TXT SENERGY2 PsN: PAULM
98

tember is potentially a game-changing development that will further exacerbate the 

risks of a major supply crisis. Unforeseen changes on the demand side could equally 

accentuate these risks. For instance, if global oil consumption were to grow at a 

pace of 3.1 percent next year rather than current expectations of 2.1 percent, the 

forecast surplus global production capacity would be cut in half. 

Not only is the sensitivity of oil prices to supply disruptions heightened today because of the lack of spare capacity, the frequency of such disruptions is likely to increase because of where new oil producing facilities are being located. Throughout 

history, oil companies have taken a very rational approach to investment, weighing 

political risk against geologic risk when deciding where to explore and drill. As the 

world’s oil basins have matured and geologic risks have increased, the industry has 

demonstrated an increasing propensity to invest in politically risky areas. Today our 

attentions are understandably focused on the risks posed by nature, but any number 

of eminently plausible scenarios involving terrorism or political unrest could have 

similarly profound effects on world oil markets. 

CONCLUSIONS/RECOMMENDATIONS

We may soon find out what our immediate options are for responding to a sustained supply crisis and how far those options will take us. At the moment it is still 

too soon to know whether recent events in the Gulf region constitute such a crisis. 

If they do I think we will find, as the Oil ShockWave participants discovered, that 

our near-term options are limited. The President has called for releasing some oil 

from the Strategic 

Reserve and for voluntary conservation efforts, while other countries have indicated that they too will tap emergency reserves. The relaxation of environmental 

constraints in the refining industry should be a small positive for supply. I would 

recommend a stronger call for conservation. If, as a country, we were to obey speed 

limits for the next two months, we would probably conserve more fuel than will be 

lost by the refinery outages. Reducing speeds from 70 mph to 60 mph, for example, 

improves fuel efficiency by 15 percent. If Americans want to know what they can 

do to limit gasoline price inflation, the answer is simple: slow down. I don’t think 

this is generally known, or believed, by the U.S. public, and it should be. That may 

be all we can do in the weeks and months ahead. 

Longer-term of course, we must look for more fundamental ways to shift the current balance of supply and demand as a means of reducing our vulnerability to oil 

price shocks that we cannot control. Many will instinctively reach for supply-side 

solutions and for measures to increase U.S. oil output. For the reasons discussed 

above, however, it’s not clear that further incentives for expanded domestic production will do much good. And even if we succeeded in boosting domestic production 

for a time, our nation’s oil resources are simply too limited to make a lasting dent 

in the global market that determines the prices we all pay. Some of the provisions 

in the Energy Bill of 2005 will also help in the long run, especially those that seek 

to diversify the nation’s energy resources and promote efficiency, but most address 

the needs of the electricity industry, and not transportation fuels such as gasoline. 

Our current predicament, simply put, is rooted in the near-total dependence of our 

transportation sector on petroleum fuels. Our nation possesses only 3 percent of the 

world’s estimated oil reserves but accounts for as much as 25 percent of global oil 

demand, the great bulk of it for use in our cars and trucks. When you look at these 

numbers it’s obvious that controlling our destiny in terms of oil security comes down 

to controlling the relentlessly growing demand of our transportation sector for gasoline and diesel fuel. Fortunately, the potential for efficiency improvements in this 

sector is also substantial if the political obstacles can be overcome. The National 

Commission on Energy Policy found, for example, that a concerted effort to increase 

fuel economy standards, and promoting hybrid and advanced diesel vehicles, could 

substantially reduce future petroleum consumption by the U.S. transportation sector. We estimate that improving the average fuel efficiency of the entire U.S. vehicle 

fleet by 2 miles per gallon—an objective that can be readily achieved using already 

available, conventional vehicle technologies—would reduce total U.S. gasoline demand by roughly 1 million barrels per day. This amount is equivalent to all of the 

growth in U.S. gasoline consumption over the past eight years. 

Of course, to matter at a global level, demand reductions must be significant, especially given the growth pressures we face in other parts of the world. And significant demand reductions cannot be realized overnight any more than significant supply enhancements or refinery expansions can be. But it is reasonable to aim to 

achieve gradual yet steady progress that can yield substantial dividends over time. 

Gradually improving vehicle fuel economy through a combination of higher standards, manufacturer and consumer incentives, and other initiatives would essentially 

99

‘‘buy us time’’ to develop the more advanced vehicle technologies and alternative 

fuels that will someday allow for a more decisive shift away from our current petroleum dependence. Even in the short run, moreover, the benefits of any efficiency improvements introduced in the U.S. vehicle market would likely be amplified as a result of their diffusion to markets in other countries, most of which have as keen an 

interest as we do in slowing demand growth and blunting their exposure to future 

oil shocks. 

We are probably all familiar with the well-worn homily about having the serenity 

to accept what you cannot change, the courage to change what you can, and the wisdom to know the difference. I don’t know that anyone would counsel serenity under 

current circumstances, but courage and wisdom are certainly called for. We can’t 

control hurricanes, terrorists, or the investment climate in foreign countries. We 

can’t stop international oil markets from adding a sizable risk premium to oil prices 

as long as worldwide spare production capacity remains dangerously low. What we 

can do is limit our future dependence on oil and our exposure to these risks through 

thoughtful, long-term policies aimed at promoting a greater supply and diversity of 

fuel options while at the same time significantly improving the efficiency of our nation’s vehicle fleet. Something good will have come of the current crisis if it impels 

us to take the long view. We should try to control what we can control. And we 

should start doing that now. 

Thank you again for the opportunity to testify.

Senator BURR. Thank you, Mr. Dowd. Thank you to all the witnesses. 

The chair would recognize Senator Thomas. 

Senator THOMAS. For questions? 

Senator BURR. Right. 

Senator THOMAS. Thank you. 

Sorry we missed much of your testimony. Mr. Darbelnet, I read 

your statement and I appreciate your listing some of the things 

that you think are something we can do in the short time. Again, 

as I said earlier, we have covered what we do in the long range. 

What we are talking about here is what we do I think a little more 

soon. 

Mr. Slaughter, in respect to the Nation’s refining capacity, 47 

percent is in the gulf coast region, I think you pointed out. 

Mr. SLAUGHTER. Yes, sir. 

Senator THOMAS. Only one new refinery being developed since 

the 1970’s. What can we do to facilitate more refining capacity and 

get regional diversity in it? 

Mr. SLAUGHTER. Thank you, Senator, for the question. Of course 

one of the problems and one of the reasons why there is not a lot 

of regional diversity, as is the case with production, is that a lot 

of other areas really are not that receptive to refineries. The one 

that was added in 1976 that was the last one was added in 

Garyville, Louisiana, and is one of those near New Orleans. 

One of the things that was started—and we are talking about 

things being first steps—the energy bill had an important provision, the first one in 50 years, that would actually have encouraged 

investment in refining. There was a provision that came through 

the Senate bill that basically allowed expensing of 50 percent of the 

investment of basically increasing the capacity of a refinery by 5 

percent or more. 

Now, there were other things that were looked at. That was a 

bill originally introduced by Senator Hatch. He originally also 

wanted to change the depreciation rate for refining investments. 40 

years ago it was decided that refining should have a 17-year life 

and therefore have a 10-year write-off period. Everything else, all 

industries like us, have a 5-year write-off period. If you could make 

100

that change, it also would encourage people to invest money in refining. 

The other thing is, and Mr. Dowd just mentioned it, perhaps the 

last 2 years, which were good years for refining, will encourage 

more people to make refining-related investments. It will take a lot 

bigger investment, $3 billion, to build a new refinery as opposed to 

adding capacity at existing sites. But hopefully—before that we had 

10 years in which the return on investment in the industry was 

only 5 percent, which you can get on a T-bill with no risks. 

So if more people think that the last 5 years are what the next 

10 are going to be like, it would be very helpful. But it would be 

very helpful to have an extension of that tax cut idea to actually 

encourage more investment in domestic refining. 

Senator THOMAS. I guess, Mr. Shipley, you represent more retail 

outlets. You heard all the discussion about the change in price over 

the day and the difference between when you filled your tank and 

when you changed. How do you react—maybe you did in your 

statement. How do you react to that concern about it seeming like 

just automatically setting different prices? 

Mr. SHIPLEY. The arbitrariness——

Senator THOMAS. Yes. 

Mr. SHIPLEY [continuing]. Or apparent arbitrariness. I guess the 

first thought I have is I share it as a buyer of gasoline for retail. 

We are experiencing that uncertainty and fast moves in the cost, 

rising cost of fuel that we need to put in our tanks. 

Our company with 26 stores has 100 tanks with 10,000 gallons, 

a million gallons of storage. We need to fill that with gasoline before we can sell it. In your car you might have a 20-gallon tank. 

We are really dealing with the same thing that consumers are dealing with on a slightly larger scale, right before consumers deal with 

it. 

Senator THOMAS. But if you fill your million gallons on Tuesday 

and suddenly the guy down the street increases his price, do you 

increase yours too just because it is competitive? 

Mr. SHIPLEY. No. If I can get the gallons from the guy down the 

street, I will do it. 

Senator THOMAS. I am not talking about that. I am saying if you 

are basing your price on what it costs you to fill your wholesale 

tank, are you going to change it simply because the community is 

going higher and you can make a higher profit? Or are you going 

to base it on the cost in addition, your profit in addition to the cost 

of your product? 

Mr. SHIPLEY. On the replacement cost of the product. 

Senator THOMAS. Which you are guessing. 

Mr. SHIPLEY. Last week there is no question about, there was an 

element of trying to get a handle on what the next cost was, what 

the cost was going to be. 

Senator THOMAS. I see. 

Mr. SHIPLEY. We do get price—we knew what the price was from 

our supplier. 

Senator THOMAS. Sure. 

Mr. SHIPLEY. And as we are continuously filling our tanks, we 

are buying at those prices. 

101

Senator THOMAS. Well, the allegation, whether it is right or 

wrong, or suspicion is that your tanks are full, but because the 

price changed that day, why, you raised your prices 20 cents even 

though you are still using the same gas. Do you find that to be the 

case? 

Mr. SHIPLEY. That could happen at a certain spot. But when it 

is time to fill that tank again, we still need to have the money. We 

need to be able to sell that product at a price that we can buy the 

next gallon of gasoline. 

Senator THOMAS. Thank you. Thank you, sir. 

Senator BURR. Senator Wyden. 

Senator WYDEN. Mr. Chairman, are we going 5-minute rounds 

here? What is your pleasure here? 

Senator BURR. Based on your unanimous consent, you and I are 

splitting between now and 6:10. 

Senator WYDEN. I am going to ask then for a UC to go to 6:15. 

Senator BURR. What if I do not agree with that? 

Senator WYDEN. You and I have only been friends about 20 

years. I think my odds are okay. 

Senator BURR. I will be here as you have questions. 

Senator WYDEN. Great, thank you. This will be very brief. 

Mr. Slaughter, you represent all of the major oil companies in 

your association. Right now those companies are awash in money. 

They have got record profits. We have got record prices. We have 

got huge margins. I would like you to tell me what those companies 

are going to do with all that money. What are they going to do particularly with that money in the next 90 days when we have these 

tremendous needs for affordable energy in our country? What are 

they going to do with all this money that they are sitting on? 

Mr. SLAUGHTER. Well, obviously one of the things they will be 

doing is helping basically put the gulf coast back in order and keeping the supply lines, improving the supply lines, putting them back 

together for the rest of the country to supply fuel. 

There is a lot of talk about profits in the oil industry, but there 

is not much talk about profit margin. The reason there is not is because it takes huge amounts of money to be in this business. Actually, the only measure of profitability really is how much you actually make after you put money in the business. 

These companies, many of our companies, not all but many, are 

international companies that invest billions of dollars around the 

world. They may invest it in some particular country that has 

promising oil reserves, but they may lose that investment overnight because of terrorism or some kind of change of government 

in that country. You look at what is happening on the world stage 

to the United States and you look at what is going on with world 

terrorism. Our companies that deal in exploration and production 

have to invest money in those types of places all the time. It takes 

vast amounts. 

We are talking about need to increase refining investment in the 

United States. It takes a vast amount of money to be in refining 

business in the United States. We will spend $20 billion in this industry on environmental program compliance in this decade, on top 

of what we put into maintaining the business and do what upgrades we can. 

102

There are tremendous calls for money in this business. The good 

thing is—you talk about LNG terminals, you talk about expanded 

gas production. Much of this hearing is about what needs to be 

done. It takes capital to do that and the energy companies are 

going to have capital to reinvest into the business to produce more 

energy for not just the American people, but globally, which will 

help us too. 

Senator WYDEN. You just told me that profits could be marginal. 

You told Senator Thomas you might need additional tax credits. 

That just defies everything that I read in independent sectors of 

the press and everywhere else. What I would like you to do, would 

you get to me personally a written response to my question by the 

end of this week? 

Mr. SLAUGHTER. I would be happy to, Senator. 

Senator WYDEN. I would like—and I appreciate that. I appreciate 

your responsiveness. I would like to know what the oil industry, 

your member companies, are going to do with all this money that 

they are sitting on in the next 90 days. I appreciate your responsiveness and I will look forward to getting it by the close of business on Friday. 

My question for the AAA president is essentially this. On your 

website you have a daily fuel gauge report that shows current oil 

and gasoline prices. Today’s report shows how gasoline prices have 

been spiking up at the same time that crude oil prices are going 

down. The chart shows a 50-cent increase from $2.55 to over $3 a 

gallon for gas at the same time crude oil dropped 50 cents a gallon. 

So how can the run-up in gasoline at the same time crude prices 

are dropping not essentially be price-gouging? 

Mr. DARBELNET. Well, I am not sure that that question can be 

properly answered by myself. It might be one best directed at those 

who produce and distribute and sell the product. But to the extent 

that your question reflects the difficulty that the public has understanding why prices rise as quickly as they do, I think it is on target in that regard. 

As I said earlier, last week the price of retail gas increased by 

45 cents a gallon, the price of crude remained roughly flat during 

that period. The gas that was sold was refined before the storm hit 

and one can only conclude that the price at which gas is being sold 

is perhaps marginally affected by the fact that it is more costly to 

distribute it, but predominantly affected by the fact that it is being 

priced at the level that the market will pay. 

I noted that it was suggested that in setting the price one has 

to think about the replacement cost of future gasoline and I think 

that leads a lot of consumers to wonder when the trend is in the 

other direction and the price, the foreseeable price of the replacement fuel, is going down, are we under those circumstances decreasing the price of the gas we sell or are we relying on the price 

we purchased it for. I think it is the latter. 

Senator WYDEN. One last question for you, Mr. Slaughter, involving the west coast market. What I have heard—I do not know if 

you were here when I asked Mr. Caruso—is that oil industries 

have claimed for years when the west coast prices were 20 cents 

per gallon higher than the national average, they constantly told 

me and other west coast members that the west coast was a sepaVerDate 0ct 09 2002 09:40 Jan 26, 2006 Jkt 109235 PO 25575 Frm 00106 Fmt 6633 Sfmt 6602 P:\DOCS\25575.TXT SENERGY2 PsN: PAULM
103

rate market. That was the argument, it is a separate market from 

the rest of the country. 

So now we have seen our prices go up dramatically just in the 

last few days. We do not get gasoline from the gulf, and it seems 

to me either the oil industry was gouging for years when it routinely charged higher prices on the west coast or it is gouging now 

when west coast prices are going up because of a tragedy that had 

no impact on west coast supplies. What is going on here? 

Mr. SLAUGHTER. First of all, as has been pointed out here, we are 

talking about a global market and 25 percent of American crude 

production was called into question last week and still has not been 

completely restored. That affects the global market for oil. 

Now, California is largely an isolated market. There are limited 

pipelines in and out of California, although there are some. Material can be brought to California from the gulf coast through the 

Panama Canal, but it takes a while to do that. But there are ways 

in which that market is going to be affected by what the overall 

world price of oil is and what products generally are going for in 

the United States. 

Other products now, as has been pointed out, are now higher 

than they are in California, which very rarely happens. But essentially, when you have an outage of the magnitude of the one we 

have, it basically radiates throughout the country, generally slowly, 

as material basically is brought in from different parts of the country as prices go up to try to get more product into areas that are 

short. That will affect California and people in California will see 

a tightening of the market immediately as a result of what happened of the magnitude it did on the gulf coast. 

So you do have your own fuel specifications out there, which are 

difficult to make. It is very difficult to resupply those fuels. But 

those fuels can be used anywhere else. You can always use a more 

environmentally pure blend of fuel, which is what you have out 

there. So there is a chance that some of the fuel that would have 

been used in California would be brought around to the gulf coast 

area to solve the outages there or to the Southeast. That is just 

simply competition, Senator Wyden. 

Senator WYDEN. The trouble—my time is up and I am going to 

leave it with this. The trouble with that argument, Mr. Slaughter, 

is that the industry says it is a global market when they are trying 

to justify price increases as a result of a national tragedy, which 

we have obviously had, but we never get the pricing relief. We 

never see the prices go down, which is essentially what our man 

from the AAA said, when global forces would dictate it. 

In other words, the industry’s argument shifts almost from occasion to occasion. When it is convenient to raise prices, well, we are 

part of a global market. When we make an argument for lowering 

prices, it is a different occasion: Well, you are an isolated market. 

I will look forward, though, to getting the response by the close 

of business on Friday. I think it will be very helpful. I think the 

American people want to know what the oil industry is doing with 

this enormous amount of money that the industry is collectively sitting on. They do not want to know what will happen in 5 years, 

10 years. First, they want to know what is going to happen quickly, 

104

and to have that from you about the next 90 days is responsive and 

I appreciate it. 

Thank you, Mr. Chairman. 

Senator BURR. Gentlemen, I will be extremely brief. Mr. Shipley, 

how if at all were you notified of potential shortages being the result of two east coast pipelines down, and did you experience shortages? 

Mr. SHIPLEY. We in Pennsylvania were relatively, from what I 

have heard of people in other parts of the country, fortunate that 

we were put on 100 percent allocation by our branded suppliers. So 

what that meant generally was that whatever we bought in July 

was what we were allocated to buy during the last couple days of 

August and indefinitely until we hear further. 

So that is how we were notified. I have heard in North Carolina 

they are on 50 percent allocation. 

Senator BURR. Yes, it has been tight. 

Let me ask you, is there a standard process that you follow in 

the convenience store business relative to any notification to customers as to what you see happening from the standpoint of supply? 

Mr. SHIPLEY. To retail customers? 

Senator BURR. Clearly some retail customers drove up and the 

sign was ‘‘out of gas.’’

Mr. SHIPLEY. Actually, again, in Pennsylvania we did not have 

that, but we had high prices, which was still not good from the customer’s standpoint. I can tell you the way I handled that in my 

company. I addressed it to the people behind the sales counter and 

the people that answer the telephone at our company, they are 

really the ones who are hearing from our customers about the high 

prices. 

Senator BURR. We were the next phone call, just so you know it. 

Mr. SHIPLEY. Right. What I said to them is that we do need to 

offer ideas for conserving. We cannot control. We do not know anything about these prices other than that it is telling us now is a 

good time to save. 

Senator BURR. Do we have too many boutique fuels? 

Mr. SHIPLEY. I think so, yes. 

Senator BURR. So you would not——

Mr. SHIPLEY. I think that has actually been a good thing in the 

last week. The prices would have even maybe been higher if we 

had not relaxed standards. 

Senator BURR. But it would not upset you if we went to a much 

smaller stable of products, that we allowed refineries to produce 

product that could be shipped in the regions where the refineries 

actually are, and they could have longer runs of that? 

Mr. SHIPLEY. Particularly as a marketer, I can say fungibility is 

good. The more we can buy and sell fuels across borders, whether 

it is State borders or county borders, the better. 

Senator BURR. Mr. Slaughter, you stated in your testimony that 

177 refineries have been closed in the United States since 1981. 

Can you tell me how many, if any, could potentially reopen if in 

fact we saw that as the greatest opportunity to increase the refinery capacity? 

105

Mr. SLAUGHTER. Not too many, Senator Burr. A number of those 

at the beginning that shut down in the 1980’s were particular refineries that had been encouraged to operate as a result of price 

controls. Given what is going on in the refining industry in the last 

couple years, anyone who had additional equipment to restart 

would have restarted. Some of those refineries have been disassembled and other refineries have bought them and are using them 

now. So you will not find a great many, I think, Senator, if that 

is the route you decide to go. 

Senator BURR. Is it safe then for us to assume that we have two 

options? We can expand the current refineries that we have and/

or build new ones? 

Mr. SLAUGHTER. Yes. Those are—and you are going to get most 

of the bang for your buck in adding capacity at existing sites, 

which is not quite as costly, and you may be able to get permits 

more easily. There is a group in Arizona that for 10 years has been 

trying to build a refinery for a couple billion dollars out there, a 

150,000 barrels a day, in one of the fastest growing States, that 

does not have a refinery, with a lot of demand for products, and 

they have not been able to get it built. But people like that, who 

are willing to take the risk, put up the up-front money and try to 

build a refinery, ought to be able to build one, too. So I would encourage you to go after both. 

Senator BURR. No question that we have got to have a streamlined process if we want people to make that capital investment. 

One last thing as it relates to refineries. The first panel sort of 

laughed when I talked about a refinery cushion. Basically they said 

we do not have one. Do we need one? 

Mr. SLAUGHTER. Well, you are always better off when you have 

a bit of a cushion. We did have one, but we have worked it off 

about the last 5 to 6 years. 

Senator BURR. Are we at 97 percent capacity of refineries in this 

country? 

Mr. SLAUGHTER. Well, right now, with the outages, the numbers 

would not be that. But on August 26, which are the last numbers 

that came out from EIA, we were running at 98 percent of capacity. 

So we are back. We had had some outages early in the summer, 

which is why the numbers that you mentioned earlier were down 

somewhat from last year. But those were cured by the time of August 26 and we were way back up at the top in utilization again. 

Senator BURR. Given that refineries are at that point annually 

that they shift over to focus on home heating oil, and clearly we 

have some gasoline stock requirements out there, is this going to 

throw our home heating oil off from a standpoint of the refinery 

time that we need? 

Mr. SLAUGHTER. Well, the good news is that home heating oil inventory had been going up and got well into the upper average 

level. So it all depends on how quickly everything comes back, Senator. If things come back quickly enough or if we—we are getting 

additional product from abroad through the EIA—if we can make 

it up quickly enough, we will not pull down those inventories and 

cause problems in the winter. But we will have to wait and see. 

Senator BURR. Thank you. 

106

Mr. Shipley, let me come back to you for just a quick question. 

I remember back the once or twice that Ron Wyden and I have 

gone through this in the House and I think the one thing I learned 

from North Carolina petroleum marketers was that there is a tendency as the price goes up, especially when it is quick, that the price 

that you post and sell at is not always reflective of every gallon you 

have in the ground, and there is an offset to your increased profits 

as price goes up; and that if you have a similar event on the back 

side, which is usually the result, where price goes down, the tendency is you have to be competitive with whoever got the last load 

of oil. So the tendency is that you are always in a position where 

you may be selling at the pump at what you bought it for, which 

is not a profit. Potentially, if you sat on it you could eventually lose 

money. 

Is your experience in these years that it is pretty much a wash 

on one side and the other? 

Mr. SHIPLEY. It is generally, the retail price will move slower 

than the wholesale price both ways, on the way up and on the way 

down. That means for a retailer that our margins get squeezed on 

the way up. I showed you a little bit of that with 1 percent margin, 

gross margin, last week. We cannot operate our business on that 

kind of a margin sustaining it continuously. 

There is a tendency also to lag on the way down. Even with these 

rises, even with these rapid increases that we have had in the last 

week, they are not as fast as the wholesale price is rising. We have 

not gone up on the street at the same rate or held it at the same 

rate as the wholesale price. 

Senator BURR. Once again let me thank all of our panelists. We 

apologize for the time of the evening that it is and for the fact that 

we lost some members, but they are in a briefing on Katrina right 

now with a number of secretaries of Federal agencies. I hope all 

four of you will make yourselves available to the written comments 

and questions that they might have. 

At this time, the hearing is adjourned. 

[Whereupon, at 6:24 p.m., the hearing was adjourned.] 

(107)

APPENDIXES 

APPENDIX I 

Responses to Additional Questions 

RESPONSES OF ROBERT L. DARBELNET TO QUESTIONS FROM SENATOR DOMENICI

Question 1. In your written testimony, you state that oil companies must ensure 

that their pricing yield what they ‘‘need and deserve but no more.’’ Do you believe 

that the current price environment suggests that companies are exceeding what 

they need and deserve? 

