Saturday, March 17, 2012

Refining the Oil Argument

Let’s talk gas. Bill Saporito, in this week’s Time, went over the intricacies of the oil market and explained why gas prices are high despite low demand.

First, the basic supply and demand model states that as demand goes up and supply goes down, prices increase on a product. When demand decreases and supply increases, prices drop. Pretty simple right, scarcity plus popularity equals price.

Secondly, oil sort of works like that. But it really doesn’t--at all. As a commodity, oil does move with supply and demand; people want it and vendors sell it. But it’s a little more complex than that. Oil trades on the open market, meaning people buy oil stock based on how valuable they think it is. Value on the market though, does not have to be related to actual supply or demand. Value can be based on speculative factors such as the possibility of war with Iran and the blockading of the Strait of Hormuz. So the value of a barrel of oil is based more on politics and investors who pour money into speculating than it is on the traditional supply and demand vision of oil. Investors get to make up the price of oil.

Third, American demand for oil has been decreasing. “Ford’s average fuel economy has improved by 20% since 2004.” Americans have been curbing their thirst for oil at a fairly substantial rate and we have been using more domestic sources of oil. The problem lies with refiners. Despite big oil raking in the dough selling their pure uncut black gold, refiners have to pay for that oil and refine it. At least 19 refineries have shut down since 2009 reflecting what amounts to price gouging on the part of the oil companies. That decreased capacity to refine oil has led to refiners having to raise their prices to stay in business while shutting down refineries that could handle increased capacity.

Speculators drive up the price of crude, refiners are unable to stay solvent on the outrageous prices, and we pay at the pump. It’s actually not about drill baby drill. Gas would be significantly cheaper if refiners were better able to compete. Our reserves and supply of crude are fine. While a shutdown of the Strait of Hormuz could be devastating to the world, America would be able to release energy reserves while it re-established safe passage through there.

So, what about these refiners? Refiners are the middle-men that cut the product that our engines run on. By allowing so many refineries to shut down, America has decreased its capacity to refine fuel by 1.7 million barrels per day. That translates to significantly higher prices at the pump. And that’s because the free market worked its magic. Left to its own devices, domestic refiners would rather drive up the price of fuel than increase energy security in this nation. And who can blame them? Refining at those levels is unprofitable, but would have kept prices down at the pump when this happened.

So now Americans have an energy policy that is dependent on an increasingly volatile Middle East and we pay the price at the pump. An effective energy policy looking into the future would find a way to guarantee America’s refining capacity while looking to decrease dependence on imported crude. That includes looking at alternative energy and increasing efficiency. It also means helping industries transition to new technologies instead of leaving them in the dust.

If we don’t focus on a smooth transition Americans risk higher prices at the pump while oil speculators continue to take advantage of uncertainty in the marketplace--gouging the average American out of their hard earned money.