Wednesday, May 7, 2008

"I Drink Your Milkshake"

I recently re-watched There Will Be Blood on DVD the other evening, and I made notes to myself about what appear to be the religious images and themes in the movie. I have this idea about the threads of oil, water, and blood throughout the movie, and I’ve wanted to write a post about them, but I haven’t been able to get the ideas to gel. (It is an interesting exercise to watch the movie with a Christian view of “water”, and to see the contrasting developments of such symbolism as depicted by “water” itself versus “oil”).

The surprising thing is that I am actually posting today not on the religious elements of the movie but rather on a straightforward microeconomics message: the famous “I Drink Your Milkshake” scene. (Warning: if you really haven’t watched or heard of this scene and don’t wanted to be spoiled, read no further). In this scene, Plainview is explaining drainage drilling to Eli. In brief, drainage drilling occurs because there are often many people with legal property rights (tied to surface land titles) to extract oil from a given field. In other words, underground oil fields do not respect the lines that we draw on the surface of the land as to who has what are called the “mineral rights.” Mineral rights owners with disjoint land title can be producing oil from the same production zone.

The difference between the geological reality and the surface mineral rights was exacerbated by early court decisions that applied the Anglo-Saxon common law “Rule of Capture” (originally developed for things like rabbits that run across land boundaries) to mineral rights. Essentially, what rabbits you capture or kill on your own property are yours. When applied to oil drilling, this meant that whatever oil you could get from a well on your own mineral right belonged to you, regardless of whether it actually came from “underneath” your property. This created a form of poorly defined property rights known as the “common pool” problem. If you have legal right to oil only by virtue of taking it out of a well on your mineral right, then no one person owns the right to the entire field. There is an economic incentive for me to get oil out from under the ground (where nobody owns it) into a storage tank on my property (where I own it). In other words, you want to drink milkshake out of your straw as fast as you can, lest Plainview drink it first. The result is an over-investment in drilling expenses and, it is sometimes argued, damage to the total amount of oil that can be recovered. If you have ever seen pictures of early oil fields in Oklahoma City or California (image above from Wikipedia) with a forest of drilling derricks, this is what is going on.

The solution to the common pool problem, short of a radical change in the common law, is called “unitization” which is an agreement to operate the field as though it was owned by a single person. The proceeds are then split according a bargaining agreement. Some unitization agreements came about voluntarily; in some states (Oklahoma, for example), state governments enacted laws to facilitate non-voluntary unitization. Interested readers can check out Gary Libecap’s survey article on unitization.

By the way, according to, P.T. Anderson did not invent the milkshake story: he found it while doing research into Congressional testimony by some of the real figures in the era covered by the movie.

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