Answer. AAA understands that oil is a commodity subject to market fluctuations 

and that there are multiple issues that can impact the price and supply of refined 

products. At the same time, consumers have every right to voice their concerns 

when they observed prices increasing dramatically even before the full effects of 

Hurricane Katrina were evident. Retail prices went up 45 cents a gallon in the week 

after the storm, but the price of crude oil remained flat. Of further concern to consumers was the realization that the product being sold at these sky-high prices had 

been refined and sold at lower prices to gas stations before the storm. I would simply say in the aftermath of Katrina, AAA urges caution on the part of the oil companies and others involved in the pricing and sale of gasoline. While gasoline price 

increases in the face of major supply disruptions are unavoidable, the American 

public will not tolerate unjustifiably high prices that seem to take unfair advantage 

of tragic circumstances. Rapid increases in retail prices can also have the effect of 

causing consumers to panic and line up for gasoline, creating artificial shortages. 

Question 2. If you could suggest one reasonable step that each American driver 

could take to help reduce the high price at the pump, what is it? 

Answer. First and foremost, make conservation top of mind. Attitude is everything. If we could all slow down just a little, leave more time so we are not rushing 

from place-to-place, avoid the sudden starts and stops that lower fuel mileage, we 

can all get a little more out of each gallon of gas. Properly maintaining your vehicle 

and keeping your tires properly inflated also contribute to better fuel efficiency. 

And, then over the longer-term, motorists should consider replacing their existing 

vehicles with ones that offer the benefits of safe-design and increased fuel efficiency. 

Question 3. You assert that if automakers do not voluntarily commit to changes, 

Congress should require improvements through changes to CAFE standards. What 

specifically do you think these standards should be? 

Answer. AAA is not recommending any specific standard. AAA believes that the 

federal government should establish fuel economy standards that are ambitious 

enough to result in significant improvements in overall fuel efficiency, but realistic 

enough to ensure passenger safety and consumer choice. The existing CAFE program is no longer accomplishing this objective. In terms of specific recommendations, AAA would urge the first step be to capture those vehicles between 8,500 lbs 

and 10,000 lbs gross vehicle weight that are currently not covered by the CAFE 

standards. We also want consumers to have access to more realistic fuel economy 

ratings for new cars and trucks, so they can accurately compare one vehicle’s fuel 

efficiency to another. 

Question 4. Do you have any data with respect to the percentage of disposable income that Americans spend on gasoline now against what they have spent in years 

past? 

Answer. AAA’s tracking of fuel prices does not encompass this type of data collection. 

108

RESPONSES OF ROBERT L. DARBELNET TO QUESTIONS FROM SENATOR BUNNING

Question 1. The recently passed Energy Bill included an important tax provision 

that will allow 50% expensing of investment that expands a refinery’s capacity by 

more than 5%. Do you think this is enough to stimulate growth or are additional 

incentives needed? 

Answer. It is obvious that our current problems can be attributed in substantial 

part to a deficit in refining capacity. The new tax incentives in the energy bill, coupled with the substantial profits already being reaped by the oil industry, should 

be all the financial motivation necessary to create more capacity. Estimating the 

size of tax incentives is outside of the scope of AAA’s purview. 

Question 2. As you may know, Kentucky has an abundance of coal. Among other 

things, this supply of coal allows Kentucky to offer its citizens and industries some 

of the lowest utility rates in the country. I am deeply concerned that the increasing 

cost of oil will increase the cost of producing and transporting Kentucky coal. Do 

you have any additional information on how the price of gasoline will affect the cost 

of other energy sources such as Kentucky coal? 

Answer. There is no doubt that the cost of oil raises the cost of producing and 

transporting energy supplies. However, AAA’s tracking and analysis of gasoline 

prices do not include the economic impact on other energy sources. 

Question 3. The number of domestic refineries has decreased by more than 50% 

in the last 30 years, and the real-volume capacity of the domestic refinery network 

has decreased 10% in that same time period. What factors do you believe have suppressed U.S. refining capacity? 

Answer. Factors include lack of economic incentives during the 1990’s and government regulatory processes. While we fully support the goals of the Clean Air Act, 

we believe the overly complex set of state and local clean fuel regulations that have 

been adopted over the last 10 years have discouraged investment in large, new refining facilities that can freely ship products when and where they are most needed. 

Question 4. The cost of gasoline is largely determined before it reaches the pump. 

The cost of crude oil and federal and states taxes make up 74 to 79% of the retail 

price of gas. Could you describe how the remaining 20 to 25% is determined and 

what profit each part of the supply chain receives? 

Answer. Because the price of oil changes each day along with the price of gasoline, 

the percentage cost and profit of each component in the supply chain is in constant 

fluctuation. Only the oil industry knows the percentages of cost and profit in gasoline at any given time with the exception of the federal, state and local taxes on 

gasoline. 

Question 5. As the price of oil skyrockets, alternative fuels will become more price 

competitive. What segments of the energy market will see growth in investment because of higher oil and gas prices? What impact will this have on the domestic energy market? 

Answer. Other forms of energy will undoubtedly attract investment as oil prices 

rise, however, AAA’s area of immediate concern is for the price and availability of 

gasoline and diesel fuel. New investments in alternative energy, as well as in expanded oil and gasoline production, will help bring global supplies more in line with 

demand over the next several years. These trends are unlikely to contain fuel prices 

over the long-term, however, unless more emphasis is placed on fuel conservation 

and the elimination of barriers to the production, shipment and sale of gasoline 

across the nation. 

Question 6. Global spare production capacity has decreased dramatically in the 

past decade and it appears it will decrease even more. This will provide international suppliers with an even smaller ability to combat supply disruptions. Do you 

think the international oil supply is secure or is another price spike just around the 

corner? 

Answer. I would not want to speculate on whether another price spike is ‘‘just 

around the corner’’. AAA suggests that Congress look at what actions can be taken 

to encourage the oil industry to hold larger inventories of gasoline and diesel fuel 

to guard against sudden shortages and better protect our citizens in times of national emergencies. 

RESPONSE OF ROBERT L. DARBELNET TO QUESTION FROM SENATOR BINGAMAN

Question 1. Hurricane Katrina has underscored the concentration of U.S. petroleum production, refining and energy infrastructure in the Gulf of Mexico region. 

In recent correspondence with the President, I have mentioned the need to bring 

together the necessary stakeholders to focus on ways to facilitate a more robust and 

distributed infrastructure for refining petroleum products in the U.S. Would you 

109

and your respective stakeholder organization, be willing to take part in such a discussion? How would you see this proceeding? 

Answer. AAA participates in various stakeholder groups as a representative of the 

consumer. We would consider participation in any such group as long as it is positively directed toward solving problems. It’s important to begin such an effort with 

a clear set of objectives and a willingness to include all relevant stakeholders. 

RESPONSES OF ROBERT L. DARBELNET TO QUESTIONS FROM SENATOR CORZINE

Question 1. Right now, my constituents and consumers across the country are 

paying exorbitant prices for a necessary commodity. In your testimony, you say that 

a federal gas tax holiday would not be the best solution because of the resulting loss 

in receipts to the Highway Trust Fund. If we were to offset the loss to the Highway 

Trust Fund by implementing a windfall profits tax on oil companies, would that be 

more effective in stabilizing prices and preventing a loss of revenue? 

Answer. There have been calls for relief from the federal gas tax in the wake of 

increased prices. This would do nothing to address the root causes of our gasoline 

price and supply problems. The resulting loss in receipts to the Highway Trust 

Fund, however, would severely compromise the safety of the traveling public because we already suffer from a lack of investment in our transportation infrastructure. Asking the American people to choose between a gas tax reduction and safety 

is posing the wrong question. 

Neither would AAA support a wind-fall profits tax which would keep high fuel 

prices in place for consumers, while redistributing profits from the oil companies to 

the federal government. 

AAA is interested in policies that promote fuel conservation, consumer choice, and 

more competition between those who make and sell refined fuel products in the 

United States. We are urging the federal government to consider adoption of a uniform clean gasoline standard in the United States, to revisit the federal CAFE 

standard, to engage in more careful scrutiny of mergers and other business activity 

in the oil industry and its related financial markets, and to do all that is possible 

to limit America’s reliance on razor-thin inventories of gasoline and diesel fuel. This 

last point is especially important for economic as well as national security reasons. 

Question 2. According to AAA.com, the average price for a gallon of unleaded reg- ular at stations within 10 miles of downtown Newark reported today to be $3.133. 

On Saturday, it was reported to be $2.926; on Sunday, it was reported at 3.006. So 

on average a 15-gallon tank costs $45.21 to fill. A year ago it was $27.32. Just to 

put it in perspective, the annual increase in cost from a year ago works out to $930 

at current prices compared to a year earlier. In addition, the percentage jump from 

just a month ago is 30 percent. (From $34.66 to $45.21). Prices before Hurricane 

Katrina were already skyrocketing, how much of a spike in prices last week is due 

to price gouging? What do you think are the most effective ways to prevent price 

gouging by the oil companies as well as by retailers? 

Answer. Because there is no uniform definition of price gouging, it is difficult to 

determine what percentage of recent price spikes could be attributed to the phenomenon. AAA is aware that a number of states have anti-price gouging statutes. 

The regulations define price-gouging and set penalties. More state governments 

should look to the adoption and strict enforcement of similar statutes. 

RESPONSES OF WILLIAM S. SHIPLEY, III, TO QUESTIONS FROM SENATOR DOMENICI

Question 1. In your testimony, you concede that there may be some ‘‘bad actors’’ 

who may be taking advantage of the current shortage of gasoline supplies by overcharging customers. Do your organizations have any mechanisms for monitoring the 

behavior of your members? Do you have a process for disciplining members who 

may be found guilty of such practices? 

Answer. Neither the Society of Independent Gasoline Marketers of America nor 

the National Association of Convenience Stores has any mechanism for monitoring 

the behavior of its individual members with respect to pricing practices. Pricing decisions are made by individual entrepreneurs and the associations scrupulously 

avoid any behavior which appears to influence such decisions. It is the associations 

concern that such behavior could be construed as violative of Section 1 of the Sherman Act. As a consequence, both associations scrupulously avoid such behavior. 

Question 2. Can you give us a brief status report on the current state of gasoline 

supplies at retail? Are the major sources of gasoline supplies such as the Colonial 

and Plantation pipeline systems now back in service? If not, do you have any idea 

when deliveries of supplies might resume and thereby alleviate the pressure on gasoline and aviation fuel prices? 

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Answer. The current status of gasoline supplies at retail is adequate but tight. 

The Colonial and Plantation pipeline systems are back in service. However, a not 

inconsequential percentage of U.S. refining capacity remains out of service as a consequence of Hurricane Katrina. As the Committee is aware, the balance between 

U.S. domestic manufacturing capacity and demand for motor fuels has been in a 

delicate balance for an extended period of time. While alternative supplies, including 

imports, are providing relief in the sense of sufficiency of raw physical volume, it 

is likely to require, at least in our opinion, the restoration of refining capacity operations to take the pressure off of gasoline and aviation fuel prices. As the pipelines 

and refineries come back on line, they will help alleviate supply tightness providing 

for daily demand. However, it will take an extended period of time before supplies 

are returned to the limited pre-Katrina levels. The restoration of these systems will 

provide relief, but full recovery will not be immediate. 

Question 3. In your written testimony you explain how you establish prices at retail based on the prices charged you by your wholesale supplier. Would you please 

elaborate for the Committee how real time pricing decisions are made by gasoline 

retailers? 

Answer. In a rapidly ascending market, most retailers will do their best to obtain 

a price for gasoline which will cover the replacement costs of the inventory being 

sold. In the context of a static or declining market, retailers will attempt to achieve 

the best price for their product that the market will allow them. As prices decline, 

normal competitive forces operate to lower prices when individual competitors, seeking to improve their volume, seek to increase volume by lowering price and attracting customers from other retailers. 

This set of decisions is made by each entrepreneur based on the capacity of that 

competitor’s outlets, supplies and the costs thereof, and that competitor’s strategy 

for maximizing his or her profit. 

Question 4. How will the recently passed energy bill’s restrictions on the proliferation of so-called ‘‘boutique fuels’’ impact retail gasoline prices? 

Answer. It is the hope of SIGMA and NACS that the recently passed energy bill’s 

restrictions on the proliferation of so-called ‘‘boutique fuels’’ will tend to stabilize 

supplies, perhaps leading to more stable or decreased gasoline prices. As the Committee is aware, since the enactment of the Clean Air Act amendments of the early 

1990s, the increase in the number of different grades of gasoline and other motor 

fuels which must be transported and stored in the Nation’s distribution system has 

had the effect of decreasing supply by decreasing the efficiency of that distribution 

system. The energy bill, by preventing the continued loss of efficiency presented by 

additional boutique fuels, should benefit the market. 

Question 5. What, if any, affect has the increase in the average price of gasoline 

had on driving patterns? Does AAA see any indications that Americans are driving 

less frequently as a result of the rising cost of gasoline? 

Answer. While neither SIGMA nor NACS currently have available to them any 

scientifically-obtained data responsive to this question, anecdotes indicate that increased retail prices might have reduced demand, although not significantly. They 

have, however, had the unintended consequence of increasing the number of transactions using credit cards as motorists charge their higher fuel bills. 

RESPONSES OF WILLIAM S. SHIPLEY, III, TO QUESTIONS FROM SENATOR BUNNING

Question 1. The recently passed Energy Bill included an important tax provision 

that will allow 50% expensing of investment that expands a refinery’s capacity by 

more than 5%. Do you think this is enough to stimulate growth or are additional 

incentives needed? 

Answer. The Society of Independent Gasoline Marketers of America and the National Association of Convenience Stores believe that the provisions of the recently 

passed energy bill encouraging the expansion of refiners’ capacity are an excellent 

first step. Only time will tell if these incentives are sufficient to stimulate the kind 

of investment in the Nation’s manufacturing capacity that both SIGMA and NACS 

believe would be required to reduce the volatility of motor fuel prices. Both associations are concerned that more incentives may be required. 

Question 2. As you may know, Kentucky has an abundance of coal. Among other 

things, this supply of coal allows Kentucky to offer its citizens and industries some 

of the lowest utility rates in the country. I am deeply concerned that the increasing 

cost of oil will increase the cost of producing and transporting Kentucky coal. Do 

you have any additional information on how the price of gasoline will affect the cost 

of other energy sources such as Kentucky coal? 

Answer. Increasing fuel prices cannot avoid generating a significant and unfortunate upward pressure in the cost of not only Kentucky coal but other sources of fuel. 

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* The chart has been retained in committee files. 

While most attention is focused upon gasoline prices because of their prominent display and the average motorist’s almost daily interaction with them, SIGMA and 

NACS believe that Congress should be equally concerned about diesel fuel prices. 

Diesel fuel price escalation has a ripple effect in the economy as it increases the 

costs of not only truck transportation but rail costs and in some instances jet fuel. 

In addition, as distillate prices rise, fuels with which they complete, such as natural 

gas and propane in the home heating market, also increase. 

Question 3. The number of domestic refineries has decreased by more than 50% 

in the last 30 years, and the real-volume capacity of the domestic refinery network 

has decreased 10% in that same time period. What factors do you believe have suppressed U.S. refining capacity? 

Answer. SIGMA and NACS believe that a number of factors have suppressed U.S. 

refining capacity. First, for an extended period of time the returns on investment 

in refining capacity were abysmal. As a consequence, when compliance with new environmental regulations required significant investments in refineries, many refinery operations decided to cease operations. With respect to new capacity, if one assumes that the average return on invested capital in a manufacturing enterprise is 

somewhere between five and eight percent per year, through the 90s the refining 

industry performed on a substandard basis. Thus, drawing capital for expansion is 

difficult. Secondly, siting a new refinery involves not only significant permitting 

issues at the federal, state, and local levels, it also involves facing significant resistance from many communities. While everyone would like the benefit of increased 

manufacturing capacity, only a few communities are prepared to accept a significant 

refinery as a part of their daily lives. 

Question 4. The cost of gasoline is largely determined before it reaches the pump. 

The cost of crude oil and federal and states taxes make up 74 to 79% of the retail 

price of gas. Could you describe how the remaining 20 to 25% is determined and 

what profit each part of the supply chain receives? 

Answer. Please see attached chart.* 

Question 5. As the price of oil skyrockets, alternative fuels will become more price 

competitive. What segments of the energy market will see growth in investment because of higher oil and gas prices? What impact will this have on the domestic energy market? 

Answer. SIGMA and NACS do not predict which segments of the energy market 

will see growth and investment because of higher oil and gas prices. In markets 

other than motor fuels, one assumes that sources of power such as wind, solar, and 

hydroelectricity will see increased demand. 

Question 6. Global spare production capacity has decreased dramatically in the 

past decade and it appears it will decrease even more. This will provide international suppliers with an even smaller ability to combat supply disruptions. Do you 

think the international oil supply is secure or is another price spike just around the 

corner? 

Answer. It appears that crude oil production capacity is becoming increasingly 

tight. SIGMA and NACS both hope that this may be offset by the development of 

sources such as Canadian tar sands or other unconventional sources of crude petroleum. Refining capacity likewise has become increasingly tight worldwide. Moreover, 

as the United States has gone off world specification products, our ability to obtain 

relief from non-domestic sources in the event of a domestic problem such as experienced in the wake of Katrina, become more limited. Consequently, a disruption in 

crude oil supply or another significant blow to domestic manufacturing capacity 

could generate volatility such as that recently experienced again. 

RESPONSES OF WILLIAM S. SHIPLEY, III, TO QUESTIONS FROM SENATOR SALAZAR

Question 1. Mr. Shipley, I saw an expert on CNBC saying that convenience store 

owners don’t know what they are paying for gasoline until after they have had it 

delivered and after they have started selling it at the pump. Is that even possible? 

Answer. It is in fact possible, and not altogether uncommon, for a gasoline retailer 

literally not to know what it is paying for gasoline until after that product has been 

delivered and after that retailer has actually started selling. This happens because 

of timing differences between the need to supply an outlet and the supplier’s price. 

In addition, suppliers may change prices more than once a day and because of 

scheduling problems and the logistics of making sure that trucks arrive at a retail 

outlet with replacement supplies in a timely way, that product may literally have 

been delivered before the price for it is recognized by the individual or individuals 

responsible for pricing it. 

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Question 2. From your testimony, I see that the money going back to the refiners, 

royalty holders, and exploration companies has doubled in two years. Surely that 

is not due to the cost of doing business; otherwise these industries could not suddenly be awash in profits. Is anyone besides the producers and refiners benefiting 

from these higher prices? Since your testimony has been so candid—and I thank you 

for that—how would you propose the prices you are being charged to be held in 

check? 

Answer. Yes, one of the principal beneficiaries of higher fuel prices has been the 

credit card industry. The amount of money which most consumers carry in their 

pockets at one time has not changed dramatically since the mid 80s—somewhere 

between $20.00 and $30.00. As the cost of a typical fill up (around 11 gallons) escalates past $20.00 consumers increasingly charge their motor fuel. Because credit 

card fees are calculated as a percent of sales price, this has resulted in a significant 

increase in the credit car fees associated with the purchase of every gallon of gasoline. 

The prices which retailers charge can best be held in check by market forces. Specifically, if the country has a manufacturing base for motor fuels which can promptly and effectively increase supplies in the event of a price spike, prices will decline 

rapidly. 

RESPONSES OF REBECCA WATSON TO QUESTIONS FROM SENATOR DOMENICI

Question 1. It appears that many facilities could come back online in days and 

weeks rather than months. Has MMS formulated a more specific timetable or goals 

for getting production online? If so, what is it? 

Answer. The timing of resumption of activity is largely in the hands of industry 

and has been exacerbated by the impacts of Hurricane Rita. MMS is working with 

the private sector to monitor, facilitate, and expedite any permits necessary to get 

production on line as soon as possible. Daily oil shut-in production has gone from 

95% on August 30th to 57% on September 12; daily gas shut-in production has gone 

from 88% to 38%. These shut-in numbers went back up to 100% for oil and 80% 

for natural gas immediately post-Hurricane Rita. As of October 3, 2005, 92.8% for 

oil and 74.95% for gas remain shut-in. Approximately 85 percent of Gulf oil production comes from facilities that suffered no or minor damage and this production 

could return to the market in three months if refineries, processing plants, pipelines 

and other onshore infrastructure are in place to receive process and transport it. 

Question 2. Can you clarify reports of damage to specific platforms, in particular 

the MARS facility operated by Shell Oil Company? 

Answer. MMS does not report on individual facilities but defers to the operator 

to assess and report these damages. This approach helps to quickly identify issues 

that need to be resolved, the overall impact from the storm, and where MMS efforts 

will be most effective in helping to restore our nation’s oil and gas supplies from 

the affected area. Out of 4000 producing facilities, 43 have been destroyed (some are 

single well caissons) and 16 have sustained major damage. Most of these are older 

facilities which do not provide much production. The largest impact will be from 

four damaged deep water facilities, including MARS. Only 4 drilling rigs were destroyed and 9 rigs have extensive damage, 6 rigs went adrift and all have been remanned and are beginning to power up. Our inspectors are working with industry 

on the major facilities to expedite the process of returning these facilities to production. 

Question 3. Is it still correct to say that there have been no reports of significant 

oil spills in the GOM as a result of Hurricane Katrina? 

Answer. As to the OCS, there have been no reports of significant spills related 

to offshore production. There are some spills from tanks that were knocked overboard from facilities which were toppled or damaged. OCS facilities maintain redundant safety systems to shut-in production with sub-surface and surface safety valves 

which prevent the flow from wells even if the facility is completely destroyed. All 

safety systems worked to successfully shut-in production on the OCS platforms. We 

understand there were some significant onshore spills. 

Question 4. Can you comment on any pipeline damage, or lack thereof, in the 

Gulf? 

Answer. Pipelines are difficult to inspect because pipelines segments are below 

the surface and often must be physically inspected to determine the extent of damage. Industry is early in this process, however at this point the damage does not 

appear to be as great as Hurricane Ivan when massive offshore mudslides caused 

significant pipeline movement. However, as of October 18, 2005, there have been 90 

preliminary reports of damage to offshore pipelines post Katrina and Rita. Industry 

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continues its preliminary assessment of pipeline damage and, as a result of a Notice 

to Lessees (NTL) issued September 27, 2005, has until May 1, 2006 to complete its 

inspections and surveys of OCS structures. 

Question 5. Does it make sense for this country to have all of its offshore production consolidated in one area of the OCS? If not, how do you suggest the government 

can alleviate this problem? 

Answer. The difficulty is that, but for the states bordering the central and western portions of the Gulf, historically coastal states and other interested parties have 

opposed offshore oil and gas activity off their coasts. The result is that 85% of the 

OCS is under moratoria. The Administration gives great weight to the views of adjacent states, as does the law. We believe that the nation’s energy security resides 

in diversity of energy supply to provide Americans with reliable, affordable energy. 

We recently solicited public comment on all areas of the OCS as we initiated the 

first step for the 5-Year OCS Program for 2007-2012. This will provide the Secretary 

an opportunity to gather the current views of all interested parties in considering 

the future direction of the program. 

RESPONSE OF REBECCA WATSON TO QUESTION FROM SENATOR TALENT

Question 1. Compare the historical and projected growth of demand to growth in 

production, refinery, and delivery capability, 1980-2030. 

Answer. This question is outside the purview of the Department of the Interior, 

and we defer to the expertise of other witnesses from the Department of Energy. 

RESPONSES OF REBECCA WATSON TO QUESTIONS FROM SENATOR BUNNING

Question 1. Global spare production capacity has decreased dramatically in the 

past decade and it appears it will decrease even more with the continued growth 

of demand in China and the United States, as well as the leveling of Russian oil 

production. This will provide international suppliers with an even smaller ability to 

combat supply disruptions. Do you think the international oil supply is secure or 

is another price spike just around the corner? 

Answer. This question is outside the purview of the Department of the Interior, 

and we defer to the expertise of other witnesses. 

Question 2. I’ve heard stories in the news media that a significant factor contributing to the current extraordinarily high oil prices is bidding by speculators in the 

worldwide oil commodity futures markets. Can you comment on the extent to which 

profit taking in the oil futures market is influencing the price of crude and gasoline? 

Is this phenomenon expected and how does it affect price spikes? 

Answer. This question is outside the purview of the Department of the Interior, 

and we defer to the expertise of the witnesses. 

Question 3. OPEC and other oil producing countries have expressed the desire to 

keep oil prices well above prior target range. What should we expect going forward 

as far as market-level crude oil prices? 

Answer. This question is outside the purview of the Department of the Interior, 

and we defer to the expertise of the witnesses. 

Question 4. As you know, the United States now imports over 60% of its crude. 

A significant portion of these imports come from unstable regions of the world. Yet 

we have vast untapped energy resources in the United States. Can you please discuss what the federal government can do to help to encourage the development of 

these secure, domestic energy supplies? 

Answer. The President’s National Energy Policy includes directives to diversify 

and increase all forms of energy supply in an environmentally sound manner, encourage conservation, and ensure adequate energy distribution. The Department has 

implemented a number of NEP directives to increase domestic energy supplies and 

enhance national energy security by ensuring continued access to Federal lands for 

domestic energy development, and by expediting permits and other federal actions 

necessary for energy-related project approvals. 

