Editorial: Why fuel prices are high

April 30, 2001
Unless economic weakness quickly turns into recession, gasoline prices in the US, which are already high, will rise during the summer driving season.

Unless economic weakness quickly turns into recession, gasoline prices in the US, which are already high, will rise during the summer driving season. Much confusion exists about why this is so. If the misunderstanding persists, the threat is great that political mistakes compelled by public outrage will aggravate the reasons prices are high.

Confusion flows from two faulty assumptions. One is that the high prices of refined products result mainly from production restraint of the Organiza- tion of Petroleum Exporting Countries. The other is that 10 years of warnings about overregulation of fuel chemistry amounted to bluff.

Bottlenecks

At present, the price of crude oil is secondary to product-market dynamics as a factor in the US price of gasoline. Crude stocks, while not robust, are above levels of a year ago. And OPEC restraint isn't living up to press reports. The US Energy Informa- tion Administration estimates OPEC overproduction at 400,000 b/d during Feb. 1-Apr. 1, 2001. It projects output in excess of the Apr. 1 quota at 1 million b/d by midsummer.

So the problem isn't crude-at least not much. The problem is mostly a network of infrastructure bottlenecks, one consequence of which is a driving season beginning with gasoline inventories below their low levels of this time last year.

Refiners had to operate at maximum practical rates last year just to meet immediate demand. Unless total demand slumps for economically painful reasons, they'll have to do the same this year. Every hint of plant outage, pipeline disruption, or import disruption will make prices spurt.

Bottlenecks go beyond capacities to distill crude oil and move fluids through pipelines. As refiners have been warning for years, processing and distribution have become much more complex-and therefore more costly-than they used to be.

In the last 10 years, refiners have reduced gasoline volatility, made oxygenated gasoline available in areas with carbon monoxide pollution, cut the sulfur content of highway diesel fuel, and reformulated gasoline twice to meet new standards for content and emission performance. State and local governments have added their own requirements. As a consequence, refiners now must meet 50 different sets of standards for gasoline.

Inevitably, gasoline and diesel fuel have become more costly than before to produce. While capacity was in surplus, the costs came largely out of refining margins. But rising oil demand and refinery closures have eliminated the capacity surplus, shifting the cost to consumers.

The Environmental Protection Agency has done nothing to cushion the blow. The Clinton administration's EPA heaped even more requirements on the refining industry in pursuit of increasingly questionable environmental benefits.

Refiners thus face the need to invest heavily to further reduce sulfur in gasoline and diesel fuel. They might have to quit using methyl tertiary butyl ether nationwide to meet oxygen requirements of reformulated gasoline. They must meet toughening standards for gasoline air toxics and toxics and other pollution from industry facilities. And they must perform all this work under threat of retroactive enforcement of permitting requirements under EPA's New Source Review program for emissions control.

Some refineries will close. Industry estimates of the number of plants in jeopardy range from 15 to 20. Some refiners will decide to avoid especially troublesome products, such as ultralow-sulfur diesel. Batching and contamination issues will further compartmentalize transportation and storage. It all means more bottlenecks in the nation's infrastructure for making and distributing vehicle fuel. That means higher costs.

While the bottlenecks now elevating prices were taking shape, regulators swatted away industry cost warnings as exaggeration. Last summer, in fact, former EPA Administrator Carol Browner angrily denied that regulations played any role in gasoline price spikes in the Midwest and accused the industry of "gouging" consumers. A Federal Trade Commission investigation reached precisely the opposite conclusion.

Regulatory costs

Regulation has improved the environmental performance of vehicles and their fuels. To point out regulatory cost is to deny neither the improvement nor the need for it. But to deny the cost of regulation is unreasonable. And to deny it while taking regulation to unnecessary extremes is inexcusable.

Consumers are feeling those costs now. Refiners' warnings are coming true. Anyone blaming only OPEC for the coming summer's gasoline prices is watching the wrong side of the market.