Many firms of varying sizes make up the U.S. petroleum industry. While some firms engage in only limited activities within the industry, such as exploration for and production of crude oil and natural gas or refining crude oil and marketing petroleum products, fully vertically integrated oil companies participate in all aspects of the industry. Before the 1970s, major oil companies that were fully vertically integrated controlled the global network for supplying, pricing, and marketing crude oil. However, the structure of the world crude oil market has dramatically changed as a result of such factors as the nationalization of oil fields by oil-producing countries, the emergence of independent oil companies, and the evolution of futures and spot markets in the 1970s and 1980s. Since U.S. oil prices were deregulated in 1981, the price paid for crude oil in the United Stated has been largely determined in the world oil market, which is mostly influenced by global factors, especially supply decisions of the Organization of Petroleum Exporting Countries (OPEC) and world economic and political conditions. The United States currently imports over 60 percent of its crude oil supply. In contrast, the bulk of the gasoline used in the United States is produced domestically. In 2001, for example, gasoline refined in the United States accounted for over 90 percent of the total domestic gasoline consumption. Companies that supply gasoline to U.S. markets also post the domestic gasoline prices. Historically, the domestic petroleum market has been divided into five regions: the East Coast region, the Midwest region, the Gulf Coast region, the Rocky Mountain region, and the West Coast region. (See fig. 1.) These regions are known as Petroleum Administration for Defense Districts (PADDs). Proposed mergers in all industries, including the petroleum industry, are generally reviewed by federal antitrust authorities—including the Federal Trade Commission (FTC) and the Department of Justice (DOJ)—to assess the potential impact on market competition. According to FTC officials, FTC generally reviews proposed mergers involving the petroleum industry because of the agency’s expertise in that industry. FTC analyzes these mergers to determine if they would likely diminish competition in the relevant markets and result in harm, such as increased prices. To determine the potential effect of a merger on market competition, FTC evaluates how the merger would change the level of market concentration, among other things. Conceptually, the higher the concentration, the less competitive the market is and the more likely that firms can exert control over prices. The ability to maintain prices above competitive levels for a significant period of time is known as market power. According to the merger guidelines jointly issued by DOJ and FTC, market concentration as measured by HHI is ranked into three separate categories: a market with an HHI under 1,000 is considered to be unconcentrated; if HHI is between 1,000 and 1,800 the market is considered moderately concentrated; and if HHI is above 1,800, the market is considered highly concentrated. While concentration is an important aspect of market structure—the underlying economic and technical characteristics of an industry—other aspects of market structure that may be affected by mergers also play an important role in determining the level of competition in a market. These aspects include barriers to entry, which are market conditions that provide established sellers an advantage over potential new entrants in an industry, and vertical integration. Over 2,600 merger transactions occurred from 1991 through 2000 involving all three segments of the U.S. petroleum industry. Almost 85 percent of the mergers occurred in the upstream segment (exploration and production), while the downstream segment (refining and marketing of petroleum) accounted for about 13 percent, and the midstream segment (transportation) accounted for over 2 percent. The vast majority of the mergers—about 80 percent—involved one company’s purchase of a segment or asset of another company, while about 20 percent involved the acquisition of a company’s total assets by another so that the two became one company. Most of the mergers occurred in the second half of the decade, including those involving large partially or fully vertically integrated companies. Petroleum industry officials and experts we contacted cited several reasons for the industry’s wave of mergers in the 1990s, including achieving synergies, increasing growth and diversifying assets, and reducing costs. Economic literature indicates that enhancing market power is also sometimes a motive for mergers. Ultimately, these reasons mostly relate to companies’ desire to maximize profit or stock values. Mergers in the 1990s contributed to increases in market concentration in the downstream (refining and marketing) segment of the U.S. petroleum industry, while the upstream segment experienced little change. Overall, the refining market experienced increasing levels of market concentration (based on refinery capacity) in all five PADDs during the 1990s, especially during the latter