Refining Cuts, Costly Foreign Oil Keep Gas Prices High While Crude Price Sinks

Gasoline prices at a station in Hayward, California on Thursday February 12th. (image: AP/Paul Sakuma)

With the world economy facing a major slowdown and crude prices dropping in recent weeks, how can the retail price for gasoline be going up?  Frustrated drivers around the country have been asking that question since the beginning of the year, when average retail prices of gasoline began their steady climb.  The answer to that question can be broken into two parts:

1)    Refining activity.  Demand for gasoline in the U.S. began to drop at the end of 2008, as penny-pinching Americans drove less.  Plummeting demand for gasoline, usually the most profitable petroleum product, led to refiners actually losing money as the wholesale price of crude purchased to manufacture gasoline actually cost more than the wholesale gasoline refiners were selling.  When raw materials used to make a product cost more than that product, producers lose money.  Wanting to minimize their losses, refiners cut back on gasoline production substantially, putting activity levels at their lowest point in 17 years, according to the Energy Information Administration (as reported by USA Today.  Dramatic gasoline supply reduction has succeeded in driving prices up by 22 percent since December 30, 2008.

2)    Different crude prices.  “The” price of oil that is reported by news organizations around the world is based on the price of West Texas International crude oil sold on the New York Mercantile Exchange.  West Texas crude is a high quality crude that historically draws a higher price than crude extracted in The Middle East or Latin America.  However, cratering demand for crude and petroleum products worldwide has brought about huge supplies of West Texas crude in the U.S., and the excess supply has pushed the price of West Texas crude below the price of other crude oils from around the world (such as North Sea Brent crude from the UK and light, sweet crude from Saudi Arabia).  Because international crude is usually cheaper than the West Texas variety, American refineries are set up to receive crude from international sources, and no domestic transport systems exist—so refineries can’t simply “switch over” to West Texas crude while it’s cheaper.  As a result, the price of West Texas crude oil has dropped while U.S. refineries have been forced to use more expensive crude to make gasoline, pushing retail gas prices upward, according to the Associated Press.

The Oil Price Information service has predicted that the current “unusual” movements of crude prices and gasoline prices will continue for much of the rest of 2009, predicting an average gas price of $2.50 a gallon “before Spring.”  The good news is, though gas prices are on the rise, they won’t be hitting the $4 per gallon mark they touched last summer…at least for a while.