By William C Montgomery
May 19, 2008 -
Why is gasoline so damn expensive? The mainstream media has rounded up the usual suspects. They demonize oil companies (for excessive profits), lambaste environmentalists (for blocking domestic drilling and refining), and sock it to speculators (for fear mongering over supply). Simply put, the current crisis is a speculative bubble whose impact to American consumers is exacerbated by domestic economic conditions. I fully expect crude oil will trade below $80 a barrel in the not too distant future. Meanwhile, let’s tackle this one myth at a time.
Oil companies are easy targets for the public’s gas-price-related ire. ExxonMobil recently scooped second on the Fortune 500, with annual earnings of $40.6b. Chevron slipped in at number three, with $18.7b of profit. Surely these under-taxed wicked corporations screwed unwitting customers to amass these ill gotten gains profits.
Here's a politically inconvenient truth: most of the oil companies' profits are the result of volume, not market prices. ExxonMobil, Chevron, et al make in the neighborhood of 10 cents per gallon– whether gasoline costs $1.50 a gallon or four bucks. Big Oil’s making big bucks because there’s record worldwide demand, especially in India and China.
And let’s not forget history. The oil companies we know and despise today are the result of a devastating supply glut during the early ‘90s. That “crisis” pushed these companies to the brink of extinction. Record losses spurred Exxon to merge with Mobil, and Chevron to merge with Texaco. During the same time frame, Conoco and Phillips combined and British Petroleum gobbled up Amoco. The mergers lowered overhead expenses by eliminating redundant exploration and administrative overhead expenses.
The second myth is that supply shortages are sending U.S. pump prices skywards.
While demand is certainly at an all-time high with the emergence of the insurgent Chinese and Indian economies, supply is also plentiful. Have we passed “Peak Oil?” As far as the oil future’s market is concerned, it doesn’t matter. Even the greatest pessimists concede that known reserves will last at least another fifty years. More optimistic (and realistic) estimates stretch hundreds of years hence. Either way, the delivery dates of oil contracts being traded today are days, not decades, from now.
On a more immediate level, fuel shortages are a fiction. I’m not aware of a single gas station that’s unable to refill its fuel tanks or factory unable to obtain required petrochemicals or plastics. To the contrary, in April, U.S. stockpiles grew nearly 12m barrels. Iran is now storing crude in old tanker ships floating in the Persian Gulf because they have run out of space in conventional storage tanks. The world’s positively awash in oil.
How about this one: America needs more refineries; the greenies are blocking our energy independence.
Although no new refinery plants have been built in the U.S. in a generation, there’s no shortage of refining capacity. Oil companies have retooled to improve the refining capacity at existing sites. Currently U.S. refineries are operating at only 85 percent capacity. Go figure.
The corollary to this erroneous supposition: domestic drilling would alleviate high prices.
Should Uncle Sam allow ExxonMobil to tap ANWR? As far as today’s oil prices are concerned, it really doesn’t matter. Even if there were pumps in the protected Alaskan field pumping at full capacity right now, crude oil trading in global markets would continue largely unfazed. If we pumped more, the rest of the world would simply pump less to prevent a glut. OPEC makes these kinds of adjustments every time they meet.
So here’s the truth about high oil and thus gas prices: the pain at the pump is the result of a weakening dollar and strengthening speculation. During the last year the U.S. dollar has fallen 14 percent against the Euro, nine percent against the Chinese Yuan, and 15 percent against the Japanese Yen. In other words, it takes more dollars to buy the same goods on the world market.
The other culprits, speculators, are taking their money out of the falling stock market and collapsing real estate investments and pumping them into the red hot commodities market. Buying oil futures has become intensely popular, driving prices heavenward despite an ample supply of product.
Who are these opportunistic speculators that are causing you so much grief every time you fill up your SUV? You. Most of us have pensions, insurance holdings, or various investment funds in our 401K that hedge losses in the commodities market-– usually without the knowledge of the ultimate beneficiaries, you and me.
Market fundamentals don’t support the current high oil prices. As surely and as predictably as the technology bubble burst after a decade of market excess, world oil prices will come tumbling down, as investor dollars flood back into revitalized stock and real estate markets. When will this occur? That’s the trillion dollar question.