part of the decade, but the levels as well as the changes of concentration varied geographically. In PADD I—the East Coast—the HHI for the refining market increased from 1136 in 1990 to 1819 in 2000, an increase of 683 (see fig. 2). Consequently, this market went from moderately concentrated to highly concentrated. Compared to other U.S. PADDs, a greater share of the gasoline consumed in PADD I comes from other supply sources—mostly from PADD III and imports—than within the PADD. Consequently, some industry officials and experts believe that the competitive impact of increased refiner concentration within the PADD could be mitigated. For PADD II (the Midwest), the refinery market concentration increased from 699 to 980 —an increase of 281—between 1990 and 2000. However, as figure 3 shows, this PADD’s refining market remained unconcentrated at the end of the decade. According to EIA’s data, as of 2001, the quantity of gasoline refined in PADD II was slightly less than the quantity consumed within the PADD. The refining market in PADD III (the Gulf Coast), like PADD II, was unconcentrated as of the end of 2000, although its HHI increased by 170— from 534 in 1990 to 704 in 2000 (see fig. 4). According to EIA’s data, much more gasoline is refined in PADD III than is consumed within the PADD, making PADD III the largest net exporter of gasoline to other parts of the United States. The HHI for the refining market in PADD IV—the Rocky Mountain region—where gasoline production and consumption are almost balanced—increased by 95 between 1990 and 2000. This increase changed the PADD’s refining market from 1029 in 1990 to 1124 in 2000, within the moderate level of market concentration (see fig. 5). The refining market’s HHI for PADD V—the West Coast—increased from 937 to 1267, an increase of 330, between 1990 and 2000 and changed the West Coast refining market, which produces most of the gasoline it consumes, from unconcentrated to moderately concentrated by the end of the decade (see fig. 6). We estimated a high and statistically significant degree of correlation between merger activity and the HHIs for refining in PADDs I, II, and V for 1991 through 2000. Specifically, the corresponding correlation numbers are 91 percent for PADD V (West Coast), 93 percent for PADD II (Midwest), and 80 percent for PADD I (East Coast). While mergers were positively correlated with refining HHIs in PADDs III and IV—the Gulf Coast and the Rocky Mountains—the estimated correlations were not statistically significant. In wholesale gasoline markets, market concentration increased broadly throughout the United States between 1994 and 2002. Specifically, we found that 46 states and the District of Columbia had moderately or highly concentrated markets by 2002, compared to 27 in 1994. Evidence from various sources indicates that, in addition to increasing market concentration, mergers also contributed to changes in other aspects of market structure in the U.S. petroleum industry that affect competition—specifically, vertical integration and barriers to entry. However, we could not quantify the extent of these changes because of a lack of relevant data. Vertical integration can conceptually have both pro- and anticompetitive effects. Based on anecdotal evidence and economic analyses by some industry experts, we determined that a number of mergers that have occurred since the 1990s have led to greater vertical integration in the U.S. petroleum industry, especially in the refining and marketing segment. For example, we identified eight mergers that occurred between 1995 and 2001 that might have enhanced the degree of vertical integration, particularly in the downstream segment. Concerning barriers to entry, our interviews with petroleum industry officials and experts provide evidence that mergers had some impact on the U.S. petroleum industry. Barriers to entry could have implications for market competition because companies that operate in concentrated industries with high barriers to entry are more likely to possess market power. Industry officials pointed out that large capital requirements and environmental regulations constitute barriers for potential new entrants into the U.S. refining business. For example, the officials indicated that a typical refinery could cost billions of dollars to build and that it may be difficult to obtain the necessary permits from the relevant state or local authorities. According to some petroleum industry officials that we interviewed, gasoline marketing in the United States has changed in two major ways since the 1990s. First, the availability of unbranded gasoline has decreased, partly due to mergers. Officials noted that unbranded gasoline is generally priced lower than branded. They generally attributed the decreased availability of unbranded gasoline to one or more of the following factors: There are now fewer independent refiners, who typically supply mostly unbranded gasoline. These refiners have been acquired by branded companies, have grown large enough to be considered a brand, or have simply closed down. Partially or fully vertically integrated oil companies have sold or mothballed some refineries.