Question (5) of the Resolution requests the views of survey
participants on the following issue:
	
     (5)  Whether price inversion has occurred or is
     currently occurring in the distribution of gasoline in
     Hawaii.


     State Government

	AG:  The department stated that it had no data on price
inversions in Hawaii, but offered the following definition:
	
          The term "price inversion" refers to a distortion
     of the pricing structure in a market where the
     manufacturer distributes its product to the retail
     consumer by direct sales and also through an
     intermediate independent distributor.  When the
     manufacturer's price at retail is lower than the
     manufacturer's price to the independent distributor,
     the event is called a "price inversion."  Price
     inversions are not necessarily anticompetitive.  See,
     e.g., Atlantic Richfield Co. v. USA Petroleum Co., 495
     U.S. 328 (1990).289 

     DBEDT:  "We are unaware of this occurring in Hawaii's
gasoline market, but refer you again to the reports of the
Attorney General."290 


     Gasoline Dealers

	HARGD:  "We do not understand the question[].  Is the question
of price in the distribution of gasoline directed at the wholesale
transaction?  What is inversion of price?  Do you mean selling
below cost, offering better prices at company operated stations or
at the jobber price level?"291
	

     Jobbers

     HPMA:  "Not certain if price inversion has occurred in Hawaii."292 

     Aloha Petroleum:  Aloha Petroleum believed that price 
inversion is not occurring on the retail level:

     Assuming the price referred to in this question is
     retail pricing, it is our belief that price inversion
     for the sale of gasoline to the public is not currently
     occurring on the retail level.  However, in the past,
     price inversion has occurred resulting from worldwide
     catastrophies, such as the Exxon Valdez incident and
     the Gulf War.  It is during times like these when
     jobbers such as Aloha, who must rely solely on supply
     contracts, are impacted by the uniqueness of Hawaii's
     location and restricted petroleum resources.293 


     Oil Companies

	Shell:  "Price inversion, as Shell understands the term,
refers to unusual and temporary circumstances in which the price
to jobbers at a supplier's terminal is higher than the delivered
price to the supplier's dealers.  Shell has not experienced these
circumstances in Hawaii."294
	
	BHP:  "Price inversion has not and is not occurring in BHP's
distribution of gasoline in Hawaii."295
	
     Chevron:  According to Chevron, price inversions--temporary
market phenomena occurring in volatile markets--have not
occurred
in Hawaii:

          Chevron distributes gasoline in a number of ways.
     Primarily it sells gasoline to independent dealers who
     operate service stations and in turn sell gasoline to
     motorists.  Chevron also sells to distributors (usually
     called jobbers in the industry) who in turn sell to
     retailers (usually in more outlying as opposed to
     metropolitan areas) and to large commercial and
     industrial consumers.  (Chevron also sells gasoline
     directly to motorists in Hawaii through 3 company-
     operated stations.)

          Typically, Chevron's price to distributors is less
     than its price to dealers.  But the price at each level
     of distribution is set by competition.  In volatile
     markets characterized by very rapid increases in
     prices--such as the conditions which followed Iraq's
     invasion of Kuwait in 1990--distributor prices
     sometimes rise more rapidly than do dealer prices and
     the normal price relationship may flip-flop or
     "invert."

          Such a "price inversion" is a temporary market
     phenomenon caused by different supply/demand forces in
     each market.  When such "price inversions" occur they
     are typically of short duration while the market
     adjusts to the new circumstances.  To the best of
     Chevron's knowledge, such "price inversions" have never
     occurred in Hawaii.296 


     Discussion

     There is insufficient information available to conclude
whether a price inversion has occurred or is presently occurring
in the distribution of gasoline in Hawaii.  The following
discussion focuses on price inversions generally, including
arguments for and against government intervention to prevent or
in response to price inversions.

