Market power analysis for oil pipelines facing excess demand

The Federal Energy Regulatory Commission may grant market-based rates to oil pipelines in the U.S. upon a showing that they lack market power. The Commission defines market power as the ability to profitably increase price above the competitive level for a significant period. Because comparing tariffs alone is generally meaningless for identifying good transportation alternatives, the Commission tends to rely on netback price and delivered price analyses to evaluate market power. When the applicant's tariff is a poor proxy for the competitive tariff, as evidenced by significant excess demand, using the tariff biases the analysis in favor of finding market power, a reverse cellophane trap. Estimating the competitive tariff to avoid this bias is complicated by the spatial aspect of transportation. This paper suggests several ways to estimate the competitive tariff based on netback and delivered prices, or based on estimated cost, and provides an example.

► We examine market power analysis for regulated U.S. oil pipelines. ► Regulation distorts analysis if tariffs are significantly below competitive levels. ► This reverse cellophane trap biases analysis in favor of finding market power. ► We suggest several ways to estimate the competitive tariff to avoid this bias.