For example, we are helping to ensure that the OCS remains a solid contributor 

to the Nation’s energy and economic security by holding OCS lease sales in available 

areas on schedule. Since May 2001, DOI has held 17 OCS oil and natural gas lease 

sales on schedule while undertaking a comprehensive consultation process with 

other Federal agencies, State and local governments, and the public. These sales resulted in leasing of almost 24 million acres of OCS lands to industry for oil and gas 

exploration and development, and generated about $3.2 billion dollars in bonus bid 

revenue (not counting future royalties and rentals) for the U.S. Treasury. Production from leases issued as a result of these sales will contribute substantially to future domestic oil and gas production. 

114

The Bureau of Land Management’s (BLM) Oil and Gas Management program is 

one of the major mineral leasing programs in the Federal government and BLM has 

been making a concerted effort to help bring additional oil and gas supplies to the 

market. For example, the processing of Applications for Permits to Drill (APDs) and 

offering parcels of Federal land for oil and gas leasing continues to be a major priority for the BLM. 

Increased funding provided by Congress and management improvements have enabled the BLM to make significant progress in responding to the greatly increased 

number of APDs being submitted by industry. In FY 2004, the BLM processed 7,351 

APDs, approving 6,452 (on both Federal and Indian lands). As of September 3, 2005, 

the BLM had processed approximately 6,928 APDs (about 400 ahead of FY-2004’s 

pace), approved 6,257 APDs (about 600 ahead of FY-2004’s pace). By the end of Fiscal Year 2006, the BLM plans to substantially reduce the inventory of APDs pending for more than 60 days to 1,800, a reduction of 20 percent from 2004. 

BLM is also working to make oil and gas resources in Alaska available through 

its leasing, exploration and development activities in the National Petroleum Reserve-Alaska (NPR-A), an area covering more than 23 million acres in the northwest 

corner of the state. Development of these oil and gas resources is an important component of the President’s National Energy Policy. The first significant commercial 

production from the NPR-A is expected as early as 2008. 

The BLM will also participate in the inter-agency activities relating to the siting 

of an Alaska Natural Gas Pipeline. On October 13, 2004, the President signed into 

law the Alaska Natural Gas Pipeline Act, (ANGPA), legislation that greatly enhances the prospects for approval of the Alaska Natural Gas Pipeline, which will 

provide enhanced access to the natural gas supplies on the North Slope of Alaska. 

In order to meet the intent and provisions of the ANGPA, Federal agencies, including BLM, with jurisdiction have been meeting regularly and are developing an interagency Memorandum of Understanding to define regulatory alignment. 

The Energy Policy Act of 2005 contains several provisions through which the BLM 

can further work to improve the APD permit approval process and expedite oil and 

gas leasing, development and production on public lands. The Energy Policy Act of 

2005 will allow the BLM to continue streamlining efforts in leasing and permitting. 

The BLM will work with other regulating agencies to develop a one-stop permitting 

process for oil and gas activities in the 8 offices in 5 states where 70% of all APDs 

are processed. The objective of grouping the appropriate agency personnel is to create a more efficient and effective process through which to issue permits for oil and 

gas activities to interested parties while ensuring that the Nation’s energy resources 

are developed in an environmentally-responsible manner. 

Question 5. In most areas of the world, including the oil-rich Middle East, we are 

looking at diminishing excess supply capacity. Mr. Dowd explained that other countries throughout the world are now exploring smaller oil fields and recovering lowergrade crude. How do our domestic oil sources compare in retrieval cost and quality? 

Answer. This question is outside the purview of the Department of the Interior, 

and we defer to the expertise of the witnesses. 

RESPONSES OF REBECCA WATSON TO QUESTIONS FROM SENATOR BINGAMAN

Question 1. Hattiesburg, MS is a major distribution center for propane which is 

an important energy source in many rural areas. How has the hurricane affected 

Hattiesburg and propane supplies? 

Answer. This question is outside the purview of the Department of the Interior, 

and we defer to the expertise of the witnesses. 

Question 2. I understand that the National Oceanic and Atmospheric Administration is predicting that, during the current hurricane season, as many as nine hurricanes will hit the Gulf, including at least two more hurricanes of a similar strength 

to Hurricane Katrina. What additional steps can be taken if any to lessen the impact of future natural disasters in the Gulf of Mexico area and to the refining industry in the United States? 

Answer. Following recent hurricanes such as Ivan and Andrew MMS has conducted oceanographic, engineering and other studies reviewing offshore infrastructure or environmental damage. Our Technology and Research Program is used to 

assess and understand the areas of our regulatory program that could be improved. 

The results of these studies are incorporated into the MMS offshore program. 

Changes may include structure or facility engineering specifications, response or 

regulatory changes. MMS will conduct additional reviews and studies focusing on 

the damage and response after both Katrina and Rita. 

Internally, MMS has a continuity of operations plan (COOP) that we practice each 

year where Gulf of Mexico operations are moved to Houston. The COOP team occuVerDate 0ct 09 2002 09:40 Jan 26, 2006 Jkt 109235 PO 25575 Frm 00118 Fmt 6601 Sfmt 6621 P:\DOCS\25575.TXT SENERGY2 PsN: PAULM
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pied the emergency quarters prior to Hurricane Katrina entering the oil and gas 

areas of the Gulf of Mexico. The COOP was moved briefly to Herndon, VA during 

Hurricane Rita but has since moved back to Houston. This plan will be reviewed 

to assess if modifications are needed for longer-term disaster response and to identify any lessons learned. 

Question 3. Hurricane Katrina has underscored the concentration of U.S. petroleum production, refining and energy infrastructure in the Gulf of Mexico region. 

In recent correspondence with the President, I have mentioned the need to bring 

together the necessary stakeholders to focus on ways to facilitate a more robust and 

distributed infrastructure for refining petroleum products in the U.S. Would you 

and your respective stakeholder organization, be willing to take part in such a discussion? How would you see this proceeding? 

Answer. The Department of the Interior would be pleased to participate in any 

effort to work with the energy industry sector to find ways to improve and enhance 

the distribution infrastructure necessary to move OCS production to market centers 

and refining facilities. 

RESPONSE OF REBECCA WATSON TO QUESTION FROM SENATOR CORZINE

Question 1. We’ve already heard Members of Congress exploiting the tragic events 

of last week and its effect on our oil production and refining capacity by calling for 

drilling for more oil in both the Outer Continental Shelf and ANWR. In 2000, the 

MMS estimated that there were only 196 million barrels of oil off the coast of the 

Mid Atlantic region, only enough to last the country ten days. Considering the minimal benefit and significant downside of drilling off of areas such as the coast of New 

Jersey, is it worth threatening over 800,000 New Jersey jobs that are dependent on 

the Jersey Shore economy by opening up the coast to potential oil spills and other 

environmental impacts. Wouldn’t it be more prudent for Congress to look for ways 

to reduce our dependence on oil and diversify our energy sources? 

Answer. The fact that America faces an energy challenge is exactly why the President developed the National Energy Policy report and worked with Congress to 

enact The Energy Policy Act of 2005. Together, these two initiatives provide a balanced, comprehensive energy program. Energy use sustains our economy and our 

quality of life, but a fundamental imbalance exists between our energy consumption 

and domestic energy production. We must look at ways to narrow the gap between 

the amount of energy we use and the amount we produce. There is no one single 

solution. Achieving the goal of secure, affordable and environmentally sound energy 

will require diligent, concerted efforts on many fronts on both the supply and demand sides of the energy equation. 

President Bush’s National Energy Policy report laid out a comprehensive, longterm energy strategy for securing America’s energy future. That strategy recognized 

that to reduce our rising dependence on imported oil and gas, we must also increase 

domestic production. The President proposes to open a small portion of the Arctic 

National Wildlife Refuge (ANWR) to environmentally responsible oil and gas exploration using newly available, environmentally friendly technology. ANWR is by far 

the largest untapped source of domestic petroleum and would equal nearly 60 years 

of imports from Iraq. 

Presidential withdrawals or congressional moratoria have placed more than 85 

percent of the Outer Continental Shelf (OCS) off the lower 48 states off limits to 

energy development. The Federal OCS is a major supplier of oil and natural gas for 

the domestic market, contributing more oil and natural gas for U.S. consumption 

than any single state or country in the world, accounting for about 30 percent of 

the Nation’s domestic oil production and 21 percent of our domestic natural gas production. The OCS contains billions of barrels of oil and trillions of cubic feet of natural gas that can be safely produced. 

The Federal offshore oil and gas program has an excellent environmental record. 

Of the approximately 8.7 billion barrels of oil which have been produced from the 

OCS since 1985, only 73,400 barrels of all liquids (which includes condensates, oil 

and diesel) connected with offshore operations have been released into the marine 

environment less than .001% of produced liquids. According to the National Academy of Sciences, more than 150 times the amount of oil seeps into U.S. waters from 

natural cracks in the sea bed than from offshore platforms. 

With our reliance on imports of foreign oil climbing each year, we would be irresponsible if we did not consider how we might develop these abundant domestic resources. The Department’s Minerals Management Service announced in late August 

that it is seeking initial public comment on the development of its 2007-2012 fiveyear leasing plan for energy development on the Outer Continental Shelf (OCS) and 

accompanying environmental impact statement. 

116

Most media coverage of the President’s National Energy Policy and the recently 

enacted Energy Policy Act of 2005 focused on the parts dealing with production of 

traditional energy. However, both call for increased energy conservation and alternative and renewable sources as critical components to a balanced energy program. 

Good stewardship of resources dictates that we use energy efficiently and conserve 

resources. Thus, fossil fuel development is only a part of the solution to our Nation’s 

energy issues. Americans have already made great strides in using energy more efficiently. Since 1973, the United States economy has grown nearly three times faster 

than energy use, in part due to more efficient use of energy. Efforts over the past 

20 years have proven that simple conservation actions by individuals and small 

business can yield impressive results in demand reduction. 

Alternative and renewable sources of energy can also play an important role in 

helping meet our increased energy needs. To this end, the President and the Energy 

Policy Act of 2005 encourage development of a cleaner, more diverse portfolio of domestic energy supplies, and include measures to aid in the development and expansion of renewable energy technologies in use today, including geothermal, wind, 

solar, and biomass, as well as continued research into using hydrogen as an alternative energy carrier. Such diversity helps to ensure that Americans will continue 

to have access to the energy they need. 

RESPONSES OF REBECCA WATSON TO QUESTIONS FROM SENATOR SALAZAR

Question 1. For the panel, here’s something I don’t understand but would really 

like to know: where does the money go? Big Oil has been making money hand over 

fist in the past year—billions upon billions of dollars—and all of that extra profit 

is paid for by the consumers. All of that profit makes me think that a good chunk 

of that price at the pump must be some form of price gouging, even if it isn’t being 

exacted at the last step. So what I want to know is who buys the barrels of oil, and 

where does the money from that purchase end up? Does Big Oil buy their own product from their own subsidiaries, for pure profit? And next, when I buy a gallon of 

gasoline at the pump, where does that money go? It seems that Big Oil takes a cut 

every step along the way, and by the time it gets to a citizen of Colorado filling up 

at the gas station, that person’s pocketbook is feeling the greed of the entire system. 

Answer. This question is outside the purview of the Department of the Interior, 

and we defer to the expertise of the witnesses. 

Question 2. How can the price of a gallon of gasoline at the pump go up 50 cents 

in one day? Isn’t that the same gas in the station’s storage tank that was 50 cents 

cheaper yesterday? And if gas goes up that fast why does it go down so slow, if it 

goes down at all? I am hoping you can explain it to me and to the people of Colorado 

I represent. 

Answer. This question is outside the purview of the Department of the Interior, 

and we defer to the expertise of the witnesses. 

Question 3. Since last week we have seen wholesale gas prices surge above $2.50 but they are now down to around $2. What I don’t understand is why the country 

saw stations raising their prices multiple times a day and multiple times during the 

week, but with wholesale prices now falling, there has not been a corresponding 

change in the price at the pump. In other words, while there seems to be a rush 

to raise prices under any excuse, is there no similar incentive to lower prices? Why 

aren’t prices going back down just as quickly? 

Answer. This question is outside the purview of the Department of the Interior, 

and we defer to the expertise of the witnesses. 

RESPONSES OF JAMES A. OVERDAHL TO QUESTIONS FROM SENATOR DOMENICI

Question 1. Is the recent trend of high prices the result of more speculation in 

oil markets? 

Answer. I do not believe that oil prices are being driven by speculation in the 

crude oil futures market. Moreover, I do not believe that the level of speculative positions has increased, as a percentage of all open positions, in the crude oil futures 

market, at least over the past couple of years. 

The CFTC’s primary tool for monitoring the role of speculative traders in the futures market is its Large Trader Reporting System. There is no bright line for differentiating between speculative traders and hedgers. As a rule of thumb, the CFTC 

uses the term ‘‘speculator’’ to describe traders who are classified as ‘‘non-commercial,’’ that is, traders who do not have a commercial interest in the commodity upon 

which the futures contract is written. 

Since the beginning of 2003, non-commercial traders in the crude oil futures market at the New York Mercantile Exchange have, in aggregate, held nearly equallyVerDate 0ct 09 2002 09:40 Jan 26, 2006 Jkt 109235 PO 25575 Frm 00120 Fmt 6601 Sfmt 6621 P:\DOCS\25575.TXT SENERGY2 PsN: PAULM
117

sized positions on both the ‘‘long’’ side and the ‘‘short’’ side of the market. Currently, 

the long positions of non-commercial traders account for approximately 13 percent 

of all open long futures positions, while short positions by non-commercials account 

for approximately 14 percent of all open short futures positions. The current numbers are nearly identical to the average numbers compiled since the beginning of 

2003. This balanced holding of long and short positions is inconsistent with the notion that the positions of non-commercial traders have driven crude oil futures 

prices upward. In addition, approximately 16 percent of open positions are held by 

non-commercial traders in ‘‘spread’’ positions, that is, in offsetting positions across 

related contracts. These spread positions are structured to speculate on relative 

price differences (e.g., prices for October delivery vs. prices for November delivery), 

and when structured as such, are unrelated to the overall level of crude oil futures 

prices, and therefore cannot be responsible for changes in the level of these prices. 

These spread trades play a vital role in keeping prices of related markets (and 

prices of related contracts within the same market complex) in proper alignment 

with one another. 

An analysis by the CFTC’s Office of the Chief Economist shows that in general, 

futures price changes are positively correlated with changes in positions of non-commercial traders, meaning that prices rise as they buy and fall as they sell. However, 

we also observe this same correlation with commercial traders, that is, prices rise 

when they buy and fall as they sell. Therefore, in determining whether non-commercial traders cause futures prices to change, it is necessary to understand the market 

interaction between non-commercial and commercial traders. What we observe is 

that non-commercial traders respond to position changes by commercial traders, 

that is, as commercial traders alter their positions, non-commercial traders take the 

opposite side of these positions in response. In other words, when a commercial 

trader sells, it will often be a non-commercial trader who takes the other side of 

the transaction, that is, is the buyer. And when a commercial trader buys, it will 

often be a non-commercial trader who is the seller. What we observe is consistent 

with the notion that non-commercial traders respond to price changes and are not 

the cause of price changes. 

Finally, the futures market does not sit in isolation from other markets. Futures 

markets and cash markets are highly integrated. If trading in the futures market 

causes futures prices to differ from its cost-of-carry relationship with the underlying 

cash market, the resulting arbitrage opportunities will attract other traders whose 

trades will drive futures and cash markets back into their proper alignment. Indeed 

delivery of the cash commodity on futures contracts, and the prospect of delivery, 

while infrequent, leads to a predictable economic relationship between cash and futures prices. 

Question 2. What are the futures prices saying about future prices for crude oil, 

natural gas and gasoline? 

Answer. As a general policy, the CFTC refrains from predicting prices. However, 

prices from futures markets can be viewed as reflecting the markets’ expectation of 

future cash market prices. Based on crude oil futures prices as of September 21, one 

can see that the market expects crude oil prices to fall slightly on a year-over-year 

basis over the next three years.

[Quoted in dollars per Barrel] 

Delivery Date Futures Price 

as of 9/21/2005

January 2006 .......................................................................................... 66.66

January 2007 .......................................................................................... 65.97

January 2008 .......................................................................................... 63.61

Market expectations reflected in natural gas futures markets show generally falling prices on a year-over-year basis. The table below displays futures prices for January delivery in each of the next five years:

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[Quoted in dollars per mmBtu] 

Delivery Date Futures Price 

as of 9/21/2005

January 2006 .......................................................................................... 13.812

January 2007 .......................................................................................... 11.454

January 2008 .......................................................................................... 10.217

January 2009 .......................................................................................... 9.307

January 2010 .......................................................................................... 8.582

Contracts for summer delivery are lower by approximately $2 to $3 from the January prices across years. 

Although the unleaded gasoline futures market lists contracts for 12 consecutive 

months, it is only actively traded in the four nearest months. The contract for October delivery is priced currently (as of September 21, 2005) at $1.98 per gallon of 

wholesale unleaded New York Harbor gasoline. The contracts for delivery in November, December, and January are at $1.93, $1.88, and $1.86 respectively, reflecting 

the markets’ expectation that cash market wholesale gasoline prices will fall slightly. 

Futures market prices represent estimates of future cash market prices but do not 

tell us anything about the range of possible outcomes. Prices for options on futures 

contracts can reveal additional information about the probability of future cash market prices falling within specified price ranges. 

Question 3. The chart you included in your written testimony shows clearly how 

hedge funds significantly reduced their position following the Hurricane. What factors do you think motivated that trend? 

Answer. I do not know for sure what motivated managed money traders, including 

hedge funds, to reduce their long positions in the unleaded gasoline futures market 

following Hurricane Katrina. I have heard anecdotally that some funds use volatility 

filters, in addition to other information, to guide their participation in the market. 

If volatility is too high, these funds will pull back their participation in the market. 

Others have suggested that the sell-off was due to profit taking following the runup in prices preceding Hurricane Katrina. Yet others have suggested that many 

speculators simply underestimated the impact of Hurricane Katrina on prices and 

therefore sold on the basis of incorrect expectations. All of these theories are explored in a ‘‘Heard On The Street’’ column entitled ‘‘Many Speculators on High Oil 

Prices Bailed Too Soon,’’ in the September 2nd Wall Street Journal. 

Question 4. What would happen to the level of price for oil and natural gas if noncommercials were not allowed to participate in the market? 

Answer. It is difficult to say for certain what the effect would be. The only thing 

we know for sure is that if non-commercials were not allowed to participate in futures markets, hedges constructed with futures contracts would be less efficient. In 

addition, the liquidity provided by non-commercial traders would be absent from the 

market, increasing trading costs faced by commercial traders remaining in the market. 

First, as a factual matter, in recent times non-commercial traders as a group have 

had nearly equally balanced long and short positions in both crude oil and natural 

gas futures markets. This means that their presence is unlikely to have had any 

systematic affect on the direction of the market. In fact, in both the crude oil and 

natural gas futures markets, the most recent statistics from the CFTC’s Commitments of Traders report show that the net overall position of non-commercial traders has been skewed slightly to the short side, meaning that if anything, non-commercial traders are exerting downward pressure on prices. 

Second, prohibiting non-commercials from trading in futures markets will necessarily reduce participation by commercial traders. This is because commercial 

traders, who are attempting to use their futures position to reduce risk, need to 

trade with someone, that is, a non-commercial trader, who is willing to accept the 

risk the hedger is trying to shed. If the non-commercial trader is absent from the 

market, the commercial trader must either buy at a higher price, or sell at a lower 

price, in order to induce other commercial traders, who are themselves trying to 

shed the same risk, to trade. The bottom line is that the cost of constructing hedges 

in the futures market for all commercial traders will be higher, and many will simply refrain from participating in the market. Assuming, prior to a prohibition, that 

non-commercial traders and commercial traders are on opposite sides of the market 

(which will often be the case), eliminating the price influence of non-commercial 

traders will also eliminate the offsetting influence of commercial traders. Therefore, 

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attempting to influence the futures price by prohibiting participation by non-commercial traders may be self-defeating. 

Third, as mentioned in response to a previous question, an analysis by the CFTC’s 

Office of the Chief Economist contains results consistent with the notion that noncommercial traders in the crude oil futures market and the natural gas futures market respond to price changes and are not the cause of price changes. 

Question 5. As an economist, how do you define price gouging? 

Answer. ‘‘Price gouging’’ is not a formal term within the economics profession. I 

would define the term as a sudden and unjustified increase in the price of essential 

goods caused by an event that leaves consumers with few choices and little bargaining power. The term necessarily appeals to a notion of what is a ‘‘just’’ or ‘‘fair’’ 

price, as well a notion of which goods are considered ‘‘essential.’’ Such notions are 

generally outside of the scope of economic analysis. Price gouging, as I understand 

the term, is primarily a retail concept in cash markets outside of the CFTC’s jurisdiction. 

Within the markets under the jurisdiction of the CFTC, it is difficult to conceive 

of how price gouging could occur because the prices determined in these markets 

reflect information brought to the market by thousands of sophisticated traders who 

vigorously compete with one another to receive the best price they can when executing orders, either for themselves, or on behalf of their customers. 

Question 6. In your testimony, you state that non-commercials hold 25% of the 

long positions for unleaded gasoline futures. How much can that 25% force an upward trend in the price of gasoline futures if they all behaved as though they expected prices to increase? 

Answer. Although it is true that non-commercial traders have held approximately 

25 percent of the long positions in unleaded gasoline futures most recently (as of 

September 6, 2005), they also have held approximately five percent of the short positions. In net, non-commercial traders have been long most recently, and over the 

past couple of years, within the unleaded gasoline futures market. 

In general, futures price changes are positively correlated with changes in positions of non-commercial traders, meaning that prices rise as they buy and fall as 

they sell. However, we also observe this same correlation with commercial traders. 

Therefore, in determining the cause of futures prices changes, it is necessary to understand the market interaction between non-commercial and commercial traders. 

What we observe is that non-commercial traders respond to position changes by 

commercial traders, that is, as commercial traders alter their positions, non-commercial traders take the opposite side in response. Therefore, the long positions we 

see held by non-commercial traders may be a reflection of the desire by commercial 

traders to hold short positions. What we observe is consistent with the notion that 

non-commercial traders respond to price changes and are not the cause of price 

changes. 

RESPONSES OF JAMES A. OVERDAHL TO QUESTIONS FROM SENATOR SMITH

Question 1. How much gasoline is now refined off-short and imported as a finished 

product into the United States? 

[No response received.] 

Question 2. How many ports in the United States accept gasoline imports? Which 

ports are they? 

[No response received.] 

Question 3. Which in the United States can handle oil supertankers? 

[No response received.] 

Question 4. What has happened in the last two weeks to the price and availability 

of aviation fuel? 

[No response received.] 

Question 5. What are EIA’s projections of the availability and price of aviation 

fuel for the rest of the year? 

[No response received.] 

Question 6. About 55 percent of all Americans heat their homes with natural gas. 

The Petroleum Industry Research Foundation projects that, for these households, it 

will cost an extra $700 to heat their homes this winter. Is this an assessment with 

which you agree? 

[No response received.] 

RESPONSES OF JAMES A. OVERDAHL TO QUESTIONS FROM SENATOR BUNNING

Question 1. Global spare production capacity has decreased dramatically in the 

past decade and it appears it will decrease even more with the continued growth 

of demand in China and the United States, as well as the leveling of Russian oil 

120

production. This will provide international suppliers with an even smaller ability to 

combat supply disruptions. Do you think the international oil supply is secure or 

is another price spike just around the corner? 

[No response received.] 

Question 2. I’ve heard stories in the news media that a significant factor contributing to the current extraordinarily high oil prices is bidding by speculators in the 

worldwide oil commodity futures markets. Can you comment on the extent to which 

profit taking in the oil futures market is influencing the price of crude and gasoline? 

Is this phenomenon expected and how does it affect price spikes? 

Answer. I do not believe that oil prices are being driven by speculation in the 

crude oil futures market. 

The CFTC’s primary tool for monitoring large speculative futures traders is the 

Large Trader Reporting System. There is no bright line for differentiating between 

speculative traders and hedgers. As a rule of thumb, the CFTC uses the term ‘‘speculator’’ to describe traders who are classified as ‘‘non-commercial.’’

Since the beginning of 2003, non-commercial traders in the crude oil futures market at the New York Mercantile Exchange have, in aggregate, held nearly equallysized positions on both the ‘‘long’’ side and the ‘‘short’’ side of the market. Currently, 

the long positions of non-commercial traders account for approximately 13 percent 

of open futures positions, while short positions by non-commercials account for approximately 14 percent of open interest. The current numbers are nearly identical 

to the average numbers compiled since the beginning of 2003. This balanced holding 

of long and short positions is inconsistent with the notion that the positions of noncommercial traders have driven crude oil futures prices upward. In addition, approximately 16 percent of open positions are held by non-commercial traders in 

‘‘spread’’ positions, that is in offsetting positions across related contracts. These 

spread positions are structured to speculate on relative price differences (e.g., prices 

for October delivery vs. November delivery), and when structured as such, are unrelated to the overall level of crude oil futures prices. 

