WHY ARE GASOLINE PRICES HIGH AND VARIABLE?

March 27, 2012 § 1 Comment

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Obama and the Pump. The Economist, Web. 17 Mar. 2012.

The Economist recently had a piece which stated that the President could lose the election due to high gasoline prices.  Apparently a high majority of the populace believes that the President has the power to fix it, even if he did not cause it.  About all he really can do is to release oil from the Strategic Petroleum Reserve, and this ought to have an effect for a while.  The last couple of times it made money for the Treasury.

The President did not help himself with the non-decision on the KeystoneXL pipeline.  The primary purpose of this line is to bring heavy Canadian crude down to refineries in the US.  But a key segment would transport oil from the booming Bakken play primarily in North Dakota to Cushing, Oklahoma.  Another portion then takes it down to the refineries in Texas and Louisiana.  Absent this last bit there is a glut of light sweet oil in Cushing.  Incidentally, refiners love light oil unless they have expensive equipment called cokers to process heavy crude.  The reason they love it is because the starting oil has properties closer to that of gasoline and so it is cheaper to refine.  Because of the difficulty in refining heavy oil always sells at a discount and there is more profit in that if you already have the right process equipment.  So the folks with that capability really don’t want the light sweet oil; it costs more and idles some capacity they already paid for.  In this paradoxical situation the “better” oil is less desirable.  This is an overarching theme in refining: the available oil has to fit the blend suited to a given refinery.  We will face this when we reduce imports.  They are not all the same.  Since the new domestic sources are light sweet crude, it makes sense for the first imports to target for reduction to be from Saudi Arabia or Nigeria, both sources of light oil.  Of course, politics could intervene.

The oil stuck in the northern reaches is largely carried by truck and train, an expensive proposition limited by capacity.  This has created a bonanza for refiners in the Mid West.  Since this fluid is sort of stranded, it is not getting the world price, or not even the Gulf of Mexico price.  But the refined product is getting a world price, minus the transport cost of course.  This means the refiners there are getting a low cost feed stock and full market price for the gasoline.  This has created an interesting anomaly that you might have read about.  The US is now a major exporter of gasoline while at the same time importing nearly half of its crude oil requirement.  The folks in Wyoming do not pay less for their gasoline just because their crude is priced low.  So, locally cheap crude is not responsible for variability in gasoline price.  More on the real reasons below.  Also, one could not help ponder that the exports are keeping domestic supply low enough as to keep prices up

It appears that no special permission is required to export refined product.  On the other hand light sweet oil from the Eagle Ford field is currently experiencing a challenging situation.  The refineries are designed for a heavier mix and so this good stuff is not moving at the world price for light oil.  They would be better off exporting it and being in South Texas they are well positioned.  In fact with Mexico’s Cantarell field in heavy decline, that country is looking for light oil to import even as it is exporting the heavy stuff to us.  But, as I understand it, this requires Executive approval.  Interesting that gasoline export does not or that it was granted earlier.

Professor James Hamilton of UC San Diego has an interesting blog on energy related topics.  His latest one deals with this issue of extreme variability in gasoline prices at the pump.  Hamilton is regarded as one of the foremost resource economists.  We have referred to him before in connection with his correlations of recessions with spikes in the price of oil.

He places the blame on the variability squarely on state taxes on the fuel.  He shows a map of the US charting the tax in each state and it is instructive.  Those of us driving up Interstate 85 from the south have noted the considerable increase in gasoline price upon crossing the state line from South Carolina.  That is all about taxes, as it is for cigarettes for those inclined to inhale.  California additionally has special requirements on the fuel, which further increases the cost.  The price of crude local to a refinery will also be a factor.  But as discussed earlier, the export market diminishes the chances of truly lower gasoline prices near cheap production.  Also the local price of crude oil is low only until the pipeline infrastructure is in place.

One last point: increased domestic production will not drive down gasoline prices.  We cannot drill our way to lower prices at the pump.  Oil is sold on the world market and except for issues of access and transportation cost, there truly is a world price.  If the US increases production OPEC could reduce theirs and cause price not to be affected.  Similarly gasoline has a world price.  Nobody is suggesting it, but I suspect limiting gasoline export could push prices down domestically.  Ultimately oil prices will come down when transport fuel substitutes are a significant force and in true competition with oil derived gasoline.  Then gasoline prices will also come down to a  new equillibrium with alternatives.

