Mittopia

How gas prices got to be near $4 a gallon
16 commentsby John Porretto and John Wilen - May. 24, 2008 12:00 AM
Associated Press
You think you feel helpless at the gas pump?

Even the people who sell the gasoline have little control over what it costs. So, how exactly are prices set? What determines the hair-pulling figure you see displayed in large electronic or plastic numbers?

It all starts with oil.
The biggest factor in the skyrocketing price of gasoline is the historic ascent of crude oil, which has surged from $45 per barrel in 2004 to more than $135 this past week. Gasoline in Phoenix averaged $3.69 a gallon Friday, and AAA Arizona experts predict that instead of falling like normal after the holiday weekend, prices will continue to rise across the state. In the first quarter of this year, based on a retail price of gasoline that now seems like a steal, $3.11 a gallon, crude oil accounted for all but about a dollar, or 70 percent, of the cost, according to the federal government.

The rest is a complex mix of factors, from the cost of turning oil into gasoline to taxes to marketing costs to, sometimes, nothing more than the competitive whims of local station owners.

Not that understanding the breakdown makes it any less cringe-inducing to fill ‘er up.

The price of oil

The knee-jerk villains in all this are the oil companies, fat with multibillion-dollar profits, frequent targets of populist anger. But wait: The oil companies don’t set the price of oil or the cost of a gallon of gasoline.

Prices are a function of the open market, the result of futures contracts being traded on the New York Mercantile Exchange, or Nymex, and other exchanges around the world.

Buying the current July crude-oil futures contract means you’re buying oil that will be delivered by the end of July. Most investors who trade futures have no intention of ever accepting the underlying oil. Like stock investors who frequently buy and sell their holdings, they’re simply betting that prices will rise or fall.

Of late, on the Nymex, oil futures have been rising.

The falling dollar

Why? Blame the falling dollar. Oil is priced in U.S. dollars, and the weaker the dollar gets, the more attractive dollar-denominated oil contracts are to foreign investors - or any investor looking for a haven in the turbulent stock market.

The rush of buyers keeps pushing oil futures to a series of records, and the rest of the energy complex, including gasoline futures, has followed. That pushes up the price of gasoline for your tank.

Evidence exists that Americans are buying less as the price marches higher, and common sense suggests they would cut back even more if the price rose to $4.50 or $5.

Lower demand should mean lower prices, but it takes time for that to happen, given the enormous scale of refining operations that produce gasoline.

“Once demand begins to slow, that needs to translate into inventories, then you get some price weakening,” said Jim Ritterbusch, president of energy consultancy Ritterbusch and Associates in Galena, Ill. “But it takes awhile.”

Oil and gasoline prices often move in the same direction, but they aren’t linked directly. In fact, although oil prices have more than doubled in the past year, gasoline is only up about 19 percent during the same time.

Oil prices often fluctuate with production decisions from the Organization of Petroleum Exporting Countries, which supplies about 40 percent of the world’s crude, or when conflict in the Middle East or Nigeria threatens supplies.

And the rise has only grown more dramatic. Oil sprinted higher this past week, rising more than $4 a barrel on Wednesday alone and past $135 on Thursday.

As for gasoline prices: They’re closely tied to demand from U.S. drivers and how efficiently refineries are operating. Falling production or inventories often send prices skyrocketing.

Those prices can vary greatly depending on the region.

The Gulf Coast is the source of about half of the gasoline produced in the United States, and areas farthest from there tend to have higher prices because of the cost of shipping fuel via pipeline and tanker truck all across the country.

Add higher taxes in places like California and New York, and the price goes higher.

Oil companies insist their earnings, measured against revenue, are in line with other industries’.

On top of that, rising oil prices have sharply cut profit margins for refining, and that hits the major oil companies, which both pump oil and refine it for use as gasoline.

A giant like Exxon Mobil can handle the blow.

Its profits from refining and marketing for the first quarter were down 39 percent from a year earlier, but Exxon still banked a nearly $11 billion profit because of the hefty prices earned on crude it pumped out of the ground.

Smaller refiners aren’t so fortunate. Sunoco Inc.’s refining-and-supply business lost $123 million in the first quarter, hurt by lower margins. Tesoro Corp. lost $82 million for the same period.

In any case, huge profits at big oil companies like Chevron and Exxon Mobil aren’t because of high prices at the pump. Their enormous profits are tied to their exploration and production arms, which are benefiting from record crude prices.

Other costs are a factor, though they’ve remained relatively stable.

For example, federal and state taxes added 40 cents to a gallon of gasoline in the first three months of this year, roughly the same amount as they added four years ago.

California’s 63.9 cents of tax is the nation’s highest; Alaska’s 26.4 cents is the lowest. How the money is used varies from state to state, though the federal take helps build and maintain highways and bridges.

Marketing and distribution costs, the tab for delivering gasoline from refiner to retailer, started the year at 27 cents, only 6 cents above the cost four years ago.

The cost of refining added 27 cents to a gallon in the first quarter of this year, a nickel less than what it added in 2004, according to the Energy Information Administration.

