Final answer:
A guaranteed minimum price for natural gas, such as the one proposed in the bill by the U.S. Senate for an Alaskan pipeline, sets a price floor that can lead to higher prices, reduced demand, and increased supply. Unintended consequences might include a surplus of natural gas, inefficient drilling, and resource misallocation.
Step-by-step explanation:
The pipeline and storage assets are typically underpinned by revenue contracts that are fee-based or have fixed and variable components tied to commodity prices, such as the price of natural gas. In the historical case where the U.S. Senate passed a bill guaranteeing a minimum price for natural gas through a proposed Alaskan pipeline, the intent was to incentivize private firms to invest in drilling and pipeline construction. However, this kind of price control, also known as a price floor, can have several effects based on the demand and supply framework.
Impact on Price, Demand, and Supply
When a price floor is set above the equilibrium price:
- The actual price of natural gas will not fall below the floor, which could be higher than what the market would naturally set.
- The quantity demanded may decrease because the fixed price could discourage potential buyers who are not willing to pay the higher price.
- The quantity supplied might increase, as producers are encouraged by the guaranteed minimum price to produce more natural gas.
Unintended Consequences
Potential unintended consequences include:
- Surplus of natural gas if the quantity supplied exceeds the quantity demanded at the price floor.
- Wasteful increase in drilling activities that may not be economically viable without the subsidy.
- Distortion of market signals leading to inefficient allocation of resources.