This memorandum sets forth some of my personal views, growing out of our discussions concerning the possible relevance to Attorney General�s Compact Report of the system of nationwide barter (e.g. exchanges, reciprocal sales etc.) being utilized by major integrated oil companies throughout the U.S. in conjunction with their jointly and severally controlled pipeline systems.

In the oil industry, as in the case of agriculture, it appears that preservation of viable competition ultimately depends upon the maintenance of some form of constraint upon a vast supply potential which normally overhangs current demand, posing a perennial threat of ruinous price depression to the market.

As compared with agriculture, however, overproduction in the oil industry has always presented a somewhat unique national problem inasmuch as oil, unlike agricultural commodities, is an unreplenishable natural resource that must be prudently husbanded against wasteful physical dissipation as well as improvident economic dumping if it is to continue to meet manifold national economic and security needs of the future.

In the United States, the problem of controlling the potential oversupply of oil has, since the chaotic experience of the 1930�s been approached on two levels: one governmental, the other private � the first having the sanction of law, the second, however, posing serious questions of possible infraction of the law (viz., the antitrust laws).

The first, legally sanctioned type of supply control system, has been instituted by both State and Federal Governments seeking, within the general framework of an open market system, to avoid only the most extreme and destructive forms of economic dislocation. Basically such Government programs have undertaken to strike some rough kind of balance between current national demand and current supply.

In practice, this general balancing has been fostered by a combination of State conservation laws that impose production limitations, and federal laws which restrict foreign imports and regulate interstate shipments of �hot oil� illegally produced in excess of State production ceilings, This complex of Government programs has been quite successful in preventing historic extremes of physical and economic waste of irreplaceable oil resources, as well as the wasteful dissipation of substantial private investment therein.

While Government programs designed to maintain a national parity between crude oil supply and demand have inevitably generated a stabilizing flow [sic floor] under domestic crude prices, such controls should not of themselves necessarily militate toward rigid national or regional prices. This would seem to follow from the fact that such national supply/demand reconciliation is at best but a gross adjustment contingent upon variant pro-rationing policies of industrial oil producing States.

Beyond that, however, within the broad supply limits thus fixed by State and Federal governmental programs, the actual disposition of crude oil still remains determined exclusively by the dynamic interplay of private actions of many different enterprises whose particular geographic and other economic circumstances, and responses thereto, may vary considerably.

Thus, for example, some integrated producer-refiners may own crude resources mainly in States where conservation policies from time to time compel the taking of crude in excess of, or poorly situated with respect to such companies� own refinery requirements These companies would accordingly be confronted with the problem of disposing of (or, to use the industry argot, of �finding a home� for) such crude surpluses. Conversely, other producer-refiners� crude whose producing reserves [are] in States having restrictive production policies, may be faced with making up refiner supply deficits from outside sources.

In short, it seems fairly evident that even within a system of gross, nationally balanced crude supply and demand, given an otherwise unrestricted free and open market, one might still anticipate dynamic price variation to reflect dynamically shifting surplus and deficit positions of particular enterprises engaged therein.

In the face of this, it is to be observed that the prior Attorney General�s Interstate Oil Compact reports have rather consistently called attention to the long-run rigidity of United States crude prices, but have yet to penetrate deeply into what may ultimately prove the root cause of this market condition. 

It is precisely here that the above-suggested second type of supply control mechanism of dubious legality becomes relevant. For within the gross supply/demand equilibrium fostered by State and Federal Government programs, there seems to have grown up over the course of many years a phantom, private mechanism for supply/demand reconciliation which apparently lies completely outside of any State or Federal Government program presently in effect.

This system appears to be the product of widespread private commercial arrangements which, in the aggregate, effect a cooperative, non-price, balancing as between ostensibly competing enterprises, of those recurring surpluses and deficits which are either the result of the uneven impact of State and Federal control programs upon individual enterprise, or else natural concomitants of normal operation.

To put it another way, while State and Federal programs contemplated only a rather �coarse tuning� of national supply/demand imbalance as a stable base for wholesome private price competition in an open market, the dominant integrated industry factors apparently carried this process one step further, to development of an even �finer tuning� of their own private supply/demand imbalances internally among themselves.

This approach presumably evolved with realization that notwithstanding the beneficent [sic] over-all stabilizing effects of Government conservation and import controls, basic crude prices (and, hence, ultimate profits) would still remain highly uncertain so long as naturally recurring company surpluses and deficits were left to the blind caprice of genuine free market.

That the industry�s leading companies, after long period of experiment, may have largely succeeded in liberating their own basic crude supply from the vestigial tyranny of free market, can perhaps be surmised from the fact that notwithstanding the huge volumes that daily change hands between the majors throughout the United States at points well beyond the oil fields and refineries, indications are that very little of this is ever traded among them on a price basis.

Furthermore, it appears that only an insignificant trickle of crude surplus ever finds its way into local �spot� markets, and there only a handful of transactions ever determine spot prices. As a consequence, spot prices (which generally influence posted prices and long-term open-price contracts) have remained relatively frozen, providing the ultimate bulwark of stability to crude prices and profits in the oil industry.

(A combination of two factors explains why crude price has become the keystone of this industry�s profit structure: (1) the basic stabilization and under girding of crude prices fostered by State and Federal Government supply control, and (2) the substantial financial benefits accruing exclusively at the crude production level from liberal tax credits for depletion, depreciation, and foreign crude tax payments.)

The mechanism by which the industry has achieved its finely tuned private equilibrium between supply and demand appears to embrace an elaborate and widespread network of barter transactions which ultimately and substantially involve major integrated oil companies (i.e. after tracing intermediate transfers to and from others).

Although the genesis of this pervasive barter system remains somewhat obscure, preliminary indications are that the economic implications of barter first dawned upon the leaders of the oil industry during the course of their participation in national war emergency programs dating back to World War I.

Thereafter, the practice appears to have received further Federal Government encouragement under NRA pooling programs (subsequently held illegal in the Socony Vacuum case, 310 U.S. 150), and again under World War II, Korean, and Middle East emergency programs.

In mobilizing the oil industry for operation as a single cooperating unit, rather than as separate competitive elements, these national emergency programs inevitably recognized inter-company barter as a most effectual logistical tool for marshalling vast petroleum supplies at critical geographical points of demand, while conserving limited transportation and storage capacity and avoiding needless facility duplication.

While such national emergencies thus provided their own obvious rationale for unitary operation of the oil industry it is equally clear that these premises ceased to have any validity in a free market setting once the Nation had returned to normal conditions. Unfortunately, however, the barter policies and practices generated and developed during this long succession of national emergencies remained so deeply and indelibly ingrained upon this industry as to have by now become endemic and practically institutionalized for lack of challenge.

The exclusive and inherently discriminatory aspect of the system of barter inevitably arises from the fact that the basic unit of exchange hereunder is the barrel of oil (crude or petroleum products) rather than a universally obtainable and freely convertible monetary unit, viz. the dollar, which is acceptable as the medium of exchange in virtually every other area of domestic commercial intercourse.

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