That refining occurs at sprawling industrial complexes across the United States, with most of the biggest along the Gulf Coast. Barrels of crude arrive each day by pipeline, ship and barge. The refineries, by heating, treating and blending the raw oil, turn out products like diesel and lubricating oil.

And, of course, gasoline.

To the pump

What happens when that gasoline makes its way to your neighborhood station?

Major oil companies own fewer than 5 percent of gas stations. Most are owned by small retailers, and many of them say they’re struggling these days to turn a profit. That’s because wholesale gasoline prices have risen sharply in recent months - again, blame it on crude - but station owners have been unable to raise pump prices fast enough to keep pace.

You can’t keep jacking up the price when drivers are buying less.

Station owners face a balancing act: They must try to maintain a price that allows them to afford the next shipment of gasoline but not give the competition an edge.

Stations pay tens of thousands of dollars for each shipment before they see a cent in the register. Eventually, many make only a few cents on a gallon of gasoline, a margin that can disappear altogether when credit-card fees are added.

Most gasoline retailers long ago got past any illusion that they can make money by selling gasoline. They rely on gas sales to drive traffic to their shops, where they hope auto repairs or food-and-drink sales will help them turn a profit.

Thank goodness for beef jerky and sodas.

Just wanted to add my 2 cents.

I deal with a oil refiner in Florida - ADM - They make additives to the gas we drive. Reformulated gas. I asked him about is view on the gas problem.

He said that the reformulated gas we use add additional cost to the gas. He said each state has its own formula. The formulas were designed to work with the environment they are used in. He said that it would be cheaper if there was a formula for everyone. Formulated gas is used during summer months when driving goes up and smog levels increase.

We have done this to ourselves. Saving our planet has caused some of these problems. Unable to get the oil that is already in the ground and the ability to refine it is another problem.

save those polar bears!

Now, if the US government and the Democrats like Ms. Waters were truly interested in erasing the oil companies’ record profits and helping the American consumers, then they would be doing everything they could to increase oil and gasoline production so as to saturate the market. The price of oil and gasoline would then drop through the floor. Remember when oil was $8 a barrel and gasoline was a mere $.95? Oil companies were merging left and right because they couldn’t stay in business on their own and the price of gas wasn’t on the American people’s radar. If punishing the oil companies is truly what Democrats like Maxine Waters really want to do, then they would glut the market. They would change the law so that the supply of oil and gasoline vastly outpaced demand and oil and gas prices dropped.

But they won’t do that because they don’t care about the American consumers. They don’t want the American people using more oil or gasoline. They want the American people to hurt at the pump so they don’t drive as much. Why? Because Democrats actually think the America people are the problem in all of this to begin with.
The oil executive’s answer?: We’ve heard this before, its called Hugo Chavez.

I believe you’re missing a “don’t” in the statement below. I don’t know about you, but if refining capacity were actually an issue gas would be $7 a gallon and you’d pull up to a pump and it would be empty.

Paul Krugman has argued that the refineries (don’t) run flat out during the summer driving season, so there’s no excess supply on the market.

Actually, it is a problem. Do your research. Sorry, I didn’t use the word “don’t” but I am busy to proof my work.

Reformulated gas is a big part of the problem. Actually, you don’t understand your economics either.

If demand is such that the refiners cannot refine fast enough then the supply and demand rules come into affect. As a commodity because more scarce the price goes up. Hence, to much suppy to refinery without refining capacity results into to much surplus and not enough gas. Gas prices go up. People drive when prices go up.

No Refinary runs at 100% because they are doing maintenance on their process constantly. You have to take down refining lines to service. If you ran everything at 100% and then had to shut down 20% of production to service you wouldn’t be at 100%. Trust me on this…. You don’t want to run at 100% without servicing your plant. If you do this things like explosions happen. So Paul Krugman is right but he forgot to tell you about what the 100% means.

There is so much f n gas in this world. The problem is we have the don’t drill in my backyard attitude. Just like wind energy. Everyone loves it but when someone wants to put up a wind farm they say it is going to kill birds and destroy my view. Cannot have it both ways.

Also, if consumption goes up year to year and we don’t add a refinary since the 70s don’t you think there is a refinary problem. You cannot tell me that 70s refining capacity could handle todays.

This is why I moved out of NEW ENGLAND. To many f n tree huggers. I’m casting my vote for anyone who wants to shoot holes and the ground and let the oil flow out. I would drink oil and bath in it in my backyard if I had some and if it wouldn’t kill me.

Americans want our gas. We love it. Give me more NUKE POWER, GAS, COAL and whatever else pisses off tree hugers. Notice that anything that has a potential of producing lots of cheap energy is opposed by Tree Huggers.

But shit, I’m just a redneck!

A couple of thoughts. There are so many interesting points being made here, I don’t think I can respond to them all.

1) The article is about tax cut pandering: Before getting into the economics of fuel production/acquisition, the primary purpose of the article quoted was to point out that making cuts in the federal fuel tax rate will not have the intended effect, and are in fact simple pandering. I also think that we can agree this is the case.