In the unleaded gasoline futures market, non-commercial traders have held approximately 25 percent of the long positions and five percent of the short positions 

most recently. In net, non-commercial traders have been long in this market most 

recently, and over the past two years. Immediately following Hurricane Katrina, we 

observed non-commercial traders reducing their long positions, that is, they were 

selling, as gasoline futures prices were rising. Some of this selling may have been 

the result of profit-taking by covering previously-established long positions This observation is inconsistent with the notion that non-commercial traders were causing 

futures prices to rise after Hurricane Katrina. 

In general, futures prices are positively correlated with changes in positions of 

non-commercial traders, meaning that prices usually rise as they buy and usually 

fall as they sell. However, we also observe this same correlation with non-commercial traders. Therefore, in gauging the cause of futures prices changes, it is necessary to understand the market interaction between non-commercial and commercial traders. What we observe is that non-commercial traders respond to position 

changes by commercial traders, that is, as commercial traders alter their positions, 

non-commercial traders take the opposite side in response. Therefore, the long positions we see held by non-commercial traders may be a reflection of the desire by 

commercial traders to hold short positions. What we observe is consistent with the 

notion that non-commercial traders respond to price changes and are not the cause 

of price changes. 

Non-commercial traders are an important source of liquidity in both the crude oil 

and unleaded gasoline futures markets. In a liquid market, prices are less likely to 

‘‘spike’’ in response to one-sided order flow arriving in the market. If anything, the 

presence of non-commercial traders has contributed to fewer price spikes in the 

market. 

Question 3. OPEC and other oil producing countries have expressed the desire to 

keep oil prices well above prior target range. What should we expect going forward 

as far as market-level crude oil prices? 

[No response received.] 

Question 4. As you know, the United States now imports over 60% of its crude. 

A significant portion of these imports come from unstable regions of the world. Yet 

we have vast untapped energy resources in the United States. Can you please discuss what the federal government can do to help to encourage the development of 

these secure, domestic energy supplies? 

[No response received.] 

Question 5. In most areas of the world, including the oil-rich Middle East, we are 

looking at diminishing excess supply capacity. Mr. Dowd explained that other counVerDate 0ct 09 2002 09:40 Jan 26, 2006 Jkt 109235 PO 25575 Frm 00124 Fmt 6601 Sfmt 6621 P:\DOCS\25575.TXT SENERGY2 PsN: PAULM
121

tries throughout the world are now exploring smaller oil fields and recovering lowergrade crude. How do our domestic oil sources compare in retrieval cost and quality? 

[No response received.] 

RESPONSES OF JAMES A. OVERDAHL TO QUESTIONS FROM SENATOR SALAZAR

Question 1. For the panel, here’s something I don’t understand but would really 

like to know: where does the money go? Big Oil has been making money hand over 

fist in the past year—billions upon billions of dollars—and all of that extra profit 

is paid for by the consumers. All of that profit makes me think that there a good 

chunk of that price at the pump must be some form of price gouging, even if it isn’t 

being exacted at the last step. So what I want to know is who buys the barrels of 

oil, and where does the money from that purchase end up? Does Big Oil buy their 

own product from their own subsidiaries, for pure profit? And next, when I buy a 

gallon of gasoline at the pump, where does that money go? It seems that Big Oil 

takes a cut every step along the way, and by the time it gets to a citizen of Colorado 

filling up at the gas station, that person’s pocketbook is feeling the greed of the entire system. 

[No response received.] 

Question 2. How can the price of a gallon of gasoline at the pump go up 50 cents 

in one day? Isn’t that the same gas in the station’s storage tank that was 50 cents 

cheaper yesterday? And if gas goes up that fast why does it go down so slow, if it 

goes down at all? I am hoping you can explain it to me and to the people in Colorado 

I represent. 

[No response received.] 

Question 3. Since last week we have seen wholesale gas prices surge above $2.50 but they are now down to around $2. What I don’t understand is why the country 

saw stations raising their prices multiple times a day and multiple times during the 

week, but with wholesale prices now falling, there not been a corresponding change 

in the price at the pump. In other words, while there seems to be a rush to raise 

prices under any excuse, is there no similar incentive to lower prices? Why aren’t 

prices going back down just as quickly? 

Answer. Several studies within the academic economics literature suggest that 

prices rise rapidly when costs go up, but fall gradually when costs fall. However, 

as has been noted in this literature, the facts do not really support any particular 

explanation for this effect which has been labeled as the ‘‘rockets and feathers’’ phenomenon. For markets we do regulate, that is futures markets, prices do not seem 

to follow this pattern. 

RESPONSES OF BOB SLAUGHTER TO QUESTIONS FROM SENATOR DOMENICI

Question 1. Can you please give the Committee an update on the current situation 

with respect to the refineries affected by Katrina? How much capacity has been restored? Have your members made any projections regarding restoration of fuel production at those refineries remaining out of commission? 

Answer. As of October 17, three refineries (a total of 554,000 barrels/day refining 

capacity) are still shut down from Hurricane Katrina. ExxonMobil’s Chalmette and 

Murphy Oil’s Meraux refineries in Louisiana have partial power. ConocoPhillips’ 

Belle Chase refinery in Louisiana has full power. These companies have not yet released projected dates for full production. 

Chevron’s Pascagoula refinery in Mississippi (325,000 barrels/day reining capacity), also shutdown by Hurricane Katrina, has recently restarted and the estimated 

date for normal production is late October. 

In addition, there are many refineries that were affected by Hurricane Rita:

Port Arthur (TX)/Lake Charles (LA) area 

Citgo in Lake Charles 324,300 b/d restarting 

ConocoPhillips in West Lake (LA) 239,400 b/d restarting 

Calcasieu in Lake Charles 30,000 b/d operating at full rate 

ExxonMobil in Beaumont (TX) 348,500 b/d attempting to restart 

Motiva in Port Arthur 285,000 b/d attempting to restart 

Total Petrochemicals USA refinery in Port Arthur 233,500 b/d restarting 

Valero in Port Arthur 255,000 b/d restarting 

Houston/Texas City area 

Shell in Deer Park 333,700 b/d operating at full rate 

Lyondell-Citgo in Houston 270,200 b/d reduced rates 

Astra Oil/Pasadena Refining in Pasadena 100,000 b/d operating at full rate 

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Valero in Houston 83,000 b/d reduced rates 

ExxonMobil in Baytown 557,000 b/d operating at full rate 

BP in Texas City 437,000 b/d expected restart late Oct./early Nov. 

Valero in Texas City 209,950 b/d operating at full rate 

Marathon in Texas City 72,000 b/d operating at full rate 

ConocoPhillips in Sweeny 229,000 operating at full rate

Question 2. What impact do you believe that loans from the Strategic Petroleum 

Reserve will have on the nation’s supplies of gasoline and other critical fuels? 

Answer. The release of crude oil from the Strategic Petroleum Reserve (SPR) enabled several refineries that were otherwise unaffected by the devastation of Hurricane Katrina to regain full productive capacity in a relatively short time frame. 

Lacking access to the SPR supply these refineries, representing approximately 17% 

of the nation’s supply of refined product capacity, most certainly would have been 

forced to further limit or even completely shut down their operations. This unpredictable event is precisely the type of situation that requires the release of SPR supplies; it underscores the need for judicious management of the SPR. 

Question 3. Can you tell us how much finished product the refining industry is 

bringing into the country now and, can imports of finished products like gasoline 

and diesel help alleviate the current supply situation? 

Answer. On average, the imports of either finished refined products or blending 

products used for refined products is 10% of the nation’s supplies. However, the 

Northeast U.S. receives the bulk of these imported fuel products which account for 

over 20% of this region’s demand. 

More specifically, the Energy Information Administration (EIA) publishes data on 

imports of finished petroleum products on a weekly basis. See Table 11 in EIA’s 

Weekly Petroleum Status Report (http://www.eia.doe.gov/oillgas/petroleum/

datalpublications/weeklylpetroleumlstatuslreport/w psr.html). There is considerable detail on Table 11. National data in summary form:

IMPORTS OF FINISHED PETROLEUM PRODUCTS 

[million b/d] 

Week ending 

8/19 8/26 9/02 9/09 9/16

Gasoline 

Reformulated ................................ 0.478 0.336 0.259 0.220

Conventional ................................. 0.269 0.314 0.273 0.297

Blending components ................... 0.478 0.621 0.330 0.581

Jet fuel ................................................. 0.031 0.165 0.105 0.143 

Distillate fuel oil 

>15ppm S ...................................... 0.0 0.0 0.0 0.0 0.0

16-500 ppm S ................................ 0.066 0.129 0.113 0.099

501-2000 ppm S ............................ 0.072 0.087 0.082 0.060

2000 ppm S ................................... 0.091 0.098 0.085 0.017

Residual fuel oil ................................... 0.415 0.658 0.547 0.472

Propane/propylene ............................... 0.234 0.136 0.081 0.203

Other1 ................................................... 1.329 1.117 1.029 1.381

Refined products .................................. 3.463 3.661 2.904 3.473

1 Includes kerosene, unfinished oils, liquefied petroleum gases (except propane/propylene), 

and other oils. 

While imports can alleviate petroleum product supply disruptions, they take a 

longer time to reach a U.S. port. Perhaps more importantly, however, is the overriding policy question of whether it is in the nation’s best interest for continued reliance on foreign supplies of refined products to meet the current and projected demands of U.S. consumers. 

Question 4. Will temporary relaxation of federal fuel requirements, such as sulfur 

content, help alleviate the situation? 

Answer. Temporary relaxation of summer Reid vapor pressure (RVP) regulations 

permits the early introduction of winter gasoline, which would occur normally on 

September 16 in most areas of the country. Less stringent RVP limitations in the 

winter increase gasoline production because some gasoline components, such as 

butanes and pentanes which raise RVP, can be used concern of additional impact 

123

on ozone formation. It is estimated that the RVP waivers issued by EPA in the 

aftermath of Hurricane Katrina increased overall gasoline supply by roughly 4%. 

The temporary relaxation of sulfur regulations in highway diesel fuel was instrumental production of additional diesel supplies for highway vehicles. This higher 

sulfur diesel is normally used only in off-road vehicles (e.g., road construction equipment, tractors). Aside from the direct impact on refineries caused by Katrina, the 

main facility providing hydrogen to many refineries in the area shut down due to 

the storm. Hydrogen is a vital component used in the process for removing sulfur 

from diesel fuel. Without the diesel sulfur waiver, critical supplies of fuel would 

have been lost. 

The Administration’s swift and decisive actions concerning emergency fuel waivers for certain gasoline and diesel fuel standards are certainly appreciated and 

clearly helped alleviate potential supply disruptions throughout the nation. The cooperative spirit and information sharing between EPA and other agencies with the 

refining and pipeline industries was instrumental in making the best of a terrible 

situation. 

Question 5. How do you justify the record level of the profits the refining sector 

has experienced? 

Answer. Despite recent profit data, the refining sector of the oil and gas industry 

has not historically enjoyed generous returns on investment. In the ten-year period 

1993-2002, average return on investment in the refining industry was only about 

5.5%. This is less than half of the S&P industrials average return of 12.7% for the 

same period. Refining industry profits as a percentage of operating capital are not 

excessive. In dollars, they seem large due to the massive scale needed to compete 

in a large, capital-intensive industry. For example, a new medium scale refinery 

(100,000 to 200,000 b/d) would cost $2 to $3 billion. In short, company revenues can 

be in the billions, but so, too are the costs of operations. 

The Federal Trade Commission released a study in June 2005 that made the following comments on industry profits: ‘‘Profits play necessary and important roles in 

a well-functioning market economy. Recent oil company profits are high but have 

varied widely over time, over industry segments and among firms... Profits also 

compensate firms for taking risks, such as the risks in the oil industry that war 

or terrorism may destroy crude production assets or, that new environmental requirements may require substantial new refinery capital investments.’’

Many other industries enjoy higher earnings than the oil industry. Among these 

are telecommunication services, software, semiconductors, banking, pharmaceuticals, coal and real estate, to name just a few. Imposition of a windfall profits 

tax on the industry would discourage investment at a time when significant capital 

commitments to all parts of the industry, including refining, will be needed. 

Tight gasoline market conditions have often led to calls for industry investigations. More than two dozen federal and state investigations over the last several 

decades have found no evidence of wrongdoing or illegal activity on our industry’s 

part. For example, after a 9-month FTC investigation into the causes of price spikes 

in local markets in the Midwest during the spring and summer of 2000, former FTC 

Chairman Robert Pitofsky stated, ‘‘There were many causes for the extraordinary 

price spikes in Midwest markets. Importantly, there is no evidence that the price 

increases were a result of conspiracy or any other antitrust violation. Indeed, most 

of the causes were beyond the immediate control of the oil companies.’’

Question 6. Two important facts stand out with respect to the nation’s refining 

capacity: First, 47% of the nation’s refining capacity is in the Gulf Coast Region. 

And, secondly, we have heard of only one new refinery being developed since the 

mid-1970’s—it is in Yuma, Arizona. In your view, what additional steps, both direct 

and indirect, can Congress take to facilitate the construction of new refinery capacity? In addition, is it possible to secure greater geographic diversity of refineries so 

that we do not have a repeat of the problems caused by Hurricane Katrina? 

Answer. It is true that 47% of the nation’s refining capacity is located in the Gulf 

Coast region. It is also true that crude oil and natural gas production and processing are not only unwelcome in other resource rich regions of the nation, current 

and long-lasting policy prohibits their development. This attitude must change if the 

nation is to increase its ability to produce domestic energy supplies. There is no 

shortage of resources, only shortage of political will to amend failed policies of the 

past. There is no need to pit environmental protection or impact on tourism against 

energy development. They are not mutually exclusive. 

Focusing more specifically on refinery capacity, NPRA believe that there exists a 

basic misconception that domestic refiners have not increased capacity at their operations. On the contrary, capacity increases over the past four years have netted an 

additional 520,000 barrels of crude input capacity. This is the equivalent of 2 new 

refineries. Unfortunately, even these remarkable accomplishments have not been 

124

able to keep up with continued domestic demand for both gasoline and diesel fuels. 

It must also be kept in mind that these capacity additions were accomplished at the 

same time when refiners were faced with increasing regulatory compliance requirements from both plant and fuel parameters. 

New refineries have not been built in almost 30 years for many reasons, including 

economic, public policy and political considerations, such as siting costs, environmental requirements, a history of low refining industry profitability, and, significantly, ‘‘not in my backyard’’ (NIMBY) public attitudes. It will be difficult to change 

this situation. 

There are, however, several steps and programs that Congress should consider 

that may very well spur refinery capacity expansions. These include:

• Make increasing the nation’s supply of oil, oil products and natural gas a number one public policy priority. Now, and for many years in the past, increasing 

oil and gas supply has often been a number 2 priority. Thus, oil and gas supply 

concerns have been secondary and subjugated to whatever policy goal was more 

politically popular at the time. Enactment of the recent Energy Bill is a first 

step to making a first priority the supply of energy sources the nation depends 

upon. 

• Remove barriers to increased supplies of domestic oil and gas resources. Recent 

criticism about the concentration of America’s energy infrastructure in the western Gulf is misplaced. Refineries and other important onshore facilities have 

been welcome in this area but not in many other parts of the country. Policymakers have also restricted access to much-needed offshore oil and natural gas 

supplies in the eastern Gulf and off the shores of California and the East Coast. 

These areas must follow the example of Louisiana and many other states in 

sharing these energy resources with the rest of the nation because they are 

sorely needed.

• Resist tinkering with market forces when the supply/demand balance is tight. 

Market interference that may initially be politically popular results in market 

inefficiencies and unnecessary costs. Policymakers must resist turning the clock 

backwards to the failed policies of the past. Experience with price constraints 

and allocation controls in the 1970s demonstrates the failure of price regulation, 

which adversely impacted both fuel supply and consumer cost. 

• Consider expanding the refining tax incentive provision in the Energy Act. Reducing the depreciation period for refining investments from ten to seven or five 

years would remove a current disincentive for refining investment. Changes 

could allow expensing under the current language to take place as the investment is made rather than when the equipment is actually placed in service, or 

the percentage expensed could be increased as per the original legislation introduced by Senator Hatch.

In addition, NPRA urges Congress to keep a close eye on several upcoming regulatory programs that could have significant impacts on gasoline and diesel supply. 

They are:

• Implementation of the new 8-hour ozone NAAQS standard. 

• Design and implementation of the credit trading program for the ethanol mandate (RFS) contained in the recent Energy Act 

• Implementation of the ultra low sulfur diesel highway diesel regulation. 

• Phase II of the MSAT (mobile source air toxics) rule for gasoline.

Further and expanding on several of the above mentioned items, the National Petroleum Council (NPC) released a study last December, ‘‘Observations on Petroleum 

Product Supply.’’ The NPC review of refining and inventory issues presents observations on petroleum product supply and a response to the Secretary’s request for advice on both refining and inventory issues. It is intended to update the 1998 and 

2000 NPC reports on these subjects. The report provides insights on petroleum market dynamics, as well as advice on actions that can be taken by industry and government to ensure adequate and reliable supplies of petroleum products to meet the 

energy and environmental requirements of American consumers. The report recommends actions that, if implemented, would:

• help avoid policies that hinder refining capacity expansions; 

• improve the environment for investment in domestic refining and logistics capability; and 

• allow the current supply system to continue to operate efficiently.

More specifically, the NPC study focused on precise topics of immediate impact 

and concern to the refining industry and recommended appropriate actions that 

should be taken to ameliorate current and potential problems. These recommendaVerDate 0ct 09 2002 09:40 Jan 26, 2006 Jkt 109235 PO 25575 Frm 00128 Fmt 6601 Sfmt 6621 P:\DOCS\25575.TXT SENERGY2 PsN: PAULM
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tions represent appropriate Congressional action. These topics and associated recommendations include: 

New Source Review 

‘‘Immediate implementation of comprehensive NSR reform is a very important 

policy step needed to improve the climate for investment in domestic refinery expansion. The NSR reforms promulgated by the Administration, including the Equipment Replacement Rule currently under judicial review, should be implemented as 

soon as possible. Attempts to delay or overturn the reforms should be vigorously opposed. Additional NSR reform proposals regarding debottlenecking and product aggregation should be issued and finalized.’’

National Ambient Air Quality Standards 

‘‘The U.S. Environmental Protection Agency (EPA) should revise the NAAQS compliance deadlines and procedures to take full advantage of emissions reduction benefits from current regulatory programs such as cleaner fuels/engines and reduction 

of regional emissions transport. As currently structured, attainment deadlines precede the benefits that will be achieved from emissions reductions already 

planned... The current deadlines could result in:

• Requirements for additional emissions offsets for any refinery modifications, reducing the economic attractiveness of investment in refinery capacity expansion 

• Additional investment in stationary controls at refineries, reducing the overall 

profitability and viability of domestic refining versus imports 

• Additional requirements for boutique fuels . . .’’

Implementation of Ultra Low Sulfur Diesel (ULSD) Regulations 

‘‘. . . there are concerns about meeting Ultra Low Sulfur Diesel (ULSD) demand 

during the transition to the 15 ppm maximum sulfur specification beginning in mid2006 . . . 

To reduce the potential for supply disruption, EPA should work with the Department of Energy (DOE) and the various fuels supply industries to consider emerging 

information about the behavior of ULSD moving through the entire distribution system and to consider how to achieve the goals of the program while recognizing distribution system realities. EPA’s current testing tolerance for ULSD should be adjusted to reflect the reproducibility of the tests that will be available for regulatory 

compliance; otherwise, enforcement actions based on testing inaccuracy may result 

in disruption to the supply system.’’

Sound Science, Cost Effectiveness, and Energy Analysis 

‘‘The 2000 NPC refining report recommended that: ‘Regulations should be based 

on sound science and thorough analysis of cost effectiveness.’

Executive Order 13211, signed by President Bush in 2001, requires agencies to 

prepare a ‘Statement of Energy Effects’ including impacts on energy supply, distribution and use, when undertaking regulatory actions. The NPC recommends that 

Executive Order 13211 be made law and strictly enforced. The NPC is not suggesting elimination or rollback of environmental requirements, but rather that the 

cost analysis of proposed regulations should include a thorough analysis of energy 

supply effects from production to end-use. Examples of regulations that the NPC 

does not believe reflect a thorough analysis of the energy supply effects include 

ULSD and NAAQS regulations. As a result, implementation of these regulations 

may impose unintended costs without commensurate benefit . . . .’’

Permitting 

‘‘Streamlining the permitting process would help improve the environment for domestic refining capacity investment.’’

Alternative Fuels 

‘‘Mandates or subsidies for alternative fuels increase uncertainty and reduce the 

incentive for investment in additional domestic petroleum refining capacity. Therefore, these mandates and subsidies may not reduce petroleum product imports as 

intended and could increase the cost to consumers.’’

RESPONSES OF BOB SLAUGHTER TO QUESTIONS FROM SENATOR TALENT

Question 1. What level of refinery operation could be supported by current crude 

oil supply and demand? 

Answer. It is difficult to answer this question with precision without reference to 

the fact that the market dictates what level of refining operations is supported by 

current supply and demand. Of course, in addition to the historically problematic 

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returns on investment in the refining sector, there are non-market complications 

that constrain investments in refining. These include multiple layers of regulatory 

standards, fuel mandates, failure to create an appropriate risk environment by addressing liability concerns arising out of those mandates, and community opposition 

to construction and expansion. 

Question 2. How long does it take for a refiner to recover its capital investment 

for a new or expanded refinery? Are any analysts predicting a decline in U.S. gasoline consumption over that time period? 

Answer. The answer to this question will vary, depending on the return on investment for refining as a whole. Despite recent profit data, the refining sector of the 

oil and gas industry has not historically enjoyed generous returns on investment. 

In the ten-year period 1993-2002, average return on investment in the refining industry was only about 5.5%. This is less than half of the S&P industrials average 

return of 12.7% for the same period. Refining industry profits as a percentage of 

operating capital are not excessive. In dollars, they seem large due to the massive 

scale needed to compete in a large, capital-intensive industry. For example, a new 

medium scale refinery (100,000 to 200,000 b/d) would cost $2 to $3 billion. In short, 

company revenues can be in the billions, but so, too are the costs of operations. The 

Federal Trade Commission recently found that these highly variable returns on investment have hampered new capital investment in the sector. 

Question 3. Is there sufficient competition for refining crude oil into finished products like gasoline? 

Answer. Today’s U.S. refining industry is highly competitive. Some suggest past 

mergers are responsible for higher prices. The data do not support such claims. In 

fact, companies have become more efficient and continue to compete fiercely. There 

are 54 refining companies in the U.S., hundreds of wholesale and marketing companies, and more than 165,000 retail outlets. The biggest refiner accounts for only 

about 13% of the nation’s total refining capacity; and the large integrated companies 

own and operate only about 10% of the retail outlets. The Federal Trade Commission (FTC) thoroughly evaluates every merger proposal, holds industry mergers to 

the highest standards of review, and subjects normal industry operations to a higher 

level of ongoing scrutiny. 

In 2004 the FTC published an FTC Staff Study ‘‘The Petroleum Industry: Mergers, Structural Change, and Antitrust Enforcement.’’ Among the points made in that 

publication was the following: ‘‘. . . mergers have contributed to the restructuring 

of the petroleum industry in the past two decades but have had only a limited impact on industry concentration. The FTC has investigated all major petroleum mergers and required relief when it had reason to believe that a merger was likely to 

lead to competitive harm . . .’’

According to data compiled by the U.S. Department of Commerce and by Public 

Citizen, in 2003 the four largest U.S. refining companies controlled a little more 

than 40% of the nation’s refining capacity. In contrast, the top four companies in 

the auto manufacturing, brewing, tobacco, floor coverings and breakfast cereals industries controlled between 80% and 90% of the market. Further, several mergers 

in the refining industry have actively maintained or even increased refining capacity 

when, without such consolidation, the individual refineries involved might not have 

been economically viable. One such example involves over 550,000 barrels/day of capacity. Also, Valero Energy Corporation has increased the productive capacity of the 

refineries it has acquired by an aggregate of nearly 400,000 barrels per day over 

the past several years. 

Question 4. According to Fortune magazine, in 2004 when oil prices were a lot 

lower than they are now, the average return for both independent refiners and integrated majors was 23.9 percent and it is higher this year. Over the past decade, 

according to Fortune, the return on equity in the sector has averaged 16 percent. 

However, the American Petroleum Institute claims these returns are as low as 6 

percent. Can you explain this vast difference? For refineries owned by oil producing 

companies, is this an issue of how they assign profits between production and refining? 