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May 19th, 2008 at 1:25 pm
http://www.businessweek.com/bwdaily/dnflash/content/may2008/db20080513_272469_page_2.htm
Congress is starting to train their sights on the speculator. Just as I predicted, and hoped would happen. Requiring 50% margin is a small step towards getting some badly needed oversight into the Modern Day California Gold Rush that is the oil market. Hopefully other major trading nations follow suit.
May 19th, 2008 at 1:27 pm
Thanks William, I give these same arguments every time someone complains about gas prices, you just said it much better than I can. I often focus on your first point. It is true that the big bad evil oil companies make about 10 cents/gal in profit. The Feds take 18 cents/gal and the states take even more, New York and Pennsylvania top the list at over 31 cents/gal, while the lowest is Georgia at 7.5 cents/gal, the average being about 20 cents/gal. That means that the Feds and the States combined (not counting local taxes) are making 3x the profits of the oil companies.
Also, regarding your point about the evil speculators making money: I always say, that there’s nothing stopping you from being an evil speculator too. Just open an E*Trade margin account, it’s not expensive and they have low minimums, and you can hedge your bets against rising fuel prices (or any other commodity you care about).
May 19th, 2008 at 1:33 pm
It’s great to read a levelheaded editorial on high gas prices. Inflation is the real culprit. What’s inflation? How does a fiat monetary system create inflation? What controls the printing of currency? Good questions…
May 19th, 2008 at 1:37 pm
Let’s hope the prices come down.
I just paid $62.40CAD to fill my Mazda3 with 50L of 87 gasoline (that’s 124.8 cents/liter) in Toronto.
So to be honest, even though I know our federal and provincial taxes make up a significant part of that amount, I’m not quite feeling the agony/despair of Americans filling up their cars and trucks at the moment.
As an aside, truth be told, the US has a very inefficient fleet of vehicles. Please tell me why again you need a V8 in an Econoline van when a small turbo diesel will do just as well?
Too bad we all have to suffer b/c of speculators.
May 19th, 2008 at 1:43 pm
This is one of those articles that needs so much information from other sources, it would be nice to know where you got the information from. Although there is a lot of oil around to extract yet, it seems that it is harder and harder to do so. That, and higher demand world wide, to me indicates that the price wont go down that far, once the speculation is finished… not that it ever ends.
The view from here where I spend the equivalent of $130 to fill up a small hatchback is that a strong euro isn’t enough to match the increase in gas prices. In 2002 as I recall, gas was going for about 1 euro per liter, now it’s going for 1.40.
May 19th, 2008 at 1:51 pm
Congress is starting to train their sights on the speculator. Just as I predicted, and hoped would happen. Requiring 50% margin is a small step towards getting some badly needed oversight into the Modern Day California Gold Rush that is the oil market. Hopefully other major trading nations follow suit.
Unfortunately, congress cannot write law for the rest of the world. With this proposed legislation in place investors will simply transact commodities in unregulated foreign markets. The politicians will pat themselves on the back for doing something that was really nothing.
May 19th, 2008 at 1:58 pm
Well put. When President Bush went to Saudi Arabia to beg for more oil, they told him no. Why, because they rightly said there is no oil shortage, in fact, they could produce another 2 million barrels per day if they wanted to.
May 19th, 2008 at 1:59 pm
The real question is where do you buy your gas that it only cost $67 to fill your SUV. It cost me $57 to fill my Fusion in CT.
May 19th, 2008 at 2:06 pm
I last filled up my Jeep Liberty 5 days ago in Flower Mound, Texas, 17.97 gallons at $3.69 each for a total of $66.47 (good guess, RF). I got 15.6 mpg in mixed city/highway driving.
May 19th, 2008 at 2:11 pm
Follow the money.
The right side of the aisle welcomes more profits for their oil executive buddies, because ultimately this results in more money in their campaign funds.
The left side of the aisle welcomes high gasoline prices because this results in fewer people buying and driving those icky gas guzzling SUVs and trucks. This also clears the way for more intrusive legislation giving the government more power over our daily lives.
It is utter fantasy to think that the US government can fix a problem that they themselves created. I just hope the bottom falls out of the market in time to catch the buzzards with their pants down.
However, it looks like it will be the same situation as the previous bubbles. The fat cats will cash out and leave the little guy holding the bag once again….