	As noted by the Attorney General, a "price inversion" is said
to occur when the manufacturer's price at retail is lower than the
manufacturer's price to independent distributors. During a price
inversion, the usual pricing relationship between the three
different wholesale gasoline markets--the spot market, the rack
market, and the dealer tankwagon (DTW) market--becomes
distorted.297  Under normal market conditions, spot market prices,
which are the most volatile, are lower than rack prices, which in
turn are lower than DTW prices, which are generally the most
stable.  However, these price relationships tend to become upset
when unexpected changes occur in supply conditions.  One such
change occurred in August, 1990, following Iraq's invasion of
Kuwait, resulting in the withdrawal of 4,500,000 barrels per day
of crude oil from the world oil market and a sharp rise in crude
oil and products prices on the spot and futures markets, as well
as an increase in wholesale and retail gasoline prices. During
August-September, 1990, and again in March-April, 1991, the normal
ordering of wholesale gasoline prices was reversed as rack prices
(prices paid by jobbers) rose above DTW prices (prices paid by
dealers).298
	
	Advocates of increased regulation contend that price
inversions are caused by the intentional activities of oil
refiners, and that an inversion itself is indicative of an
anticompetitive spirit on the part of the large oil companies.299
In response to the 1990 price inversion following the invasion of
Kuwait, new legislative proposals regulating gasoline distribution
and pricing were introduced in the United States, including those
relating to retail divorcement, open supply, and price control.300
 In particular, independent (unbranded) distributors and open
dealers claimed that rapidly rising wholesale gasoline prices and
the restraints made by major refiners in pricing retail gasoline
placed independents at a disadvantage.  In addition, many
distributors could not pass on these higher costs to consumers due
to the restraints made by some majors in setting retail gasoline
prices at company-operated stations.  Unbranded distributors were
forced to decrease their retail gasoline prices to levels set at
company-operated stations or risk losing business to these and
lessee dealers' stations.301
	
	On the other hand, free market economists generally maintain
that inversions are the result of natural market forces at work,
and reflect the differences in contractual relationships existing
in wholesale gasoline markets in the United States.302  They
maintain that there is no evidence that refiners engaged in price
gouging in 1990,303 and that the price inversion experienced in
that year was a temporary and economically logical price
phenomenon that reflected different rates of adjustment to higher
spot market gasoline prices around the world, which was
historically consistent with previous sharp increases in spot
market prices.304
	
	Moreover, although some distributors did lose money during the
price inversion, the GAO (1993) noted the argument that
independents, who lack contractual obligations and enjoy greater
flexibility in their ability to shop around for the best prices,
must bear the risk of temporary price inversions when unexpected
changes occur in supply conditions.  Unbranded distributors, who
buy at the lowest price from the spot and unbranded rack markets
and therefore normally enjoy the lowest costs, have given up the
protection afforded by a contractual relationship when prices are
more volatile.305  The greater volatility of spot and rack prices
than DTW prices in turn reflects the different degrees of
contractual protection of each:306
	
          [T]he buyer who pays rack prices--particularly,
     unbranded rack prices--has an advantage over the buyer
     who pays DTW prices in that the former can buy from
     multiple suppliers, with the flexibility to vary the
     amount purchased from each.  Under negative market
     shocks, therefore, average rack prices may overshoot
     DTW prices because this flexibility weakens the buyers'
     contractual relationship with individual suppliers.

     The DTW price, however, offers the lessee dealer the
     advantage of having a secure supply and a less volatile
     price under any market condition.  Since the lessee
     dealer usually sells exclusively the supplier's branded
     gasoline, the dealer enjoys a stronger contractual bond
     with the supplier than do buyers who pay rack prices.
     In addition, major refiners depend on their lessee
     dealers to market a large volume of their branded
     retail gasoline.  Thus, refiners have a strong
     incentive to hold down DTW prices relative to other
     wholesale prices during a negative supply shock.

During the 1990 price inversion, the major refiners shielded
their branded distributors and dealers from price increases in
the spot market because of strong contractual ties.307 

		Endnotes	Chapter 8 Table of Contents