Answer. As noted above, when viewed over a decade or so, average return on investment in the refining industry was only about 5.5%, less than half of the S&P 

industrials average return of 12.7% for the same period. However, the Federal 

Trade Commission released a study in June 2005 that made the following comments 

on industry profits: ‘‘Profits play necessary and important roles in a well-functioning 

market economy. Recent oil company profits are high but have varied widely over 

time, over industry segments and among firms... Profits also compensate firms 

for taking risks, such as the risks in the oil industry that war or terrorism may destroy crude production assets or, that new environmental requirements may require 

substantial new refinery capital investments.’’

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Many other industries enjoy higher earnings than the oil industry. Among these 

are telecommunication services, software, semiconductors, banking, pharmaceuticals, coal and real estate, to name just a few. Imposition of a windfall profits 

tax on the industry would discourage investment at a time when significant capital 

commitments to all parts of the industry, including refining, will be needed. 

Question 5. What are the factors in preventing refinery investment? To the extent 

environmental and siting issues are among these, explain the importance to investors of streamlining the applicable environmental requirements and ensuring regulatory certainty, i.e., locking in requirements prior to start of refinery construction. 

Answer. The decision to invest in new refinery construction is constrained by 

three factors: poor historical economics; a changing but pervasive landscape of environmental rules; and community opposition. While new refinery construction has 

not occurred, refiners have made and will continue to make significant investments 

in expanding capacity at existing refineries. All refineries engage in maintenance 

and debottlenecking projects that maintain or expand capacity. One NPRA member, 

Valero, recently announced its capital expenditure plans. The result from the program will be to add 105,000 barrels per day of capacity in 2006, and another 66,000 

barrels per day in 2007. At one refinery in Detroit, Marathon Ashland Petroleum 

announced an expansion of about 26,000 barrels a day. 

In addition to expansion of capacity, several Gulf Coast refiners have made investments to enhance the ability of their refineries to handle less expensive, high-sulfur 

(or ‘‘sour’’) crudes. These investments expand the total pool of crude input available 

to refiners and, according to the Federal Trade Commission, the crude input represents some 85 percent of the cost of the refined product excluding taxes. 

While it is tempting to view recent refining margins as indicative of trend favorable to refinery investment, the truth is that allocation of capital is based upon the 

historic performance of the sector. As the data cited above indicates, the average 

return on investment for refining (1993-2002) is about 5.5 percent. After a recent 

economic assessment of the refining sector, Oklahoma Secretary of Energy David 

Fleischaker put it simply, ‘‘People aren’t going to invest in a 5 to 7 percent rate of 

return when money costs you 8 percent... Unfortunately, bankers aren’t looking 

for welcome mats. They’re looking for high rates of return.’’

While NPRA does not represent exploration and production interests, it goes without saying that a macroeconomic examination of much of the oil and gas sector will 

show that the industry is making large investments in these activities. Exploration 

and production can be highly risky investments—one field off-shore Angola alone 

has cost $7 billion to develop—and such investments can be decimated by political 

instability, terrorism, and the like. 

The changing environmental landscape affects the economics of the refining sector 

in two ways: by making changes in the products we produce, and by limiting 

changes we can make in our actual operations. Refiners currently face the massive 

task of complying with fourteen new environmental regulatory programs with significant investment requirements, all in the same 2006—2012 timeframe. In addition, many programs start soon. For the most part, these regulations are required 

by the Clean Air Act. Some will require additional emission reductions at facilities 

and plants, while others will require further changes in clean fuel specifications. 

NPRA estimates that refiners are in the process of investing about $20 billion to 

sharply reduce the sulfur content of gasoline and both highway and off-road diesel. 

Refiners will face additional investment requirements to deal with limitations on 

ether use, as well as compliance costs for controls on Mobile Source Air Toxics and 

other limitations. These costs do not include the significant additional investments 

needed to comply with stationary source regulations that affect refineries. 

Coming to grips with the newly enacted renewable fuels mandate and the diminished role MTBE will play in the supply of clean octane further exacerbates cost and 

supply concerns. Congress’ failure to adopt limit liability provisions in the last energy bill was another missed opportunity to encourage investment in refining. As 

the Council of Economic Advisors has found, ‘‘tort liability raises the cost of 

capital... and mobile capital will seek relatively higher return elsewhere until 

rates of return are again equalized. The result is that the capital stock in the 

United States may be smaller with high tort costs than with low tort costs.’’

Other potential environmental regulations on the horizon could force additional 

large investment requirements. They are: the challenges posed by increased ethanol 

use, possible additional changes in diesel fuel content involving cetane, and potential proliferation of new fuel specifications driven by the need for states to comply 

with the new eight-hour ozone NAAQS standard. The 8-hour standard could also result in more regulations affecting facilities such as refiners and petrochemical 

plants. These are just some of the pending and potential air quality challenges that 

the industry faces. Refineries are also subject to extensive regulations under the 

128

Clean Water Act, Toxic Substances Control Act, Safe Drinking Water Act, Oil Pollution Act of 1990, Resource Conservation and Recovery Act, Emergency Planning and 

Community Right-To-Know (EPCRA), Comprehensive Environmental Response, 

Compensation, and Liability Act (CERCLA), and other federal statutes. The industry also complies with OSHA standards and many state statutes. API estimates that, since 1993, about $89 billion (an average of $9 billion per 

year) has been spent by the oil and gas industry to protect the environment. This 

amounts to $308 for each person in the United States. More than half of the $89 

billion was spent in the refining sector. 

As for limitations on actual operations, consider the effect of the new source review, or NSR, program on refinery expansions. When the last Administration 

abruptly changed its interpretation of the NSR program, it became more difficult 

to undertake debottlenecking projects that can have the effect of maintaining or 

growing capacity. This rule change was made without notice-and-comment rulemaking. The result, of course, is uncertainty and cost. 

For a case study of how the Clean Air Act can complicate refinery investments, 

the Arizona Clean Fuels (ACF) project is an example. ACF is based in Phoenix, AZ, 

and intends to build a state of the art, $2.5 billion refinery that could provide significant product to the Southwest and West Coast using crude input supplied by the 

Mexican national oil company, PEMEX. Unfortunately, ACF has been trying to obtain necessary permits to proceed for almost seven years. 

A remaining impediment to the new refinery investment has been community reaction, or the so-called not-in-my-back-yard syndrome. Some critics who complain 

the loudest about industry investment practices unfortunately also oppose the construction of new facilities in new communities. Indeed, when the media began to 

question why so much refining capacity is concentrated on the Gulf Coast, the answers includes access to infrastructure and supply, but also community acceptance 

of the refining industry. To say the least, this acceptance is not typical of many 

other regions of the country where product demand is quite high. 

RESPONSES OF BOB SLAUGHTER TO QUESTIONS FROM SENATOR BUNNING

Question 1. The recently passed Energy Bill included an important tax provision 

that will allow 50% expensing of investment that expands a refinery’s capacity by 

more than 5%. Do you think this is enough to stimulate growth or are additional 

incentives needed? 

Answer. The decision to invest in new refining capacity or in expansion of existing 

capacity is complicated by three factors—low historic rates of return on investment; 

significant regulatory hurdles (including complex environmental regulations); and 

local opposition to refinery construction. The tax treatment of refining investments 

complicates these factors. NPRA appreciates a provision in the recently enacted energy legislation that will help encourage additional refining investment. This provision allows 50% expensing of the costs associated with expanding a refinery’s output 

by more than 5%. The refiner must have a signed contract for the work by 1/1/08, 

and the equipment must be put in service by 1/1/12. This provision is a good first 

step, but NPRA also supports reduction of the current 10 year depreciation period 

for refining investments to five years. 

Question 2. As you may know, Kentucky has an abundance of coal. Among other 

things, this supply of coal allows Kentucky to offer its citizens and industries some 

of the lowest utility rates in the country. I am deeply concerned that the increasing 

cost of oil will increase the cost of producing and transporting Kentucky coal. Do 

you have any additional information on how the price of gasoline will affect the cost 

of other energy sources such as Kentucky coal? 

Answer. While NPRA does not possess specific knowledge of particular impacts 

transportation fuel prices might have on the economics of Kentucky coal, we understand your concern. As we understand it, the cost associated with shipping coal can 

cost as much or more than the cost of mining it. The Energy Information Administration notes that almost 60 percent of coal in the U.S. is transported, for at least 

part of its trip to market, by train. While barge traffic may be preferable from an 

economic perspective, barges simply cannot take coal everywhere that it needs to 

go. While we are by no means experts on rail transportation, shippers typically pay 

a destination charge that is based on the distance traveled. Similar to renting a passenger car, the shipper may pay a daily rate just to get use of the car, then pay 

for the fuel depending on how far it is driven. As a result, increases in price or scarcity of diesel fuel can have a significant impact on the cost of getting coal to market. 

NPRA is sensitive to the issue of diesel fuel economics. NPRA has called upon 

EPA to ensure that its non-road, locomotive and marine (NRLM) diesel fuel sulfur 

reductions are undertaken with maximum flexibility. Market economics ensure that, 

129

in the long run, supply will match demand. However, when new regulatory fuels requirements are implemented, short-term supply disruptions have typically occurred. 

Two earlier diesel programs are examples: implementation of the EPA highway diesel requirement for maximum 500 ppm sulfur (low sulfur diesel, LSD) in 1993 led 

to supply disruptions for several months and the CARB diesel program led to supply 

disruptions that lasted for more than a year. 

Specifically, NPRA recommends cautious implementation of the ultra low sulfur 

diesel highway diesel regulation. The refining industry has made large investments 

to meet the severe reductions in diesel sulfur that take effect next June. We remain 

concerned about the distribution system’s ability to deliver this material at the required 15 ppm level at retail. If not resolved, these problems could affect America’s 

critical diesel supply. Industry is working with EPA on this issue, but time left to 

solve this problem is growing short. 

Question 3. The number of domestic refineries has decreased by more than 50% 

in the last 30 years, and the real-volume capacity of the domestic refinery network 

has decreased 10% in that same time period. What factors do you believe have suppressed U.S. refining capacity? 

Answer. The decision to invest in new refinery construction is constrained by 

three factors: poor historical economics; a changing landscape of environmental 

rules; and community opposition. But while new refinery construction has not occurred, refiners have made and will continue to make significant investments in expanding capacity at existing refineries. All refineries engage in maintenance and 

debottlenecking projects that maintain or expand capacity. One NPRA member, 

Valero, recently announced its capital expenditures plans. The result of the program 

will be to add 105,000 barrels per day of capacity in 2006, and another 66,000 barrels per day in 2007. At one refinery in Detroit, Marathon Ashland Petroleum announced an expansion of about 26,000 barrels a day. 

In addition to expansion of capacity, several Gulf Coast refiners have made investments to enhance the ability of their refineries to handle less expensive, high-sulfur 

(or ‘‘sour’’) crudes. These investments expand the total pool of crude input available 

to refiners and, according to the Federal Trade Commission, the crude input represents some 85 percent of the cost of the refined product, excluding taxes. 

While it is tempting to view recent refining margins as indicative of a trend favorable to refinery investment, the truth is that allocation of capital is based upon the 

historic performance of the sector. As the data cited above indicates, the average 

return on investment for refining (1993-2002) is about 5.5 percent. After a recent 

economic assessment of the refining sector, Oklahoma Secretary of Energy David 

Fleischaker put it simply, ‘‘People aren’t going to invest in a 5 to 7 percent rate of 

return when money costs you 8 percent... Unfortunately, bankers aren’t looking 

for welcome mats. They’re looking for high rates of return.’’

While NPRA does not represent exploration and production interests, it goes without saying that a macroeconomic examination of much of the oil and gas sector will 

show that the industry is making large investments in these activities. Exploration 

and production can be highly risky investments—one field off-shore Angola alone 

has cost $7 billion to develop—and such investments can be decimated by political 

instability, terrorism, and the like. 

The changing environmental landscape affects the economics of the refining sector 

in two ways: by making changes in the products we produce, and by limiting 

changes we can make in our actual operations. Refiners currently face the massive 

task of complying with fourteen new environmental regulatory programs with significant investment requirements, all in the same 2006—2012 timeframe. In addition, many programs start soon. For the most part, these regulations are required 

by the Clean Air Act. Some will require additional emission reductions at facilities 

and plants, while others will require further changes in clean fuel specifications. 

NPRA estimates that refiners are in the process of investing about $20 billion to 

sharply reduce the sulfur content of gasoline and both highway and off-road diesel. 

Refiners will face additional investment requirements to deal with limitations on 

ether use, as well as compliance costs for controls on Mobile Source Air Toxics and 

other limitations. These costs do not include the significant additional investments 

needed to comply with stationary source regulations that affect refineries. 

Coming to grips with the newly enacted renewable fuels mandate and the diminished role MTBE will play in the supply of clean octane further exacerbates cost and 

supply concerns. Congress’ failure to adopt limit liability provisions in the last energy bill was another missed opportunity to encourage investment in refining. As 

the Council of Economic Advisors has found, ‘‘tort liability raises the cost of 

capital... and mobile capital will seek relatively higher return elsewhere until 

rates of return are again equalized. The result is that the capital stock in the 

United States may be smaller with high tort costs than with low tort costs.’’

130

Other potential environmental regulations on the horizon could force additional 

large investment requirements. They are: the challenges posed by increased ethanol 

use, possible additional changes in diesel fuel content involving cetane, and potential proliferation of new fuel specifications driven by the need for states to comply 

with the new eight-hour ozone NAAQS standard. The 8-hour standard could also result in more regulations affecting facilities such as refiners and petrochemical 

plants. These are just some of the pending and potential air quality challenges that 

the industry faces. Refineries are also subject to extensive regulations under the 

Clean Water Act, Toxic Substances Control Act, Safe Drinking Water Act, Oil Pollution Act of 1990, Resource Conservation and Recovery Act, Emergency Planning and 

Community Right-To-Know (EPCRA), Comprehensive Environmental Response, 

Compensation, and Liability Act (CERCLA), and other federal statutes. The industry also complies with OSHA standards and many state statutes. API estimates that, since 1993, about $89 billion (an average of $9 billion per 

year) has been spent by the oil and gas industry to protect the environment. This 

amounts to $308 for each person in the United States. More than half of the $89 

billion was spent in the refining sector. 

As for limitations on actual operations, consider the effect of the new source review, or NSR, program on refinery expansions. When the last Administration 

abruptly changed its interpretation of the NSR program, it became more difficult 

to undertake debottlenecking projects that can have the effect of maintaining or 

growing capacity. This change was made without notice-and-comment rulemaking. 

The result, of course, was uncertainty and increased cost. 

For a case study of how the Clean Air Act can complicate refinery investments, 

the Arizona Clean Fuels (ACF) project is an example. ACF is based in Phoenix, AZ, 

and intends to build a state of the art, $2.5 billion refinery that could provide significant product to the Southwest and West Coast using crude input supplied by the 

Mexican national oil company, PEMEX. Unfortunately, ACF has been trying to obtain the necessary permits to proceed for almost seven years. 

A last impediment to the new refinery investment has been community reaction, 

or the so-called not-in-my-back-yard syndrome. Some critics that complain the loudest about industry investment practices unfortunately also oppose the construction 

of new facilities in new communities. Indeed, when the media began to question 

why so much refining capacity is concentrated on the Gulf Coast, the answers includes access to infrastructure and supply, but also community acceptability of the 

refining industry. To say the least, this acceptability is not typical of many other 

regions of the country where product demand is quite high. 

Question 4. The cost of gasoline is largely determined before in reaches the pump. 

The cost of crude oil and federal and states taxes make up 74 to 79% of the retail 

price of gas. Could you describe how the remaining 20 to 25% is determined and 

what profit each part of the supply chain receives? 

Answer. The overwhelming factor affecting gasoline and distillate prices is the 

supply and price of crude oil. In June of this year the U.S. Federal Trade Commission released a landmark study titled: ‘‘Gasoline Price Changes: The Dynamic of 

Supply, Demand and Competition.’’ To quote from the FTC’s findings: ‘‘Worldwide 

supply, demand, and competition for crude oil are the most important factors in the 

national average price of gasoline in the U.S.’’ and ‘‘The world price of crude oil is 

the most important factor in the price of gasoline. Over the last 20 years, changes 

in crude oil prices have explained 85 percent of the changes in the price of gasoline 

in the U.S.’’

Crude prices have been steadily increasing since 2004, largely because of surprising levels of growth in oil demand in countries such as China and India, and 

in the United States as well. Actual demand growth for oil and oil products in these 

countries in 2004 exceeded the experts’ predictions and has remained strong this 

year. As a result, world demand for crude is bumping up against the worldwide ability to produce crude. 

Strong demand for crude has dissipated the cushion of excess available worldwide 

oil supply, just as strong U.S. demand for refined products has eliminated excess 

refining capacity in the United States. The good news is that producing countries 

will probably be able to add crude production capacity in the years to come. The 

bad news is that the United States has thus far shown only limited willingness to 

confront its own energy supply problems. 

Gasoline costs closely track the cost of crude oil. Before hurricane Katrina, gasoline price increases lagged crude oil price increases on a gallon for gallon basis. This 

means that refiners did not pass through all of the increased costs in their raw material, crude oil. Crude oil accounts for 55-60% of the price of gasoline seen at the 

service station. The cost of federal and state taxes adds another 19% to the cost of 

a finished gallon of gasoline. Therefore under current conditions, 74-79% of the total 

131

cost of a gallon of gasoline is pre-determined before the crude is delivered to the 

refiner for manufacture into gasoline. 

Another contributor to gasoline costs is tightness in our nation’s gasoline markets. 

While U.S. refiners are producing huge volumes of products, continued strong demand has tightened supply. Gasoline demand currently averages approximately 9 

million barrels per day. Domestic refineries produce about 90 percent of U.S. gasoline supply, while about 10 percent is imported. These imports make up over 20% 

of the refined product demand of the Northeast U.S. Thus, steadily increasing demand can only be met either by adding new domestic refinery capacity or by relying 

on more foreign gasoline imports. Unfortunately, the need to add more domestic gasoline production capacity—the option NPRA believes to be the prudent choice—is 

often thwarted by other public priorities. 

Question 5. As the price of oil skyrockets, alternative fuels will become more price 

competitive. What segments of the energy market will see growth in investment because of higher oil and gas prices? What impact will this have on the domestic energy market? 

Answer. There is no doubt that relatively high prices for transportation fuels such 

gasoline and diesel stimulate the development of alternatives as well as conservation strategies. Recent legislation introduced in the Senate (S. 1772) seeks to create 

a favorable environment for certain ‘‘future fuels.’’ Legislation recently passed on 

the House floor (H.R. 3893) encourages demand side strategies like carpooling and 

vanpooling. Proposals like these should be carefully considered. 

Frequently-discussed alternative transportation fuels include those based on hydrogen. However, one of the major issues in meeting Ultra Low Sulfur (ULS) targets 

is the availability and effective use of hydrogen. The availability and cost of hydrogen has been and will increasingly become a challenge to refiners making these 

clean fuels. More stringent gasoline and diesel specifications increase the demand 

for hydrogen while they constrain the hydrogen production of catalytic reformers. 

Of course, recently adopted energy legislation contains a renewable fuels mandate. NPRA is not opposed to the use of ethanol as a fuel additive—in fact, many 

of its members produce ethanol-blended fuel for the market. However, NPRA has 

always maintained that national ethanol mandates jeopardize fuel supplies and hurt 

consumers, while not enhancing the nation’s energy independence. Now that such 

a mandate has been adopted, the federal government must do all it can to implement the program in a cost-effective manner sensitive to supply and demand realities. The government should encourage access to alternative sources of ethanol supply, including imports or cellulosic production, in order to augment traditional 

starch-based ethanol production. 

In addition, EPA must exercise care in the design and implementation of the credit trading program for the ethanol mandate. This mechanism is vital to increase the 

chance that this program can be implemented next year without additional gasoline 

supply disruption. Additional resources are needed within EPA to accomplish this 

key task. 

Many alternative transportation fuels also rely on petrochemical production. In 

light of this, NPRA is also extremely concerned about the current natural gas supply situation. We must implement policy changes to encourage increased natural gas 

supplies for use by U.S. consumers. NPRA favors policies that will encourage increased natural gas production from domestic sources, both onshore and offshore. 

U.S. petrochemical producers rely on an adequate supply of natural gas and gas liquids at reasonably predictable prices to maintain their competitive position in a difficult global market. 

Question 6. Global spare production capacity has decreased dramatically in the 

past decade and it appears it will decrease even more. This will provide international suppliers with an even smaller ability to combat supply disruptions. Do you 

think the International oil supply is secure or is another price spike around the corner? 

Answer. NPRA shares the concern of many policy makers and academic experts 

that crude oil supply presents a major challenge. Given that the FTC has demonstrated that as much as 85%, excluding taxes, of the cost of refined product is 

determined by the underlying cost of crude input, securing sufficient supply is very 

important to NPRA and its members. NPRA believes increasing the nation’s supply 

of oil, oil products and natural gas should be a number one public policy priority. 

Now, and for many years in the past, increasing oil and gas supply has often been 

a lower priority. Thus, oil and gas supply concerns have been secondary and subjugated to whatever policy goal was more politically popular at the time. Enactment 

of the recent Energy Bill is a first step to making the supply of energy sources the 

nation depends upon a first priority. 

132

Congress should further act to remove barriers to increased supplies of domestic 

oil and gas resources. Recent criticism about the concentration of America’s energy 

infrastructure in the western Gulf is misplaced. Refineries and other important onshore facilities have been welcome in this area but not in many other parts of the 

country. Policymakers have also restricted access to much-needed offshore oil and 

natural gas supplies in the eastern Gulf and off the shores of California and the 

East Coast. These areas must follow the example of Louisiana and many other 

states in sharing these energy resources with the rest of the nation because they 

are sorely needed. 

RESPONSES OF BOB SLAUGHTER TO QUESTIONS FROM SENATOR BINGAMAN

Question 1. Measures such as the institution of a windfall profits tax on energy 

producing companies, a Federal gasoline excise tax holiday, and/or a price caps on 

wholesale and or retail gasoline prices have been put forth as possible solutions to 

the problem at hand. Would these measures have the intended outcome of bringing 

down gasoline prices? 

Answer. The U.S. had a ‘‘windfall profit tax’’ on crude oil from 1980 until 1988. 

That tax, which was actually an ad valorem tax imposed on crude oil, discouraged 

crude oil production in the United States and resulted in other market distortions. 

It was repealed in 1988. 

Current suggestions for re-imposition of a windfall profits tax on refiners reflect 

a misunderstanding of refining industry economics. In the ten-year period 1993-

2002, average return on investment in the refining industry was only about 5.5%. 

This is less than half of the S&P industrials average return of 12.7% for the same 

period. Refining industry profits as a percentage of operating capital are not excessive. In dollars, they seem large due to the massive scale needed to compete in a 

large, capital-intensive industry. For example, a new medium scale refinery 

(100,000 to 200,000 b/d) would cost $2 to $3 billion. In short, company revenues can 

be in the billions, but so, too are the costs of operations. 

The FTC June 2005 study cited above had the following comments on industry 

profits: ‘‘Profits play necessary and important roles in a well functioning market 

economy. Recent oil company profits are high but have varied widely over time, over 

industry segments and among firms... Profits also compensate firms for taking 

risks, such as the risks in the oil industry that war or terrorism may destroy crude 

production assets or, that new environmental requirements may require substantial 

new refinery capital investments.’’

Many other industries have higher earnings than the oil industry. Among these 

are telecommunication services, software, semiconductors, banking, pharmaceuticals, coal and real estate, to name just a few. Imposition of a windfall profits 

tax on the industry would discourage investment at a time when significant capital 

commitments to all parts of the industry, including refining, will be needed. 

Question 2. I understand that the National Oceanic and Atmospheric Administration is predicting that, during the current hurricane season, as many as nine hurricanes will hit the Gulf, including at least two more hurricanes of a similar strength 

to Hurricane Katrina. What additional steps can be taken if any to lessen the impact of future natural disasters in the Gulf of Mexico area and to the reining industry in the United States? 

Answer. Of course, since this question was posed, an additional hurricane (Rita) 

did hit the Gulf Coast, making landfall at the Sabine Pass at the Louisiana-Texas 

border. This storm hit at the heart of much of the nation’s refining and petrochemical sector. The fresh experience of Katrina made local, state and federal officials more aware of the potential consequences of storms, both to the energy sector 

and to Gulf communities as a whole. As a result, more and better response and 

evacuation plans were evident. Still, the issue of on-site temporary housing for reconstruction activities could be better addressed. In the recent legislation approved 

by the House (H.R. 3893), the final provision (introduced as an amendment at markup by Texas Congressman Gene Green) vests emergency planning and federal response responsibility with the U.S. Department of Energy as opposed to the Federal 

Emergency Management Agency. Given the specific nature of the challenges to this 

vital infrastructure, the approach of the Green Amendment should be considered. 

Question 3. Hurricane Katrina has underscored the concentration of U.S. petroleum production, refining and energy infrastructure in the Gulf of Mexico region. 