2) Fuel mixes in each state are different, and create regional supply issues: This is totally true. There are no federal standards for fuel mixing. Each state is different, with the most smog effected states tending to have the most stringent requirements. These do indeed create summer supply issues, and can result in price changes.

3) Limited world supplies combined with dollar pricing cause price increases: I think this is also fairly true. While leaders of the west would like to think they can simply request that oil prodcuing states increase production, there simply isn’t a lot of production to increase. Emerging countries are competing for limited supplies that normally would be going to US consumers. Limited supplies mean rising prices.

4) Drilling in “My Backyard” is not an immediate solution: As much as conservatives would like to believe that we can simply start digging into Canadian Oil Sands (which might now be cost effective) or open up Alaskan drilling, those are not immediate fixes. To build the infrastructure required bring these new fields online will take a minimum of 10 years, if not more. That’s 10 years of increasing demand and flat supply. Prices will only continue to go up.

5) Oil Company Haters: I think a lot of people are frustrated with the oil companies for their large profits. But I think most of them are for the wrong reasons. I have no problem with the large profits, after all, they are, like any business, a margin business. When prices go up, so do the profits. The problems come in the form of tax breaks and subsidies.

First a little economics lesson. Inflation indexes specifically exempt food and energy prices because of their volatility. From this volatility it is often necessary to subsidize those sectors (to dampen out the volatility by putting some certainty back in the pricing, ensuring some incentive to produce.) This is great when prices are low, but means that when prices are high, we are increasing the windfall.

This is where taxes come in, and there in lies the problem. During lean times, tax breaks make sense. Again, we encourage production. But in rich times, the taxes are necessary to recoup subsidies and previous tax breaks. And herein lies the problem, US Oil companies have gamed the system for low taxes and high subsidies during “rich” times. This is bad bad bad. The investment of the government in energy and food infrastructure can not be recouped because we maintain breaks during rich times.
The BLM can’t even seem to collect the proper fees for land leases (most oil is drawn from government owned property via mineral leases).

6) America is Addicted to Oil: This is so obivous I shouldn’t even need to call it out. We squandered our 1970’s opportunity to invest heavily in alternate power systems during the last oil price crisis. Supply and distribution are far more efficient today, but that isn’t enough. Cheap energy has driven the American Economic engine, but poor planning means that we are unprepared for the end of boom times now.

7) More Oil Fields are simply not the answer: I know it seems like just building a new oil field might solve the problem, but consider this. The largest estimated untapped Alaskan Oil Reserve is approximately 10 Billion Barrels (scattered throughout Alaska), with the largest single field being around 1.4 billion barrels. It would take between 7-12 years just to bring initial production online, with peak production coming 3 - 4 years after that.

Doing the math, it would take around 20 years to kick the fields to a maximum production level. And how much oil will it produce? 1.9 Million Barrels Per Day (mbpd). The cost of the pipeline alone to get the oil from the fields is estimated at $20 billion.

Now, lets compare this to what we do today. Estimated daily fuel consumption of US Cars is around 400 Million Gallons Per Day, at an average rate of consumption of 22.4 mpg. Now, a 19.2 gallons of gas is produced from 1 barrel of oil. This means average US VEHICLE CONSUMPTION is approximately 20.83 MBPD.

Now compare this to the largest single oil field in the world, the Ghawar field in Saudi Arabia. That field produces 5.6 MBPD (and has maxed out production).

What do these number suggest. When we look at US Oil imports, the US Imports approximately 62% of it’s oil, and alaskan production is estimated to reduce that to 60% if brought online. That 2% means that total US Oil Consumption is around 95 mbpd, of which 22% is spent onf cars. Basically, 2% is nothing in your gas tank.

Now compare it to something else, like say fuel economy standards. Up the mpg to 30 mpg average, and what do you get. Using the numbers above you get a daily savings of 5.27 mbpd of reduced daily vehicle consumption. THATS MORE THAN 2 ALASKA’S WORTH OF OIL!!!!!!

So, which is better, billions for a new field, or hundreds of millions for new cars. You do the math, but if you come out with more oil fields is the answer, you need to check your algebra again.

I’m going to be a sexist pig. No, drilling more oil doesn’t solve the problem but it has been said that drilling would lower future oil prices.

there should be a 3 stool aproach. Drill for oil/refineries, alternative fuels and conservation. Conservation should not be done to hurt industry or how we currently live. Make things better. And of course if they are going to make an energy saver diswasher for christ sakes, make sure it cleans?

Alternative Fuels like NUKE Plants are long term. Face it, there is no short term solution. But these alternative energy supplies have to be better than solar panels and wind energy.

Mitty, you know about nuclear power. It is clean and it is safe. yes there is a bad thing called spent rods. But we can store it safely. We have places called Deserts. And for all you tree huggers. The spotted rat turtle lizard in Arizona can die for all I care. BRING ON THE THREE EYED FISH.