September 27, 2012

The Geography Of Gas (Part 2)

Geography influences the price of gas. Where we get our oil from and where we sell it to—along with the quality of the current supply and the increasing demand of emerging middle classes and growing economies—are all factors.  But, it doesn’t end there. Our economy, the world economy, natural disasters, politics and political crises play a role in what we pay when we fill our tank.

Supply and demand (see yesterday’s post) does influence the price of crude oil. As mentioned yesterday, there currently is enough crude oil in reserves to last the world for the next several decades, assuming that we do not continue to drill (which, obviously, we will). The United States alone holds approximately 700 million barrels in reserve in its Strategic Petroleum Reserve, the largest emergency supply in the world. Even though there is a substantial supply, demand can increase if there is a perceived threat to the supply or the ability to drill for more.

Crude oil, however, accounts for only a portion of what you pay at the pump. According to the United States Department of Energy, the price of crude oil averaged only 65 percent of the cost of gasoline in July 2012. In other words, if you pay $4.00 per gallon, only $2.60 of that equates to the price of crude oil. Refining costs (15 percent), distribution/marketing (8 percent) and taxes (12 percent) account for the remainder.

The economy—both domestic and global—plays almost as an important role as the crude oil supply. China’s economy has grown at an average rate of about 10 percent per year over the last 10 year, according to the U.S. Department of Energy. As a result, it has become the world’s largest energy consumer. That means fiercer competition for the available oil and potentially higher prices.

Our economy and the strength of the American dollar influence the price at the pump as well. When the Federal Reserve prints additional money, it results in the loss of purchasing power of the dollar. Our dollar buys less, including less gas overseas.

It’s interesting, though, to compare today’s gas prices with those in the past. Something that cost $1 in 1950 would cost about $9.56 today. At that time, a gallon of gas cost approximately 30 cents per gallon. If you adjust that for inflation, gas should cost $2.87, not far from the price of crude oil. However, our government requires more expensive refining techniques today and has increased taxes (in 1950, the tax per gallon was roughly 1.5 percent of the price versus today’s 12 percent).

Natural disasters and crisis of global significance also factor into gas prices. Floods, hurricanes and other natural disasters can cause substantial damage resulting in the disruption of distribution. For example, gas prices increased $3 a barrel and gas prices went up to $5 a gallon in 2005 after a combination of Hurricane Katrina and Hurricane Rita destroyed 113 offshore oil and gas platforms and 457 oil and gas pipelines.

More recently, the Arab Spring influenced prices. When unrest began in Libya, Egypt and Tunisia, traders feared the crisis would limit supply. As a result, oil prices rose to above $100 in early March, peaking at $113 a barrel by mid-June. In this case, though, the unrest did not disrupt the flow of oil, and prices returned below $100 a barrel. However, the crisis could have just as easily limited the supply more than expected and forced prices even higher.

Why gas costs what it does is a complicated topic. Many factors contribute to what you pay at the pump. Clearly, though, the price of gas depends on what is going on in other countries. It involves economics, politics, our natural resources, and geography.

Image Credit: ilker canikligil / Shutterstock

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