In recent correspondence with the President, I have mentioned the need to bring 

together the necessary stakeholders to focus on ways to facilitate a more robust and 

distributed infrastructure for refining petroleum products in the U.S. Would you 

and your respective stakeholder organization, be willing to take part in such a discussion? How would you see this proceeding? 

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Answer. There are important reasons for the location of much of the refining assets of this nation along the Gulf Coast. First, much of the domestic oil and gas production in the lower 48 states of the United States is sequestered in the area of the 

Western Gulf off the coast of Texas and Louisiana. This fact derives from national 

and state legislation, as well as geological realities. Second, the area of the Gulf 

Coast near which much refining capacity is built is a unique confluence of transportation infrastructure, including the Mississippi River, the significant ports of New 

Orleans, Houston, Texas City, Corpus Christi, Galveston, and others, as well as the 

Intercoastal Waterway. The Gulf Coast also plays host to a significant portion of the 

nation’s crude, refined product and natural gas pipeline infrastructure, as well as 

the Louisiana Offshore Oil Port, or LOOP. The states of Texas and Louisiana, further, have a tradition of creating a hospitable business environment for petroleum 

refining and petrochemical production not likely to be found elsewhere in the United 

States. 

That said, NPRA is always interested in dialogue for the betterment of U.S. energy security. We stand ready to participate in any constructive stakeholder process 

that addresses vital energy infrastructure. 

Question 4. The Defense Production Act is the primary legislation for ensuring domestic availability of industrial resources and critical technology items that are essential for national defense. The Title III Program provides a vehicle to create, 

maintain, modernize or expand domestic production capability for technology items, 

components and resources essential for national defense and for which there is insufficient production capacity to meet these needs. This Act might be used to help 

the refining industry acquire the materials that it may need to get the refineries 

impacted by the storm up and running again. Have you looked at this? Do you suspect that you will be able to obtain all of the materials that you will need to restore 

the refining capacity that Hurricane Katrina took off line? 

Answer. NPRA and its members are interested in examining all sources of materials and authority that can assist in more timely reconstruction of vital infrastructure. We have identified the need for greater coordination in the areas of emergency 

housing, National Guard support, Coast Guard support, and other specific but limited federal services. That said, the primary responsibility for reconstruction of 

these facilities will remain with the industry itself. And, despite storm impacts taking as much as a quarter of refining capacity off line at one time, we believe the 

industry is well on its way to restoring shut-in capacity in a timely fashion. 

Question 5. I have requested a study of global refining issues from the CBO that 

should reach us some time this fall. What kind of issues and recommendations 

should we be looking for? 

Answer. NPRA is encouraged that CBO will be taking a serious look at policy options that may address refining issues. As suggested at the hearing and subsequently before the Senate Commerce Committee (September 21, 2005), NPRA made 

the following recommendations:

• Make increasing the nation’s supply of oil, oil products and natural gas a number one public policy priority. Now, and for many years in the past, increasing 

oil and gas supply has often been a number 2 priority. Thus, oil and gas supply 

concerns have been secondary and subjugated to whatever policy goal was more 

politically popular at the time. Enactment of the recent Energy Bill is a first 

step to making a first priority the supply of energy sources the nation depends 

upon. 

• Remove barriers to increased supplies of domestic oil and gas resources. Recent 

criticism about the concentration of America’s energy infrastructure in the western Gulf is misplaced. Refineries and other important onshore facilities have 

been welcome in this area but not in many other parts of the country. Policymakers have also restricted access to much-needed offshore oil and natural gas 

supplies in the eastern Gulf and off the shores of California and the East Coast. 

These areas must follow the example of Louisiana and many other states in 

sharing these energy resources with the rest of the nation because they are 

sorely needed. 

• Resist tinkering with market forces when the supply/demand balance is tight. 

Market interference that may initially be politically popular results in market 

inefficiencies and unnecessary costs. Policymakers must resist turning the clock 

backwards to the failed policies of the past. Experience with price constraints 

and allocation controls in the 1970s demonstrates the failure of price regulation, 

which adversely impacted both fuel supply and consumer cost. 

• Consider expanding the refining tax incentive provision in the Energy Act. Reducing the depreciation period for refining investments from ten to seven or five 

years would remove a current disincentive for refining investment. Changes 

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could allow expensing under the current language to take place as the investment is made rather than when the equipment is actually placed in service, or 

the percentage expensed could be increased as per the original legislation introduced by Senator Hatch. • Review and streamline permitting procedures for new refinery construction and 

refinery capacity additions. Seek ways to encourage state authorities to recognize the national interest in more U.S. domestic capacity. • Keep a close eye on several upcoming regulatory programs that could have significant impacts on gasoline and diesel supply. They are: 

a. Implementation of the new 8-hour ozone NAAQS standard. The current implementation schedule determined by EPA has established ozone attainment 

deadlines for parts of the country that will be impossible to meet. EPA has to 

date not made changes that would provide realistic attainment dates for the 

areas. The result is that areas will be required to place sweeping new controls 

on both stationary and mobile sources, in a vain effort to attain the unattainable. The new lower-sulfur gasoline and ULSD diesel programs will provide significant reductions to emissions within these areas once implemented. But they 

will not come soon enough to be considered unless the current unrealistic schedule is revised. If not, the result will be additional fuel and stationary source 

controls which will have an adverse impact on fuel supply and could actually 

reduce U.S. refining capacity. This issue needs immediate attention. 

b. Design and implementation of the credit trading program for the ethanol 

mandate (RFS) contained in the recent Energy Act. This mechanism is vital to 

increase the chance that this program can be implemented next year without 

additional gasoline supply disruption. Additional resources are needed within 

EPA to accomplish this key task. 

c. Implementation of the ultra low sulfur diesel highway diesel regulation. 

The refining industry has made large investments to meet the severe reductions 

in diesel sulfur that take effect next June. We remain concerned about the distribution system’s ability to deliver this material at the required 15 ppm level 

at retail. If not resolved, these problems could affect America’s critical diesel 

supply. Industry is working with EPA on this issue, but time left to solve this 

problem is growing short. 

d. Phase II of the MSAT (mobile source air toxics) rule for gasoline. Many refiners are concerned that this new regulation, which we expect next year, will 

be overly stringent and impact gasoline supply. We are working with EPA to 

help develop a rule that protects the environment and avoids a reduction in gasoline supply. 

RESPONSES OF BOB SLAUGHTER TO QUESTIONS FROM SENATOR AKAKA

Question 1. Mr. Slaughter, I would like to ask you the same question I asked of 

Panel I. Do you expect there will be wholesale price increases on the West coast 

due to the lost production and refining capacity in the Gulf of Mexico due to Hurricane Katrina? If so, can you provide me with an estimate of the magnitude of the 

increase or decrease? 

Answer. The West Coast of the United States faces particular challenges when it 

comes to transportation-fuel price and supply. While the Federal Trade Commission 

has estimated that some 85% of fuel cost is related to crude prices, the West 

Coast—notably California—suffers from additional complications beyond the world 

price of crude. The largest regional market, California, constitutes about one-third 

of the U.S. market. California imposes significant additional regulations on its fuel, 

thus making fuel less fungible in that market. In addition, California has proved 

to be challenging business environment for petroleum refining. Not only do supply 

complications resulting from the hurricanes cause price increases across the nation, 

but the West Coast is not in the best position to respond because of geography and 

regulatory constraints. 

Question 2. With respect to refining capacity, you testified that refiners make an 

average return on investment of about 5.5 percent, which is very low. This suggests 

that encouraging new refinery capacity will be difficult. Do you have any policy suggestion for increasing either refinery efficiency or investment in increasing capacity 

that will be useful in places where the market is relatively small, as in Hawaii? 

Answer. Despite recent profit data, the refining sector of the oil and gas industry 

has not historically enjoyed generous returns on investment. In the ten-year period 

1993-2002, average return on investment in the refining industry was only about 

5.5%. This is less than half of the S&P industrials average return of 12.7% for the 

same period. Refining industry profits as a percentage of operating capital are not 

excessive. In dollars, they seem large due to the massive scale needed to compete 

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in a large, capital-intensive industry. For example, a new medium scale refinery 

(100,000 to 200,000 b/d) would cost $2 to $3 billion. In short, company revenues can 

be in the billions, but so, too are the costs of operations. The Federal Trade Commission recently found that these highly variable returns on investment have hampered 

new capital investment in the sector. 

Responding to these factors is likely all the more acute when facing a small or 

isolated market. That said, NPRA believes that Congress and the Administration 

are asking the right questions. Policies that focus on depreciation of refinery assets, 

appropriate regulatory reform, and crude and natural gas availability are critically 

important. 

RESPONSES OF BOB SLAUGHTER TO QUESTIONS FROM SENATOR SALAZAR

Question 1. Mr. Slaughter, I have a very pointed question for you. Isn’t it true 

that refiners benefit by restricting supply—that is, by restricting the refining capacity of the United States? We all know we need refineries to turn crude oil imports 

into gasoline. But even though we have been using more and more oil every year 

for decades, there hasn’t been a new refinery built for 30 years in this country! I 

think simple supply and demand concepts tell us that if the country had more refining capacity, gasoline would be cheaper, and we would be better able to weather a 

disaster like Hurricane Katrina. But if you want to squeeze profits out of every 

drop, then you would restrict your refining capacity. In fact, you would probably try 

to reduce refining capacity over time, because you will make more money that way. 

So again, isn’t it true that if you reduce the ability of the United States to refine 

crude oil into gasoline, you are creating a supply squeeze, and that causes the price 

of gasoline to go up? How much do you think this affects the price at the pump right 

now? 

Answer. While it is true that utilization of refineries has crept upward to about 

98 percent in recent years, the decision to build new refineries unfortunately is 

more complicated than a simple supply-demand curve might dictate. The decision 

to invest in new refinery construction is constrained by three factors: poor historical 

economics; a changing landscape of environmental rules; and community opposition. 

While it is tempting to view recent refining margins as indicative of trend favorable to refinery investment, the truth is that allocation of capital is based upon the 

historic performance of the sector. As the data cited above indicates, the average 

return on investment for refining (1993-2002) is about 5.5 percent. After a recent 

economic assessment of the refining sector, Oklahoma Secretary of Energy David 

Fleischaker put it simply, ‘‘People aren’t going to invest in a 5 to 7 percent rate of 

return when money costs you 8 percent... Unfortunately, bankers aren’t looking 

for welcome mats. They’re looking for high rates of return.’’

While NPRA does not represent exploration and production interests, it goes without saying that a macroeconomic examination of much of the oil and gas sector will 

show that the industry is making large investments in these activities. Exploration 

and production can be highly risky investments—one field off-shore Angola alone 

has cost $7 billion to develop—and such investments can be decimated by political 

instability, terrorism, and the like. 

The changing environmental landscape affects the economics of the refining sector 

in two ways: by making changes in the products we produce, and by limiting 

changes we can make in our actual operations. Refiners currently face the massive 

task of complying with fourteen new environmental regulatory programs with significant investment requirements, all in the same 2006—2012 timeframe. In addition, many programs start soon. For the most part, these regulations are required 

by the Clean Air Act. Some will require additional emission reductions at facilities 

and plants, while others will require further changes in clean fuel specifications. 

NPRA estimates that refiners are in the process of investing about $20 billion to 

sharply reduce the sulfur content of gasoline and both highway and off-road diesel. 

Refiners will face additional investment requirements to deal with limitations on 

ether use, as well as compliance costs for controls on Mobile Source Air Toxics and 

other limitations. These costs do not include the significant additional investments 

needed to comply with stationary source regulations that affect refineries. 

Coming to grips with the newly enacted renewable fuels mandate and the diminished role MTBE will play in the supply of clean octane further exacerbates cost and 

supply concerns. Congress’ failure to adopt limit liability provisions in the last energy bill was another missed opportunity to encourage investment in refining. As 

the Council of Economic Advisors has found, ‘‘tort liability raises the cost of 

capital... and mobile capital will seek relatively higher return elsewhere until 

rates of return are again equalized. The result is that the capital stock in the 

United States may be smaller with high tort costs than with low tort costs.’’

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Other potential environmental regulations on the horizon could force additional 

large investment requirements. They are: the challenges posed by increased ethanol 

use, possible additional changes in diesel fuel content involving cetane, and potential proliferation of new fuel specifications driven by the need for states to comply 

with the new eight-hour ozone NAAQS standard. The 8-hour standard could also result in more regulations affecting facilities such as refiners and petrochemical 

plants. These are just some of the pending and potential air quality challenges that 

the industry faces. Refineries are also subject to extensive regulations under the 

Clean Water Act, Toxic Substances Control Act, Safe Drinking Water Act, Oil Pollution Act of 1990, Resource Conservation and Recovery Act, Emergency Planning and 

Community Right-To-Know (EPCRA), Comprehensive Environmental Response, 

Compensation, and Liability Act (CERCLA), and other federal statutes. The industry also complies with OSHA standards and many state statutes. 

API estimates that, since 1993, about $89 billion (an average of $9 billion per 

year) has been spent by the oil and gas industry to protect the environment. This 

amounts to $308 for each person in the United States. More than half of the $89 

billion was spent in the refining sector. 

As for limitations on actual operations, consider the effect of the new source review, or NSR, program on refinery expansions. When the last Administration 

abruptly changed its interpretation of the NSR program, it made more difficult 

debottlenecking projects that can have the effect of maintaining or growing capacity. 

This change was made without notice and comment rulemaking, and without regard 

to the downside consequences for environmental and energy policy that result from 

retarding plant maintenance. The result, of course, is uncertainty and cost. 

A last impediment to the new refinery investment has been community reaction, 

or the so-called not-in-my-back-yard syndrome. Some critics that complain the loudest about industry investment practices unfortunately also oppose the construction 

of new facilities in new communities. Indeed, when the media began to question 

why so much refining capacity is concentrated on the Gulf Coast, the answers includes access to infrastructure and supply, but also community acceptance of the refining industry. To say the least, this acceptance is not typical of many other regions 

of the country where product demand is quite high. 

Question 2. As a follow up, do you know of any new refineries being planned? How 

could this Congress encourage your industry to build more capacity—will the provisions we put in the Energy Bill have any teeth? 

Answer. The only new refinery project widely discussed is the Arizona Clean 

Fuels (ACF) project. ACF is based in Phoenix, AZ, and intends to build a state of 

the art, $2.5 billion refinery that could provide significant product to the Southwest 

and West Coast using crude input supplied by the Mexican national oil company, 

PEMEX. Unfortunately, ACF has been trying to obtain the necessary permits to 

proceed for almost seven years. 

As noted, the decision to invest in new refinery construction is constrained by 

three factors: poor historical economics; a changing landscape of environmental 

rules; and community opposition. But while new refinery construction has not occurred, refiners have made and will continue to make significant investments in expanding capacity at existing refineries. All refineries engage in maintenance and 

debottlenecking projects that maintain or expand capacity. One NPRA member, 

Valero, recently announced its capital expenditures plans. The result of the program 

will be to add 105,000 barrels per day of capacity in 2006, and another 66,000 barrels per day in 2007. At one refinery in Detroit, Marathon Ashland Petroleum announced an expansion of about 26,000 barrels a day. On the whole, existing refineries have been extensively updated to incorporate the technology needed to produce 

a large and predictable supply of clean fuels with significantly improved environmental performance. Capacity additions have taken place at many facilities as well. 

Between 1985 and 2004, U.S. refineries increased their total capacity to refine crude 

oil by 7.8%, from 15.7 mmb/d in 1985 to 16.9 mmb/d in May 2004. This increase 

is equivalent to adding several mid-size refineries, but it occurred at existing facilities to take advantage of economies of scale. 

In addition to expansion of capacity, refiners also changed processing methods to 

broaden the range of crude oil they can process and to allow them to produce more 

refined product for each barrel of crude processed. (2005 FTC analysis). Several Gulf 

Coast refiners have made investments to enhance the ability of their refineries to 

handle less expensive, high-sulfur (or ‘‘sour’’) crudes. These investments expand the 

total pool of crude input available to refiners and, according to the Federal Trade 

Commission, the crude input represents some 85 percent of the cost of the refined 

product excluding taxes. 

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[Note: Responses to the following questions were not received at 

the time the hearing went to press.]

QUESTIONS FROM SENATOR DOMENICI FOR GUY F. CARUSO

Question 1. What would be the effect on prices if a windfalls tax profit or price 

caps were instituted? 

Question 2. What do you think would be the effect of a mandatory minimum level 

of inventory for products like gasoline and other products? 

Question 3. Many observe that gasoline prices respond quickly, that is go up, 

when crude prices go up, but they don’t seem to come down as quickly when crude 

starts to fall. Explain to us the how the price of oil affects the price of gasoline and 

what price stickiness is. 

Question 4. The high price trend in oil that we have seen in the past couple of 

years has been described as a demand-led shock. Hurricane Katrina has added a 

supply shock to the situation. Has the U.S. ever experienced a demand-led shock 

in oil and natural gas before? 

Question 5. According the EIA’s International Energy Outlook, Gross Domestic 

Product is expected to grow at about 3% between 2005 and 2015. Will sustained 

high energy prices change that estimation, and if so, by how much? 

Question 6. How much of the recent $60 plus oil prices we have been seeing can 

be contributed to the so called ‘‘fear premium’’? 

Question 7. In your written testimony, you use the West Texas Intermediate price 

of $55 for crude oil for 2006 projections. Can you explain to us the relationship between the WTI price benchmark and other prices like the NYMEX futures and 

OPEC basket price? Which price should we look to as the one that sets the international oil price? Also, tell us about the relationship between the price of domestic 

oil production and the international price. 

Question 8. In your testimony, you note that OPEC members have expressed an 

interest in maintaining prices above the prior target range. What do you think the 

OPEC target range is today? Do you think OPEC purposefully created inventory 

tightness in 2001 and 2002 and continues to keep production at levels that deprive 

the market of the ability to build inventories? 

Question 9. Has the trend of running our refineries at high levels like 97% and 

the failure to build more refineries undermined the effectiveness of the Strategic Petroleum Reserve? 

Question 10. Over the past 20 years, is it true that demand for refined products 

has increased by about 30% and capacity has only increased about 9%? 

Question 11. Did Europe’s dieselization program affect incentives to add refinery 

capacity? Are there other examples of other country’s fuel choice decisions that have 

affected our markets and refinery capacity? 

QUESTIONS FROM SENATOR TALENT FOR GUY F. CARUSO

Question 1. Compare the historical and projected growth of demand to growth in 

production, refinery, and delivery capability, 1980-2030. 

Question 2. How long does it take for a refiner to recover its capital investment 

for a new or expanded refinery? Are any analysts predicting a decline in U.S. gasoline consumption over that time period? 

QUESTIONS FROM SENATOR SMITH FOR GUY F. CARUSO

Question 1. How much gasoline is now refined off-short and imported as a finished 

product into the United States? 

Question 2. How many ports in the United States accept gasoline imports? Which 

ports are they? 

Question 3. Which in the United States can handle oil supertankers? 

Question 4. What has happened in the last two weeks to the price and availability 

of aviation fuel? 

Question 5. What are EIA’s projections of the availability and price of aviation 

fuel for the rest of the year? 

Question 6. About 55 percent of all Americans heat their homes with natural gas. 

The Petroleum Industry Research Foundation projects that, for these households, it 

will cost an extra $700 to heat their homes this winter. Is this an assessment with 

which you agree? 

138

QUESTIONS FROM SENATOR BUNNING FOR GUY F. CARUSO

Question 1. Global spare production capacity has decreased dramatically in the 

past decade and it appears it will decrease even more with the continued growth 

of demand in China and the United States, as well as the leveling of Russian oil 

production. This will provide international suppliers with an even smaller ability to 

combat supply disruptions. Do you think the international oil supply is secure or 

is another price spike just around the corner? 

Question 2. I’ve heard stories in the news media that a significant factor contributing to the current extraordinarily high oil prices is bidding by speculators in the 

worldwide oil commodity futures markets. Can you comment on the extent to which 

profit taking in the oil futures market is influencing the price of crude and gasoline? 

Is this phenomenon expected and how does it affect price spikes? 

Question 3. OPEC and other oil producing countries have expressed the desire to 

keep oil prices well above prior target range. What should we expect going forward 

as far as market-level crude oil prices? 

Question 4. As you know, the United States now imports over 60% of its crude. 

A significant portion of these imports come from unstable regions of the world. Yet 

we have vast untapped energy resources in the United States. Can you please discuss what the federal government can do to help to encourage the development of 

these secure, domestic energy supplies? 

Question 5. In most areas of the world, including the oil-rich Middle East, we are 

looking at diminishing excess supply capacity. Mr. Dowd explained that other countries throughout the world are now exploring smaller oil fields and recovering lowergrade crude. How do our domestic oil sources compare in retrieval cost and quality? 

QUESTIONS FROM SENATOR BINGAMAN FOR GUY F. CARUSO

Question 1. Natural gas prices were over $11 per MMBtu on Friday—this com- pares to $6.51 in early July 2005. According to several industry analysts annual 

natural gas prices are at an all-time high share of GDP (over 1.4%) How much of 

an increase will consumers see in their winter heating bills this season? 

Question 2. The Energy Policy Act of 2005 includes tax incentives for energy efficiency improvements to existing homes, including efficient furnaces, air-conditioners 

and heat pumps. These incentives would help many residential consumers reduce 

their energy costs this winter. However, the IRS must issue regulations to implement these provisions. Will the Administration place a priority on making sure that 

consumers can take advantage of these energy saving provisions? 

Question 3. Similarly, the Energy bill authorizes the States to offer rebates to consumers who replace inefficient energy equipment with Energy Star rated products. 

New York state has had tremendous success reducing peak demand for electricity 

with a ‘‘bounty’’ program for old appliances. Will the Administration request funding 

for this state grant program in the supplemental appropriations or the FY07 budget? 

Question 4. The Energy Policy Act also provides tax incentives for building new 

homes that meet specified energy efficiency standards. These incentives apply to 

manufactured housing as well. Again, the IRS should place a high priority on implementing these provisions and developing the necessary regulations and guidelines 

so that consumers can take advantage of them. Many communities hit by Hurricane 

Katrina will require significant quantities of new housing. This is an opportunity 

to improve the energy efficiency of the housing stock—reducing the demand for energy and improving the quality of life of for homeowners and renters. Will the Department of Energy work with FEMA and HUD to assure that the new housing 

meets cost-effective energy efficiency standards? 

Question 5. I have requested a study of global refining issues from the CBO that 

should reach us some time this fall. What kind of issues and recommendations 

should we be looking for? 

Question 6. Hurricane Katrina has underscored the concentration of U.S. petroleum production, refining and energy infrastructure in the Gulf of Mexico region. 

In recent correspondence with the President, I have mentioned the need to bring 

together the necessary stakeholders to focus on ways to facilitate a more robust and 

distributed infrastructure for refining petroleum products in the U.S. Would you 

and your respective stakeholder organization, be willing to take part in such a discussion? How would you see this proceeding? 

QUESTIONS FROM SENATOR AKAKA FOR GUY F. CARUSO

Question 1. Mr. Caruso, my question has to do with gasoline prices on the West 

coast and in Hawaii. As you may know, our wholesale gasoline prices are based on 

139

West coast wholesale prices, under a Hawaii state law just implemented on September 1, 2005. As an example, this week, our Hawaii State Public Utility Commission is allowing up to a 30-cent increase per gallon, in order to keep up with West 

Coast prices. 

Question 2. In your analysis, do you expect that the events of Hurricane Katrina 

and the disruption in supply from the Gulf of Mexico will affect the West coast gasoline prices? And if so, by how much or how little? 

Question 3. Do you have any indication that there are likely to be gas shortages 

in areas like Hawaii where all oil must be shipped in and refined on the island? 

QUESTION FROM SENATOR CORZINE FOR GUY F. CARUSO

Question 1. The EIA’s energy outlook predicts that the U.S. demand for oil will 

continue to increase in the near future. Wouldn’t one of the best ways of getting 

a handle on gas prices be to take long term steps to reduce the demand for oil? 

Wouldn’t raising CAFE standards and promoting the use of hybrid vehicles significantly reduce the consumption of gasoline? Ultimately, wouldn’t the best way to 

avoid the situation we are now in, with gasoline prices skyrocketing, be to reduce 

the country’s reliance on gasoline? 

QUESTIONS FROM SENATOR SALAZAR FOR GUY F. CARUSO

Question 1. I am concerned about our refining capacity in this nation. Releasing 

oil from the Strategic Petroleum Reserve doesn’t do much for the country unless we 

can turn that oil into gasoline. What kind of excess refining capacity do we have 

in normal times? How much do you think this lack of refining capacity impacts the 

price Coloradans—any Americans, in fact— end up paying at the pump? Will you 

provide me with an estimate of how much excess capacity we would need in this 

country—in terms of new refineries—to smooth out gasoline prices? 