Vikram Rao

The Post-election Energy Future

December 19, 2010 § Leave a comment

This post is loosely based upon the November 18th RTEC Breakfast Forum topic, Implications of New State and Federal Leadership on Clean Energy Enterprise

The midterm elections produced dramatic shifts in the political balance in Congress and both legislative bodies in North Carolina.  The effect on energy policies can be expected to be significant as job creation will trump climate change.  Conventional energy will be up while ethanol will be down.  A price on carbon, barely possible in the previous regime, will now be off the table.  That will likely put the Integrated Gasification Combined Cycle (IGCC) variant of clean coal on life support.  It will be interesting to see whether son-of-SuperGen in Illinois will survive.

National energy security will move up on the agenda.  Steve Chu and his aggressive research agenda will go under the microscope.  Business friendly policy will be in and energy efficiency should be unaffected.  In the “anybody’s guess” category is the federal subsidy on electric cars.  In North Carolina, oil and gas exploitation will be in.  Wind could be buffeted because of fervent championship by the past administration; hopefully they will rise above that.  These and more are discussed below.

Energy security considerations are likely to lead to encouragement of domestic resource exploitation.  This will entirely be in the province of oil, and to a lesser degree gas.  Replacing imported oil with domestic fuel substitutes will create jobs. The obvious implications will be toward deep-water exploitation related policy.  Also, expect considerable pick up in oil from tight rock, such as the Bakken and Eagle Ford prospects.

Electric vehicles fall in the category of oil replacement.  The current subsidy of $7,500 per vehicle will probably be kept, but the timetable for taper off and elimination will probably accelerate.  General Motors has been reborn and their results, including the post IPO stock price, are healthy.  Their considerable bet on the Volt and the attendant job creation will be a factor.  Some corporations, most notably GE, are doing their bit in this regard.  GE recently committed to purchasing 25,000 electric cars from GM and Nissan by 2015.  Their purpose was to give the manufacturers the certainty to move into mass production.

Biofuels will be a mixed bag.  Drop-in fuels such as alkanes from plant matter will be favored over ethanol, and mixed alcohols will be somewhere between.  This is because of the plug-and-play convenience of drop-ins; nothing different about the engine, the fuel pump or the distribution infrastructure.  A story in the Economist expands on this point.  Alkanes made with sugar as feedstock may be advantaged by the fact that Brazilian sugar has no import tariff.  In fact, there is a good chance that the 50 cents per gallon tariff on Brazilian ethanol will go away, as may the 52 cents subsidy to blenders of corn derived ethanol into gasoline.  In a burst of candor, Al Gore admitted recently that his Senate tie-breaking vote for it was solely for the purpose of being elected.  He now says the subsidy for first generation ethanol, read corn based, must go away.  The new Congress will likely make this happen.  But not any time soon.  The recent Obama compromise on taxes contained an extension of the ethanol subsidies.

Low carbon sources of energy will be disadvantaged by carbon not having a price.  However, the cap and trade system in Europe has not really worked either.  The price has fluctuated and has generally been too low to make much difference.  Consequently, the responsibility will shift to clean energy, making it purely on economic terms.  This is not all bad because if and when carbon emissions carry a penalty, the alternatives will be even more advantaged.

Wind energy from certain sources is already very competitive with coal, especially if externalities relating to the environmental cost are considered.  Help in the form of federal support for research and development could be helpful.  The recent report from the President’s Council of Advisors on Science and Technology suggests major funding initiatives and associated models in revenue generation for this.  But the revenue models are in fact taxes on existing energy units.  While modest in size, the new Congress will likely be opposed unless job creation is pitched as a principal benefit.  Healthy skepticism of federal coffers of this sort will also be an impediment.  The fund created previously by a tax on nuclear energy was not seen as spent wisely.  Even France has gone away from this model.  The French Petroleum Institute (IFP) used to be funded by a tax on vehicle fuel.  Similarly, the Gas Research Institute in Illinois was funded by a tax on natural gas transport.  Both models are now defunct.

In North Carolina, offshore drilling will potentially become permitted but is unlikely to lead to any actual activity because past exploration of the Atlantic coast has not been promising.  Even if allowed, the oil industry will probably invest elsewhere.  Shale gas drilling might find a home in the state.  It is not believed to be as prospective as the Marcellus in Pennsylvania and New York.  But economic accumulations are plausible.  Pennsylvania leaning on regulation to assure environmental security will likely have to be studied and used as a basis for policy.

Many see the new sheriff in town as a blow to sustainable energy goals.  Climate change based policy may well take a back seat. Energy security drivers and energy efficiency measures, however, will have an important impact.  The International Energy Agency has forecast that well over 40% of carbon mitigation will need to come from using less; carbon dioxide sequestration will account for only about 10%.  In conclusion, energy efficiency measures are important and largely unaffected by the political shift.

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