Question 2. For the panel, here’s something I don’t understand but would really 

like to know: where does the money go? Big Oil has been making money hand over 

fist in the past year—billions upon billions of dollars—and all of that extra profit 

is paid for by the consumers. ALl of that profit makes me think that a good chunk 

of that price at the pump must be some form of price gouging, even if it isn’t being 

exacted at the last step. So what I want to know is who buys the barrels of oil, and 

where does the money from that purchase end up? Does Big Oil buy their own product from their own subsidiaries, for pure profit? And next, when I buy a gallon of 

gasoline at the pump, where does that money go? It seems that Big Oil takes a cut 

every step along the way, and by the time it gets to a citizen of Colorado filling up 

at the gas station, that person’s pocketbook is feeling the greed of the entire system. 

Question 3. How can the price of a gallon of gasoline at the pump go up 50 cents 

in one day? Isn’t that the same gas in the station’s storage tank that was 50 cents 

cheaper yesterday? And if gas goes up that fast why does it go down so slow, if it 

goes down at all? I am hoping you can explain it to me and to the people in Colorado 

I represent. 

Question 4.Since last week we have seen wholesale gas prices surge above $2.50 

but they are now down to around $2. What I don’t understand is why the country 

saw stations raising their prices multiple times a day and multiple times during the 

week, but with wholesale prices now falling, there has not been a corresponding 

change in the price at the pump. In other words, while there seems to be a rush 

to raise prices under any excuse, is there no similar incentive to lower prices? Why 

aren’t prices going back down just as quickly? 

QUESTIONS FROM SENATOR DOMENICI FOR JOHN DOWD

Question 1. You suggest that a record investment by the energy industry aimed 

at expanding oil production gas has not resulted in the expected supply response. 

Why? Has industry not invested wisely to increase supply? Is it a case of depletion 

of available reason? Is it due to the failure to make additional areas accessible for 

production? 

Question 2. Is it a combination of these factors or perhaps others? 

Question 3. You testify that U.S. consumers and policymakers have more control 

over long-term demand than they do over long-term supply. What specific, practicable steps do you suggest that policy makers can take in the near term to affect 

demand? What can we do by way of long-term steps? 

Question 4. If your contention is that the key issue that Congress has not addressed is consumption, what steps do you believe that Congress could take to best 

address this issue? 

140

Question 5. Friday’s Wall Street Journal suggests that executives from large U.S. 

retailers are now worried that one affect of Hurricane Katrina will be to drive sales 

lower as middle-income shoppers now respond to rising fuel prices by reducing 

spending. This would follow the trend set earlier in the year by lower income shoppers. Please comment on this fear from retailers and on the overall affect of these 

rising fuel prices on the overall economy. 

QUESTIONS FROM SENATOR TALENT FOR JOHN DOWD

Question 1. What level of refinery operation could be supported by current crude 

oil supply and demand? 

Question 2. How long does it take for a refiner to recover its capital investment 

for a new or expanded refinery? Are any analysts predicting a decline in U.S. gasoline consumption over that time period? 

Question 3. Is there sufficient competition for refining crude oil into finished products like gasoline? 

Question 4. According to Fortune magazine, in 2004 when oil prices were a lot 

lower than they are now, the average return for both independent refiners and integrated majors was 23.9 percent and it is higher this year. Over the past decade, 

according to Fortune, the return on equity in the sector has averaged 16 percent. 

However, the American Petroleum Institute claims these returns are as low as 6 

percent. Can you explain this vast difference? For refineries owned by oil producing 

companies, is this an issue of how they assign profits between production and refining? 

Question 5. What are the factors preventing refinery investment? To the extent 

environmental and siting issues are among these, explain the importance to investors of streamlining the applicable environmental requirements and ensuring regulatory certainty, i.e., locking in requirements prior to start of refinery construction. 

QUESTIONS FROM SENATOR BUNNING FOR JOHN DOWD

Question 1. The recently passed Energy Bill included an important tax provision 

that will allow 50% expensing of investment that expands a refinery’s capacity by 

more than 5%. Do you think this is enough to stimulate growth or are additional 

incentives needed? 

Question 2. As you may know, Kentucky has an abundance of coal. Among other 

things, this supply of coal allows Kentucky to offer its citizens and industries some 

of the lowest utility rates in the country. I am deeply concerned that the increasing 

cost of oil will increase the cost of producing and transporting Kentucky coal. Do 

you have nay additional information on how the price of gasoline will affect the cost 

of other energy sources such as Kentucky coal? 

Question 3. The number of domestic refineries has decreased by more than 50% 

in the last 30 years, and the real-volume capacity of the domestic refinery network 

has decreased 10% in that same time period. What factors do you believe have suppressed U.S. refining capacity? 

Question 4. The cost of gasoline is largely determined before it reaches the pump. 

The cost of crude oil and federal and state taxes make up 74 to 79% of the retail 

price of gas. Could you describe how the remaining 20 to 25% is determined and 

what profit each part of the supply chain receives? 

Question 5. As the price of oil skyrockets, alternative fuels will become more price 

competitive. What segments of the energy market will see growth in investment because of higher oil and gas prices? What impact will this have on the domestic energy market? 

Question 6. Global spare production capacity has decreased dramatically in the 

past decade and it appears it will decrease even more. This will provide international suppliers with an even smaller ability to combat supply disruptions. Do you 

think the international oil supply is secure or is another price spike just around the 

corner? 

(141)

1 ExxonMobil, the world’s most profitable company, made $25.3 billion last year. The combined 

profits of it and BP, Royal Dutch Shell, and ChevronTexaco, last year were $72.8 billion. A 

month ago, ExxonMobil, ChevronTexaco, and ConocoPhillips announced record second-quarter 

profits of $7.6 billion,$3.7.billion, and $3.1 billion, respectively. Royal Dutch Shell’s quarterly 

profits of $5.2 billion were up by 34 percent over the same period last year. Other well-known 

companies like Sunoco also had record second-quarter earnings. 

APPENDIX II 

Additional Material Submitted for the Record 

STATEMENT OF BETH A. NAGUSKY, DIRECTOR OF ENERGY INDEPENDENCE AND

SECURITY, STATE OF MAINE

Chairman Domenici, Senator Bingaman, and distinguished members of the U.S. 

Senate Energy Committee, I am Beth Nagusky, Governor John Baldacci’s Director 

of Energy Independence and Security. I had hoped to offer this testimony at the 

hearing scheduled for September 8th. I would like to provide it now because of the 

serious impact of rising energy prices on Maine people. Maine is a small, rural state 

with a significant percentage of its population living below and at the poverty level. 

Maine is worried, and is taking action now, to prepare for what is likely to be 

the most difficult winter on record for many Maine people. While today’s gasoline 

prices are a major source of concern to a state with few viable transportation alternatives, our bigger fear revolves around what lies ahead this winter. Nearly 50,000 

of Maine’s homeowners receive federal fuel assistance. This number, while staggering, in no way reflects the actual number of Maine people who cannot afford 

heating fuel that could reach $3 per gallon. 

As gasoline prices began to soar, the Governor and my office have worked closely 

with Maine’s Attorney General G. Steven Rowe, The Governor has made it clear 

that any retail gas or oil dealer who is found to be violating Maine’s laws against 

unfair trade practices, profiteering, or collusion will be prosecuted to the full extent 

of those laws. At the same time, we are urging Maine citizens to conserve gasoline 

and not to hoard. 

We are becoming increasingly convinced that recent rapid gasoline price increases.may be tied not only to the supply disruptions caused by Hurricane Katrina, 

but also to the possibility that the mega-mergers of recent years in the oil and gas 

industry have created an oligopoly acting like a monopoly. We believe that the Department of Justice should undertake a thorough and objective analysis of the oil 

industry and report to Congress on its competitiveness. If the analysis shows a market that is too highly concentrated, then aggressive action must be taken to restore 

a healthy level of competition. 

In the meantime, I am calling on Congress to recognize and acknowledge the fact 

that the major oil companies have made record profits for the last six quarters.1

These profits are unconscionable when contrasted with the prices Maine people are 

paying at the gas pumps. These profits are outrageous when contrasted against the 

decision Maine people face this winter as they are forced to choose between paying 

for heat, for medicine, or for food. 

At the same time the federal Energy Bill asks taxpayers to pay billions to these 

same oil companies. We urge you to rethink and repeal tax credits for the oil and 

gas industry. It is past time to get serious about reducing our dependence on imported fossil fuels, and it is high time to provide significant financial incentives for 

conservation, energy efficiency, and renewable energy. We urge you to join Maine’s 

delegation and support significant improved fuel economy standards for cars, SUVs 

and light duty trucks; a federal renewable energy portfolio standard; and, a federal 

renewable fuel standard. 

I also ask that you increase funding for federal fuel assistance. Last winter fuel 

prices were 35% higher than they were the year before. This year they are projected 

to be at least 25% higher than last year. Yet, our federal fuel assistance funding 

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has not increased. Last year Maine launched a unique program using teams of volunteers to winterize the homes of our neediest citizens. We installed window, door, 

and pipe insulation to cut cold air leakage. We gave out compact fluorescent light 

bulbs to cut electricity bills. This year we are expanding the program. But, it is not 

enough. We need more funding, and we need it soon. 

Under Governor Baldacci, Maine has become a leader when it comes to promoting 

and practicing a 21st century energy policy. We have improved the fuel economy of 

the state fleet through downsizing our vehicles and the purchase of hybrid vehicles. 

We have reduced state travel through greater use of conferencing technologies. We 

have expanded the state vanpool program and provided preferential parking for employees who carpool to work. We have cut our motor fuel usage by over half a million gallons in two years. We have installed efficient lighting in state office buildings 

and purchase only the most efficient office products. We buy 30 to 40% of our electricity from renewable power, and we use a biodiesel blend to heat some state offices. 

In addition to saving state government money, we are reducing our greenhouse 

gas emissions. The Baldacci Administration takes climate change seriously. Maine 

is the first state to measure and track its greenhouse gas emissions. We have cut 

them 8% since 2002. 

When it comes to energy policy, perhaps it is time to resurrect the old expression, 

‘‘As Maine goes, so goes the Nation.’’

Thank you. 

STATEMENT OF AMERICAN TRUCKING ASSOCIATIONS, INC. 

American Trucking Associations (ATA) appreciates the opportunity to submit 

written testimony on the impact of rising fuel prices on the trucking industry. ATA 

is a federation of motor carriers, state trucking associations, and national trucking 

conferences created to promote and protect the interests of the trucking industry. 

ATA’s membership includes more than 2,000 trucking companies and industry suppliers of equipment and services. Directly and through its affiliated organizations, 

ATA encompasses over 37,000 companies and every type and class of motor carrier 

operation. 

Concerns about rising fuel prices often focus on the troubled airline industry, but 

the impact high diesel fuel prices are having on the U.S. trucking industry should 

not be underestimated. The trucking industry is the lynchpin of the transportation 

system, hauling more than two-thirds of all the domestic freight transportation tonnage in the United States and accounting for 88% of the nation’s freight bill. Trucking also accounts for over 70% of the value of trade between the U.S. and Mexico 

and Canada. 

Fuel prices were a significant concern for the trucking industry well before last 

week’s devastating hurricane. According to the Energy Information Administration 

(EIA), the national average price of diesel rose from $1.32 per gallon in 2002 to 

$1.51 in 2003 and $1.81 in 2004. This year, we expect the price to average over 

$2.40 per gallon. Now, with 5% of America’s refining capacity shut down and fuel 

supplies limited, we are seeing fuel prices skyrocket. The average cost of diesel fuel 

has risen from $2.59 per gallon the week prior to Hurricane Katrina to $2.90 as 

of September 5. 

This year, the industry will consume more than 35 billion gallons of diesel fuel 

at an estimated record cost of $85 billion—$23 billion more than in 2004; $33 billion 

over 2003 levels, and nearly double the industry’s cost of fuel in 2002. 

For most motor carriers, the cost of fuel is their second-highest operating expense 

after labor expenses. For many long-haul carriers, fuel equals as much as 25 percent 

of all operating costs. One carrier recently noted that if crude oil hits $85 per barrel, 

diesel will overtake labor as its largest expense. Small carriers are particularly vulnerable to large and swift increases in fuel prices. Typically, the smaller the carrier, 

the larger percentage fuel represents of total operating expenses. The motor carrier 

industry is comprised of thousands of small carriers. According to the Federal Motor 

Carrier Safety Administration (FMCSA), as of August 2005, 95.8 percent of the 

564,000 interstate motor carriers operated fewer than twenty trucks. 

ATA recently asked motor carriers to describe the impact of fuel prices on their 

businesses. Here is what several carriers had to say:

‘‘Fuel prices, along with insurance, are keeping us hanging on by our fingernails. We cannot afford to replace our equipment any more.’’

‘‘Fuel costs per mile have increased by 17 cents per mile in the last year. 

When 6 cents a mile is considered a good profit, this is bad news. We have been 

able to increase rates and get fuel surcharges from some customers to offset 

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some, but not all, of the fuel cost increase. We have had to cut insurance expenses by offering less health-care benefits. We also have had to delay the purchase of much needed new equipment.’’ ‘‘During the first seven months of 2005, we have spent $2,171,922.73 for fuel. This represents an increase of $547,447.27 over 2004. During the first seven 

months of 2005 and 2004 our fuel cost has increased $958,037.53. This increase 

cost has impacted our customers, and we are now seeing a slowdown in their 

business, which impacts ours.’’

‘‘We have governed our trucks to control speed. We have asked our drivers 

to shop carefully for fuel and only purchase limited amounts of fuel in those 

areas where the price is high. So far, our drivers have been very co-operative. 

They realize what is at risk. Last year our fuel expense was 21.64% of our bottom line. This year, that number has increased to 25.84%. Our year to date 

profit is 1.09%. Not much room for a mistake.’’

While the trucking industry may pass along some of the added fuel costs to shippers (which ultimately impacts consumers), frequently not all such costs are recouped by motor carriers. Despite increasing fuel costs, ATA has not sought legislative imposition of fuel surcharges in transportation agreements. However, steps to 

increase the supply of affordable fuel would benefit motor carriers, shippers, and ultimately consumers. 

Due to extreme volatility in fuel prices in the wake of Hurricane Katrina, on September 6, ATA requested the Secretary of Energy to direct the Energy Information 

Administration to report diesel prices twice a week, instead of the normal once a 

week, until fuel pricing becomes more stable. This change would provide the trucking industry with more accurate fuel pricing and help it make better business decisions. 

The trucking industry will face an added challenge beginning October 15, 2006, 

when ‘‘ultra low sulfur diesel’’ (ULSD) fuel will be introduced at the retail level in 

advance of the introduction, in 2007, of lower-emission diesel engines. EPA has stated that upon introduction, ULSD will quickly become the standard diesel fuel for 

the trucking industry. The petroleum industry cannot yet estimate what the added 

cost of ULSD will be (estimates have ranged from 5 cents to 13 cents per gallon), 

but we are certain that the fuel will be both more expensive and have less energy 

content than the diesel fuel used today. 

ATA recognizes that it is difficult for the government to impact world crude 

prices, but there are some steps that can be taken to lessen the severity of future 

spikes in diesel fuel prices. 

REFINING CAPACITY

For years now it has been apparent that the U.S. has underinvested in refining 

capacity. Regardless of the reason for this underinvestment (e.g., environmental restrictions or economic factors), it is time to reverse this trend. 

It became apparent in the aftermath of Katrina that we simply do not have 

enough spare refining capacity. As refiners shut down in the Gulf Coast, other refiners across the nation were unable to make up the difference because, on average, 

refiners already were running near 95 percent of total capacity, according to the 

American Petroleum Institute. 

Congress needs to get involved in this issue now. Even if world oil exploration increases due to the high price of crude, U.S. refiners will be unable to refine more 

diesel, gasoline, or jet fuel. 

ONE NATIONAL DIESEL FUEL STANDARD

We believe that Congress should amend section 211 of the Clean Air Act to restore a single national diesel fuel standard. A single national diesel fuel standard 

is critical to limiting the duration and magnitude of fuel price spikes, which are devastating to the economic health of the trucking industry. 

Varying state diesel fuel requirements (‘‘boutique fuels’’) typically result in fuel 

price differentials and prevent diesel fuel from simply being transported from one 

jurisdiction to another in times of shortage. Boutique fuels, due to their limited markets, are produced by only a handful of refineries, which results in less competition 

and higher fuel prices. 

California, which requires a boutique diesel fuel, provides a perfect example of 

this principle. The state’s CARB-diesel is a specially formulated diesel fuel with a 

higher cetane index and lower aromatic content than the diesel fuel sold in the rest 

of the country. As of August 29, 2005, according to EIA, the average retail price of 

CARB-diesel was $3.05 per gallon, which is 46 cents higher than the $2.59 national 

average. The cost of manufacturing CARB-diesel adds 4—5 cents extra per gallon. 

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The difference in state fuel taxes adds another 12 cents per gallon. This leaves a 

29 cent difference that can only be explained by higher distribution costs and the 

oligopolistic pricing associated with boutique fuels. 

The price disparity that results from state-mandated boutique fuel blends hurts 

the trucking industry by creating an uneven playing field and causing damaging 

fuel price spikes. Due to the competitive nature of the trucking industry, which has 

average operating margins of only two to four percent, a sudden increase in the 

price of diesel fuel turns a marginally profitable truck route into an unprofitable obligation. Moreover, the companies located within the boutique fuel jurisdiction have 

an economic incentive to refuel their trucks outside the jurisdiction, resulting in additional vehicle miles traveled, additional fuel consumed, and additional air emissions. 

The Clean Air Act provides for a national diesel fuel standard and prohibits states 

(except California) from requiring fuel formulations that differ from the standard established by the EPA. EPA, however, may grant states a waiver to adopt a unique 

fuel formulation where the state demonstrates that the boutique fuel is necessary 

to achieve compliance with the National Ambient Air Quality Standards and that 

other pollution control measures are either unreasonable or impracticable. 

In addition to California’s boutique diesel fuel (i.e., CARB diesel), EPA has granted a diesel fuel waiver to the state of Texas. Beginning in October 2005, Texas will 

require the sale of a boutique fuel that is similar to CARB diesel. Minnesota is 

poised to implement a boutique biodiesel fuel in October. 

ATA strongly supports a single national diesel fuel standard. We believe that the 

restoration of a single national diesel fuel standard will prevent localized supply 

shortages and price spikes and request that this Committee consider amending section 211 of the Clean Air Act to achieve this goal. 

DOMESTIC EXPLORATION OF CRUDE OIL

An uninterrupted fuel supply is essential to meet the nation’s transportation 

needs. ATA supports the goals of increased national energy self-sufficiency and reduced vulnerability of future energy disruptions. Therefore, the industry supports 

government efforts to promote offshore exploration and development of domestic oil 

and natural gas reserves. This includes drilling in Alaska’s Arctic National Wildlife 

Refuge (ANWR) in an environmentally sensitive manner. 

CONCLUSION

The trucking industry is primarily a small business industry with relatively slim 

profit margins. Rapid escalation in the price of diesel fuel, like we’ve seen in 2005, 

is devastating to the industry and will result in failures, lower capital investment, 

and negative employment trends. 

ATA knows that there is little that Congress can do to impact the price of crude 

oil on the world market. However, steps can be taken to reduce the magnitude of 

price spikes. 

First, Congress needs to address the lack of investment in new refining capacity. 

If refining capacity continues to operate at near full utilization, price spikes will be 

more extreme than necessary. And if several refiners go down, like with Katrina, 

then other refiners are unable to make up the difference. 

Complexity in the refining industry also adds to price spikes. By creating one national diesel fuel standard, Congress would be reducing complexity in the refining 

network and thus reduce the magnitude of price spikes when they occur. 

The American trucking industry is the backbone of the U.S. economy. Congress 

needs to ensure that the industry has access to enough fuel and reasonable prices 

so that motor carriers can continue to deliver America. 

STATEMENT OF MARCIA MERRY BAKER AND RICHARD FREEMAN,

LYNDON LAROUCHE POLITICAL ACTION COMMITTEE

ESTABLISH EMERGENCY, INTERIM ENERGY RE-REGULATION; END THE ENRONOMICSTHINKING BEHIND ‘UN-NATURAL’ DISASTERS

To the Honorable Senators Pete V. Domenici and Jeff Bingaman, and Members 

of the Committee: The merits of swift action by the Senate, to initiate intervention 

to establish re-regulation of the United States national energy system, are obvious 

in the face of requirements for dealing with the vast impact of Hurricane Katrina; 

but also, were apparent even at the time of Aug. 19, when the Committee announced its Sept. 8th hearing and its purpose in the first place, to address out-ofcontrol oil and gas prices. 

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Given that we now face a huge natural disaster made into a horrible catastrophe, 

by the negligence and inaction of the Executive Branch on infrastructure-maintenance generally, as well as in the case of the immediate epic storm, it is even more 

urgent for the Senate to rise to its unique advise-and-consent role, and initiate a 

long overdue shift to an economy-building policy. This is not a partisan question, 

but a matter of national public interest of the most profound and urgent kind. 

In this testimony, we wish to provide back-up for initiative of the Senate to institute energy re-regulation and related policies, in terms of three vital considerations. 

These have been reiterated in recent months by economist Lyndon LaRouche, in a 

series of policy briefs, webcasts, and international discussions, some of which directly addressed to the Senate, from which we summarily quote. Internationally, 

Mr. LaRouche has been meeting with national leaders anxious to see and support 

such a shift in the United States. 

We can provide full documentation to the Committee of the following summary 

points, including animated graphics of the economic processes involved, at request. 

First, the context for the dramatic run-up of energy prices, is that the financial/

monetary system itself is in crisis. Hyper-inflation is underway across most all essential commodities and services, as contrarily, ‘‘financials’’—derivatives, debts, 

speculation of all kinds, soar, to the point of an imminent crash. 

Secondly, the specifics involved in energy hyper-inflation—speculation, gaming of 

supplies, creation of shortages, cartelization mergers, etc.—are all {characteristic}, 

not aberrations, of the practices of the past several decades of the shift to policies 

of de-regulation of utilities, imposition of outsourcing of manufacturing and agriculture, and globalization generally. 

Thirdly, action by the Senate is in particular urgent, because in addition to the 

vital matter of energy, there is the responsibility of the Senate to take action in the 

broadest way to restore nation-saving policies in the face of the negligence of the 

Executive Branch regarding lack of Federal government functions before, during, 

and after Hurricane Katrina. We have devolved to where states, localities, charities, 

and others are casting about on their own to try to fill the breach in Federal functions of all kinds. 

CONTEXT: FINANCIAL, MONETARY CRISIS

The run-away energy prices are best understood in terms of the overall end-phase 

crisis we have entered, of the disintegration of the international financial system 

itself. Increasingly over the past three decades, the divergence of volumes of debts, 

deficits, and financial valuations of all kinds (stocks, derivatives, mortgages, etc.) as 

against the decline in condition and activity of physical economic input and output 

(manufacturing, agriculture, infrastructure) has widened to the point of financial 

blow-out and economic breakdown. The other way to say it, as many commentators 

finally admit, is that financial bubbles of home mortgage securities, hedge fund bets 

of all kinds, etc., are now beginning to burst. 

Looking to what must be done, LaRouche summarized it this way at a June 16 

international webcast this year: ‘‘Now, the situation is, such that people now generally realize that the United States is in deep trouble. The U.S. economy’s in trouble. It’s about to go under in a chain-reaction collapse. When, nobody knows exactly. 

But we know it’s oncoming. That’s why I say, as Roosevelt said, ‘‘We have nothing 

to fear, as much as fear itself.’’ (Because there are things we could do about this.) 

‘‘There are things the American people could force the United States government 

to do about this. 

‘‘But the average person doesn’t understand this problem. Therefore, they’re not 

sure of what to do, and they’re not sure about what kind of proposal they should 

support. But they know they’ve got to get some action, from government, to protect 

them from the danger of a collapse, which, in point of fact, is much bigger than the 

1929-1933 collapse; 1929-1933, which was given to you by Presidents Coolidge and 

Hoover, was relatively mild in its effect compared with the threat to the world, as 

well as the United States, from the presently onrushing crash. 

‘‘The situation is this: The entire world system is coming down. Not just the 

United States’ system, but the entire world system. Now, there are many people 

who’re whistling in the dark, and saying, ‘It’s not going to happen. It couldn’t happen’—well, it IS going to happen! It’s inevitable! 

‘‘What do we do about it?’’ (from ‘‘Dialogue with the Senate on Economic Policy; 

LaRouche’s Historic Webcast of June 16, 2005’’, www.larouchepac.com). 

‘‘ROOSEVELT MODEL’’: RE-REGULATE, BUILD INFRASTRUCTURE

In brief, LaRouche is calling for a series of steps, in the spirit of the ‘‘Roosevelt 

Model.’’ Using the ‘‘experience of 1933 through 1945, we have to guarantee the staVerDate 0ct 09 2002 09:40 Jan 26, 2006 Jkt 109235 PO 25575 Frm 00149 Fmt 6601 Sfmt 6621 P:\DOCS\25575.TXT SENERGY2 PsN: PAULM
146

bility of U.S. Treasuries, which is the basis for the security of the U.S. dollar. We 

have to enter into agreements with Europe and with other parts of the world, on 

a fixed-exchange-rate system, which can be fairly described as a New Bretton Woods 

system—the kind of system which Roosevelt created at the closing period of the war, 

the fixed-exchange-rate system. It worked. It worked fine until the middle of the 

1960s. it was the system under which we in the United States helped Europe rebuild itself from war . . . ‘‘We have to go back to that kind of system, which was destroyed by Nixon, where 

our troubles really began. And by getting long-term credit, instead of having shortterm credit, we have to have agreements on long-term credit: credit in terms of investment in infrastructure . . . We have to rebuild the world economy. We have to 

build new infrastructure for places that don’t have it. We have to rebuild the infrastructure of the United States and Europe. This is going to require long-term investment.’’ (Also from, ‘‘Dialogue with the Senate on Economic Policy,’’ op. cit.) 

The character of what kind of infrastructure is needed is underscored by the catastrophe at hand: transportation, water systems, medical systems and public 

health, power generation and transmission, land improvements, housing, education 

and R&D facilities, etc. 

Most important for the energy base of the United States, is to resume a full-scale 

nuclear power plant program. By Y2000, had we continued our original pathway, 

we would by now have been 50 percent nuclear-generated instead of 20 percent. We 

have at present 28 sites for new nuclear electricity units, on the pre-existing nuclear 

plant sites. 

‘‘PAPER OIL,’’ CONTRIVED SHORTAGES

In direct contrast to this approach, are the wild gyrations in prices of gasoline, 

petroleum and all other energy prices—fuel oil, natural gas, LP, jet fuel, even coal, 

etc. 

There is no need for us to document the current price spikes here, which data 

your Committee will have before you on Sept. 6. Instead, we make the point that 

the very pattern of such economy-bashing prices, results from the continuation of 

radical practices, euphemistically called ‘‘free-market,’’ that caused the undermining 

of the U.S. and worldwide economy to begin with, over the past 30 years. 

Look at ‘‘paper oil.’’ This is the well-known term to describe the fact that for every 

barrel of petroleum pumped somewhere, shipped and refined, there are hundreds of 

‘‘paper barrels’’ worth of trades on the speculative commodity markets. German Economics Minister Wolfgang Clement recently estimated that, at present, $18 per barrel of oil is attributable to speculation. On Sept. 2, when German Chancellor 

Gerhard Schroeder announced his commitment for Germany to come to U.S. aid by 

oil and gas shipments, his spokesman Thomas Steg stressed that there must be collaboration between countries now, to crack down on energy companies to keep prices 

stable. 

Especially during the episode of the so-called ‘‘California Energy Crisis’’ of 2000-

2001, and since, the Senate Energy Committee, and individual Senators have assembled all the evidence needed to document the whole range of fundamental malpractices that are systematically involved—namely, mergers and consolidation of 

control, speculation, gaming, shorting supplies, etc. These practices are done either 

illegally outright, or ‘‘legally’’—technically defined as such, under the insane energy 

de-regulation laws perpetrated over the last 15 years. Until these practices are 

rolled back, ‘‘Enron’’ lives. 

The Senate has what it needs to act to restore regulation of energy supplies—in 

the American tradition of public utility supervision of private corporations, which 

worked to the public good for decades. Therefore, we here identify only a few selected aspects of the present crisis, for the purpose of underscoring the general 

point. 

U.S. Refinery Capacity Lacking. 

Over the past three decades, the U.S. could and should have expanded significantly its refining capacity, but under decision-making by the increasingly de regulated energy/financial conglomerates, the U.S. capacity was shrunken, and geographically concentrated in ever more vulnerable locations, such as the Gulf Coast. 

In 1981, according to the Department of Energy, the U.S. had 324 refineries, with 

a refining capacity of 17.99 million bpd. In January 2005, after a period of sweeping 

shutdown, it had only 148 refineries with a capacity of 17.12 million bpd. To meet 

the deficit, refined product now is imported from a number of sources, including 

Canada, the U.K., and the Netherlands. From 1995 to 2005, imports of refined product have nearly doubled, rising from 1.6 million barrels per day, to more than 3.1 

million for the first half of 2005. 

147

The last time a new major refinery was built in the lower 48 states was in 1976, 

in Louisiana. As of Jan. 1, 2005, fully 52 percent of all U.S. refining capacity was 

owned and controlled by only six companies: Conoco-Phillips, 12.8%; ExxonMobil, 

10.9%; BP 8.8%; and Chevron Texaco, 5.9%; as well, Royal Dutch Shell, 5.7%; and 

Marathon Oil, 5.5%. 

Therefore, under these circumstances, when a ‘‘market-excuse’’ is given to justify 

gas and oil price run-ups—namely such citations as, ‘the effect of the Iraq War,’ or 

‘hostile OPEC action,’ or now, ‘Katrina Storm Damage’—no matter how partially 

true, the larger truth, from the vantage point of the responsibility of government 

to provide for energy security, is that the entire system of energy provision is in 

the hands of predator cartels, which must be brought under control. 

Look at simply the dramatic rise in per barrel crude oil futures prices on the New 

York Mercantile Exchange, for late August, yearly from 2002 to 2005, and you see 

that the {price more than doubled, well before Hurricane Katrina}!: Aug. 28, 2002—

$28.34; Aug. 28, 2003—$31.50; Aug. 28, 2004—$43.18; and Aug. 26, 2005—$66.13. 

(On Aug. 30, 2005, the price hit ‘only’ $69.81. 

2001 Senator Wyden Report on Contrived Shortages. 

A study commissioned by Sen. Ron Wyden (D-Oregon) during the California crisis, 

focuses on the essential, and defining, threat involved. In June 14, 2001, soon after 

the release of the Cheney Taskforce Energy Report, Sen. Wyden released an investigative report which concluded, ‘‘The oil industry and its allies would have the public believe that insufficient refining capacity, restrictive environmental standards, 

growing gasoline demand, and OPEC production cutbacks are the primary reason 

for the current oil and gas supply problem. However, the record shows... that 

major oil companies pursued efforts to curtail refinery capacity as a strategy for improving profit margins.’’

Wyden included as documentation an internal document obtained from Chevron 

Oil, dated Nov. 30, 1995, which asserts, ‘‘A senior energy analyst at the recent API 

[American Petroleum Institute] convention warned that if the U.S. petroleum industry doesn’t reduce its refining capacity it will never see any increase in refining 

[profit] margins.’’

Mega-Mergers. 

This year, Y2005, is the busiest for energy-industry deals since 2001, with about 

$100 billion of takeovers announced so far. The total, including pipelines, utilities, 

and coal producers, is more than the full-year total in 2002, 2003 or 2004, and if 

the pace continues, will be nearing 1999, when $200 billion of energy industry consolidations occurred. The period 1998 to 2000 was the biggest span in history for 

energy mega-mergers, including the mega-deal of Exxon Corp. acquiring Mobil Corp. 

for about $79 billion. Soon afterward—in the wake of the 1996 electricity deregulation laws, and the earlier gas and oil dereg, the stage was set for the California energy debacle, and the largest energy rip-off in history... until now. 

In the recent buy-out frenzy of energy commodity companies, Chevron in August 

acquired Unocal for $17.8 billion, and other mergers are underway. The menace is 

clear. 

SENATE’S UNIQUE ROLE

We can’t afford to stand back, in the lax spirit of waiting two years from now for 

a post mortem, Enron-style, on what went wrong in 2005. The Senate needs to act 

now. 

Already at the state and local level, lawmakers are casting about for fall-back 

measures to defend their functioning under the gas price hikes. 

Hawaii. This week, Hawaii imposed a wholesale gas price cap at $2.74 a gallon, 

including tax, which is indexed to average wholesale prices around the U.S.A. The 

cap level stands for a pump price in the range of $2.86 a gallon in Honolulu. 

Massachusetts. Commonwealth leaders are considering a moratorium on natural 

gas price hikes through the winter months, and direct purchases of oil by the state. 

Secretary of State William Galvin and others are raising this. Galvin said, ‘‘We’re 

all suffering from the high price of gasoline, but you have no option about heating 

your home. We need a comprehensive effort within 90 days, because once heating 

season begins, you have to heat your house 24 hours a day.’’ State Sen. Michael 

Morissey (D-Quincy), Chairman of the Telecommunications, Utilities and Energy 

Committee, intends to hold hearings. 

Wisconsin, Michigan, Missouri are talking about declaring a moratorium on state 

sales taxes on gasoline. 

In the face of this scrambling, on Sept. 1, President Bush told the American public, as if in a daze, ‘‘Don’t buy any gas you don’t need . . .’’

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The U.S. Senate must act. 

NEEDED EMERGENCY MEASURES

At the time of the energy price run-up in 2000, LaRouche issued a memorandum 

Sept. 19, stressing the principles involved in needed Federal government action. 

These guidelines are now even more urgently needed. 

Excerpts: 

1. The following statement constitutes a preliminary statement of policy ‘‘On the 

Subject of Emergency Action by Governments to Bring the Present Petroleum-Price 

Inflation Under Control.’’

2. Broadly, the current global inflation in petroleum prices threatens to be the 

detonator of a chaotic breakdown in many, if not all of the economies of the world. 

The actions proposed here to deal with that emergency situation will not solve the 

more general problem of the world’s financial and monetary systems at large, but 

will contribute an important, and perhaps decisive step in that direction. 

3. The underlying cause of the crisis, of which the petroleum-price crisis is but 

the presently leading political-economic consequence, is a general hyperinflation in 

financial asset-prices, which is now being expressed, at increasing rates, as a hyperinflation in commodity prices now following a trend similar to that suffered by Weimar Germany during the interval March-November 1923. 

4. For sundry, converging, and relatively obvious reasons, the most brutal effect 

of that upward spiral of financial hyperinflation is being expressed in devastating 

rates and magnitudes of rises in the costs of petroleum. The increasingly desperate 

effort to secure inflows of financial assets into the U.S. dollar sector, has seized 

upon several combined factors, as the opportunity to increase asset-price accumulations from hyperinflationary trends in the delivery prices of petroleum products. 

These factors include: recently increased concentration of ownership of major oil 

companies through mergers and acquisitions, the increased role of the spot market 

in petroleum deliveries, the significance of denomination of deliveries in U.S. dollars, and an intensity of speculative activity, especially in the form of financial derivatives, in this area which threatens to bring the per-barrel price of petroleum to 

between $40 and $50 per barrel, soon, and not much later, much higher. 

5. No ordinary means could bring this problem under control during even the 

short term. Only drastic measures taken in concert between and among sovereign 

national governments, could bring the petroleum-price crisis itself under control. 

Any other proposal would be a childish delusion. For the immediate future, either 

such governmental action will be taken, or the eruption of international chaos within the weeks ahead were the likely result. 

6. The appropriate action, which must be led by the U.S. government, must aim 

at immediate emergency cooperation among the governments of principal petroleumexporting and principal petroleum-consuming nations. 

7. These governments must: a) Declare a general strategic emergency in the matter of stability of flows and prices of essential energy-supplies of national economies; 

b) Establish contracts, directly between and among governments, of not less than 

twelve months, government-scheduled deliveries of petroleum from exporting to consuming nations; c) Define reasonable prices for these contracts; d) On the grounds 

of a global strategy emergency in petroleum prices and supplies, these governments 

must set priority on processing of such contracted petroleum flows through relevant 

refiners to priority categories of consumers in each nation, causing other stocks to 

be shunted to one side in the degree that these priority deliveries must be processed 

first. 

8. Such action will, obviously, collapse much of the current hyperinflationary 

trends in petroleum. That will have a significant political effect, in the form of reactions from the speculators currently gorging themselves on the suffering of national 

economies suffering zooming speculative prices of petroleum. We can not permit the 

cupidity of a powerful few speculators to destroy enterprises essential to the national interests of nations, and to the relations among those national economies. 

That opposition to urgently needed measures must be resisted on grounds of overriding national strategic interests. 

9. This proposed action will not cure the more general hyperinflationary trend in 

progress. It will only bring a most critical segment of this speculative inflation 

under control; but it will set standards of cooperation now urgently needed, for dealing with the general international banking and related crises about to strike the 

world as a whole during the weeks and months immediately ahead. 

10. There are many details of the current speculative marketing of petroleum contracts which require closer scrutiny and related assessment. That investigation 

should proceed; it is urgent. However, those representatives of governments who unVerDate 0ct 09 2002 09:40 Jan 26, 2006 Jkt 109235 PO 25575 Frm 00152 Fmt 6601 Sfmt 6621 P:\DOCS\25575.TXT SENERGY2 PsN: PAULM
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derstand the politics of oil, must play a leading role in implementing the general 

measures I have indicated, now, without delay. After a thirty-to ninety-day initial 

period of operation of the proposed agreements, secondary and tertiary features of 

the problem will be clearer, and, most important, governments and others will have 

developed the mechanisms needed for further courses of action. 

STATEMENT OF DR. JAMES NEWSOME, PRESIDENT,

NEW YORK MERCANTILE EXCHANGE, INC. 

Mr. Chairman and members of the Committee, my name is Jim Newsome and I 

am the President of the New York Mercantile Exchange (NYMEX or Exchange). 

NYMEX is the world’s largest forum for trading and clearing physical-commodity 

based futures contracts, including energy and metals products. We have been in the 

business for 135 years and are a federally chartered marketplace, fully regulated 

by the Commodity Futures Trading Commission. On behalf of the Exchange, its 

Board of Directors and shareholders, I thank you and the members of the Committee for the opportunity to submit testimony for the record of the hearing on global oil demand and gasoline prices. 

First and foremost, we would like to acknowledge that not only has the nation’s 

energy supply been severely affected, but lives have been lost, homes have been destroyed, and entire cities are in ruins. Our thoughts and prayers are with all the 

families that have suffered from the destruction of Katrina. 

INTRODUCTION

NYMEX provides an important economic benefit to the public by facilitating competitive price discovery and hedging. As the benchmark for energy prices around the 

world, trading on NYMEX is transparent, open and competitive and heavily regulated. Contrary to some beliefs, NYMEX does not set prices for commodities trading 

on the exchange. NYMEX does not trade in the market and, being price neutral, 

does not influence price movement. NYMEX provides the forum for traders to come 

together and execute trades at prices which best represent what market participants think prices should be in the future, given today’s information. 

Periods of market uncertainty and volatility often result from extreme supply disruptions as we see with the numerous refineries shut down due to Hurricane 

Katrina, which brings me to the reason I was asked to testify today. There is a 

strong beneficial and interdependent relationship between the futures and cash 

markets. The primary motivation for using the futures market is to hedge against 

price risk in the cash market. Prudent business managers rely on the futures market to protect their business against price swings in the cash market. Price volatility 

following Hurricane Katrina drove many into the futures markets, as is reflected 

by the record volumes traded on NYMEX since the hurricane. 

Futures markets provide a reference point for use in arranging trades at competitively determined prices. An understanding of the NYMEX market, its pricing mechanism and the relationship between the futures price and the cash price will provide 

useful instruction and clarity to what is often perceived as an esoteric area of financial dealings. 

OVERVIEW

Futures markets fulfill two primary functions: (1) They permit hedging, giving 

market participants the ability to shift price risk to others who have inverse risk 

profiles or are willing to assume that risk for profit; and (2) They facilitate price 

discovery and market transparency. Transparency involves many factors, including: 

(1) Continuous price reporting during the trading session; (2) Daily reporting of 

trading volume and open interest; and (3) Monthly reporting of deliveries against 

the futures contract. 

NYMEX futures contracts trade by open outcry on the Exchange floor during the 

day and during the evening on NYMEX ACCESSsm, our after-hours electronic trading platform. Transactions are executed in a transparent and competitive environment between NYMEX members who are registered futures industry professionals. 

The daily settlement price for each contract is calculated pursuant to Exchange 

rules, which generally is the average price for all outright transactions during the 

closing range. 

NYMEX energy futures markets are highly liquid and transparent, representing 

the views and expectations of a wide variety of participants from every sector of the 

energy marketplace. Customers from around the globe can call into a broker on the 

NYMEX trading floor to place buy and sell orders. On behalf of the customers, buyVerDate 0ct 09 2002 09:40 Jan 26, 2006 Jkt 109235 PO 25575 Frm 00153 Fmt 6601 Sfmt 6621 P:\DOCS\25575.TXT SENERGY2 PsN: PAULM
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ers announce their bids and sellers announce offers. The price agreed upon for sale 

of any futures contract trade is immediately transmitted to the Exchange’s electronic price reporting system and to the news wires and information vendors who 

inform the world of accurate futures prices. 

Price signals are the most efficient transmitters of economic information, telling 

us when supplies are short or in surplus, when demand is robust or wanting, or 

when we should take notice of longer-term trends. NYMEX futures markets are the 

messengers carrying this information from the energy industry to the public. The 

wide dissemination of futures prices generates competition in the establishment of 

current cash values for commodities. 

GASOLINE

Gasoline is the largest single volume refined product by volume sold in the United 

States and accounts for almost half of national oil consumption. It is a highly diverse market, with hundreds of wholesale distributors and thousands of retail outlets, often making it subject to intense competition and price volatility. 

NYMEX trades, among other things, New York Harbor leaded and unleaded regular gasoline futures contracts. The New York harbor gasoline futures contract 

trades in units of 42,000 gallons (1,000 barrels). It is based on delivery of petroleum 

products to terminals in the New York harbor, the major East Coast trading center 

for imports and domestic shipments, from refineries in the New York harbor area 

or from the Gulf Coast refining centers. 

Average daily trading volume in these contracts has hit record levels in recent 

months and prices have been volatile. These market conditions reflect the basic 

market fundamentals where there is an imbalance of supply and demand. Tight gasoline supplies due to lack of refinery capacity, compounded by the impact of hurricane Katrina, which resulted in the closing of 9 refineries, has driven prices upward 

dramatically in the cash and futures market. 

The importance of the Gulf Coast refineries as a key supply source for the New 

York Harbor via Colonial Pipeline directly impacts the physical gasoline market and 

the futures gasoline market. During the one-week period prior to hurricane Katrina, 

the cash market price for Gulf Coast gasoline averaged $1.82 per gallon (using the 

Platts wholesale assessment at the Colonial Pipeline), which was $.08 per gallon 

lower than the weekly average NYMEX futures settlement price. After the supply 

disruption due to hurricane Katrina, the Gulf Coast gasoline cash market rose more 

than one dollar to $2.84 per gallon for the daily average on August 30 (one day after 

the storm), $.37 higher than the NYMEX futures settlement price on August 30. 

This differential between the cash and futures prices represents the free market 

price that is derived in light of the extreme supply disruption and reflects a new 

equilibrium in the marketplace in response to the shock to the demand and supply 

balance. 

NYMEX has closely monitored the gasoline futures market during this recent period of price increases in the aftermath of hurricane Katrina and has initially concluded that the market behaved rationally and the market participants acted responsibly in their futures and options trading. 

SURVEILLANCE

Hurricane Katrina has had a devastating economic impact. Nine refineries in the 

Gulf of Mexico have been damaged beyond immediate repair and critical petroleum 

supplies have been lost. Prior to Hurricane Katrina, the U.S. refineries had already 

been running at maximum capacity for years, struggling to keep up with rising gasoline demand. This huge natural disaster in a key refining region only further exacerbated an already growing problem. 

The NYMEX Market Surveillance staff routinely follows trends in the cash markets, focusing on whether the futures markets are converging with the spot physical 

market as the NYMEX contract nears expiration. In light of the market uncertainties that resulted from hurricane Katrina, the NYMEX staff also monitored the supply and demand fundamentals in the underlying cash market to ensure that 

NYMEX prices reflect cash market price movements, that there are no price distortions and no market manipulation. 

After analyzing events and developments over the past week, NYMEX staff believes that price increases experienced were due to fundamental market factors tied 

to supply disruptions in the wake of hurricane Katrina. The NYMEX system worked 

according to design, and added a level of economic stability to the situation by providing a viable price discovery and risk management forum. 

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SPECULATORS

It is widely, yet inaccurately, theorized that speculators can drive prices up. Placing blame on speculators may grab the attention of the media, but does not accurately reflect the realities of how markets work. With hundreds of commercial participants and instantaneous price dissemination, any ‘‘speculative’’ price would be 

met with an equally strong ‘‘commercial’’ reaction. If markets move in a direction 

inconsistent with actual market factors, there is a vast number of participants including energy producers, wholesalers, retailers, and government agencies that have 

comparable access to information. These participants will respond to ensure that 

prices rapidly return to where the industry consensus believes they should be. 

Speculators do exist and they actually play a valuable, even necessary role in the 

market. They add liquidity to the market and enable commercial traders to get in 

and out of the market when necessary. By the nature of their role, speculative traders seek to take advantage of price trends, but because they lack the real product 

to back up their investment, they cannot control the price. They create virtually no 

impact on daily settlement prices, the primary benchmark used by the marketplace. 

The Exchange has been scrutinized in the past on the role of hedge fund participation in causing market volatility. The effects of hurricane Katrina further emphasize the minimal impact hedge funds and speculators have on futures prices when 

compared to the real impacts of true market factors. hurricane Katrina is a natural 

disaster that severely disrupted the U.S. supply system and in effect drove prices 

higher. 

Hedge funds do not account for anywhere near enough volume to affect prices. According to a NYMEX study on the participation of hedge funds in the energy markets over a one year period beginning in January 2004, hedge funds only accounted 

for 4.6% of overall futures volume. Of this total, the crude oil futures market had 

3.07% hedge fund participation and, its products, heating oil and unleaded gasoline, 

had 3.62% and 3.26% hedge fund participation, respectively. 

MARKET IMPACT OF KATRINA

NYMEX directly felt the disruptive effects of Katrina in our energy futures markets. The Exchange experienced several unprecedented market events in the aftermath of Katrina. Significant price moves occurred in the energy complex on Sunday 

evening during the NYMEX ACCESSsm trading session which commenced at 7:00 

PM. During this session (which is effectively the commencement of the Monday 

business day) gasoline moved upward due to severe concerns around the immediate 

and longer term effect to refineries in Louisiana, as well as pipeline distribution systems in the region. 

During regular trading hours on Tuesday, August 30, the September 2005 unleaded gasoline contract traded to its maximum upward price limit, resulting in a 

temporary trading halt. Exchange rules impose a price fluctuation limit of $0.25 per 

gallon of unleaded gasoline above or below the previous day’s settlement price. 

When that limit is hit, a five minute temporary trading halt is triggered. This limit 

was reached last Tuesday when the September 2005 contract traded at $2.31. In accordance with NYMEX Rules, the market was halted at 11:15 AM and re-opened 

after 5-minutes with an expanded limit of $0.50 cents above the previous day’s settlement. 

In response to the price volatility, NYMEX increased margins on several occasions 

for a variety of the energy futures contracts, including gasoline and crude oil. Margin is the money or collateral deposited with the clearinghouse to protect the clearinghouse against loss on open futures or options positions. In all cases, NYMEX required additional margin to maintain the integrity of the clearinghouse. Margin is 

vital to ensuring the financial integrity of the Exchange and provides the clearinghouse with the ability to protect customers against counterparty credit risk. On August 30, 2005, NYMEX managed and cleared the greatest single intra-day variation 

margin call scenario, when it moved nearly $2 Billion. 

During the August 30 trading session, NYMEX set daily volume records for overall Exchange volume and for gasoline and crude oil futures, as well as for the Exchanges electronic clearing platform NYMEX Clearportsm. The following day, August 

31, Exchange-wide options, NYMEX Division options, and NYMEX ClearPortsm

clearing once again reached record volumes. These record volume numbers, clearly 

reflect NYMEX’s importance as a transparent trading forum where customers can 

effectively manage their price risk. It is precisely during such times of market volatility and uncertainty that the Exchange’s vital role in facilitating price discovery 

and risk management is most crucial to our customers. 

During the entire week following hurricane Katrina, NYMEX Compliance and 

CFTC officials have had a heightened presence on the trading floor overseeing all 

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markets. All activity has been thoroughly reviewed utilizing all available electronic 

tools to detect any abusive activities. 

CONCLUSION

At all times during this period of extreme uncertainty in the market, NYMEX has 

been the source for transparent prices in the energy markets. Our price reporting 

systems to the world’s vendors have worked flawlessly and without delay. Our trading systems during regular trading hours and during after hours trading on our 

electronic platforms have performed flawlessly. 

Even though as consumers we may not like the result, the NYMEX marketplace 

performed its responsibility to create open, competitive and transparent energy pricing. We can only imagine the market uncertainty and further devastation to consumers if NYMEX were unable to perform its duty and prices were determined behind closed doors. 

I thank you for the opportunity to share the viewpoint of the New York Mercantile Exchange with you today.

Æ