Cap Gemini Ernst & Young Vice-Pres. Calvin Cobb: US gasoline prices not likely to spike this summer

July 29, 2002
Cap Gemini Ernst & Young Vice-Pres. Calvin Cobb
US gasoline prices are not likely to spike this summer.

Steven Poruban
Senior Staff Writer

HOUSTON, July 29

US consumers will not likely see the gasoline price spikes this year that historically vex the summer driving season. On the contrary, with summer already past its midpoint—a time when gasoline prices would typically be approaching their apex—prices are experiencing only modest increases in many parts of the country, while actually tracking a downward trend in other regions.

But the price at which refiners and marketers are fetching for their products is only the start of their concerns nowadays.

Presently, US lawmakers are deliberating the fate of methyl tertiary butyl ether as it is used as an oxygenate in gasoline. Also, refiners are having to deal with a looming diesel sulfur-reduction rule. These two issues, and how refiners will come to terms with them, are reshaping the sector today.

Price spikes
The phenomenon of gasoline price spikes, according to Calvin Cobb, refining consultant and vice-president with Cap Gemini Ernst & Young Group, is the product of supply and demand factors—each with a positive or negative influence on prices—that come into simultaneous alignment. Besides world oil prices, other elements that influence gasoline prices include the state of the global and US economies, refinery and pipeline operations, fuel qualities and switchover patterns, and the weather, Cobb told OGJ.

"Usually, these factors are a mixture of 'plus' and 'minus,' with respect to gasoline price," Cobb said, adding that occasionally, "they all get on the 'plus' side," or vice versa. "When they all get on the 'plus' side, then you have (situations) like we had in 2000 and 2001 in the summer in the Upper Midwest," referring to the dramatic spikes in gasoline prices that occurred in that area over the last few years.

This year, Cobb predicted that refinery margins—and therefore gasoline prices—will cycle around where they are presently. "We won't have any big 'up' or any big 'down' (movements)," he reckoned.

Based on this forecast, Cobb doubts that oil companies will have to endure the usual legislators' scrutiny that so often ensues prolonged periods of escalated gasoline prices. These inquiries, spawned largely by public outcry, have never resulted in establishing price collusion among oil firms, Cobb noted.

During his 28 years as a refining consultant, Cobb estimated that there have been about seven or eight serious investigations into gasoline price manipulation in the US. Driving these occasional investigations, Cobb said, is the lack of understanding that average consumers have about the complexities of oil markets, whereas they may be more intuitive about other industries, such as farming: "If you have a drought in the Midwest, the price of corn or soybeans would become high," Cobb explained, "If you have bumper crops, the price of corn or soybeans would be low. People can understand that."

Cobb added that the way gasoline is sold makes consumers very sensitive to fluctuations in its price. "(Gasoline) is the only commodity that consumers buy in which its price is posted on big signs every quarter of a mile on nearly every street," he said. This price-posting method has its roots in industry's early history, when oil companies sold gasoline competitively based on price, Cobb noted. Now, however, "Every time (prices) go up, there is this human cry that says, 'The oil companies must be colluding to fix prices.'"

A fair amount of the public's thought processes regarding gasoline prices also can be attributed to industry's age-old negative public image, Cobb said. Much of industry's image problems are rooted in its visibility—consumers know where nearly all of industry's facilities are. "Most of the things that oil companies do are pretty visible—such as their manufacturing facilities, which are not pretty or scenic," Cobb said. "With a lot of other industries, their facilities are not so visible or they are distributed much more widely."

MTBE vs. ethanol
The current controversy surrounding the replacement of MTBE with ethanol as a oxygenate in motor fuel has refiners—as well as gasoline marketers and distributors—puzzled over the sheer logistics of such a change, Cobb said.

"Logistically, you have to make ethanol out of something. And because there is a 54¢/gal subsidy from the (US) government, making (ethanol) from grain products is the most economic way to do it," Cobb said. Because ethanol picks up water and other contaminants when transported through pipelines, refiners have to blend it at the terminal where the gasoline is distributed to retail stations, Cobb explained.

Much of the gasoline sold in the US Midwest is already blended with ethanol, so a switch from MTBE to ethanol wouldn't present that much of an issue in that part of the country, Cobb observed, adding that it would be the coastal regions that would feel the largest impact from the changeover. "In California, in particular—which is farther from sources of ethanol—there will probably be more logistical problems," Cobb said.

The switch to ethanol also will fuel the need for the construction of new infrastructure, which will drive up the cost for consumers, Cobb said, adding, "And the 54¢/gal won't pay for all of that." Also, some industry players worry about whether enough ethanol could be made once an all-out ban of MTBE is in place. Some of the more aggressive forecasts—such as one by the US Energy Information Administration—estimates that the removal of MTBE from gasoline would constitute the need to produce 250,000 b/d of ethanol, which would not use all of the nation's grain production, but "a significant amount of it," Cobb said.

Cobb raised concerns about the economic viability of ethanol, which he has been studying for years. These studies have illustrated that ethanol as an oxygenate in gasoline has never made economic sense. "The amount of energy that you put into making ethanol is less than what you get out," Cobb said. "So, from an energy standpoint, it's not efficient."

Cobb said, "From a good gasoline additive (perspective), it's not efficient," adding that it still remains questionable whether oxygenates in fuel really do produce a cleaner environment and cleaner emissions from motor vehicles. "This has nothing to do with the technical, economic considerations of what is a good transportation fuel," Cobb stated.

Presently, research is being conducted to uncover how to make ethanol more cheaply. If such a technology is found, however, it would "fly in the face of politicians who like it the way it is," Cobb said.

Sulfur content
The move to reduce the amount of sulfur in diesel fuel, Cobb noted, will not be a problem for all US refiners. "The West Coast (refiners), for instance, already have specifications that are that low," Cobb said, adding "Most of the big refineries on the Gulf Coast that are heavy-oil processing refineries have lots of hydrotreating (capacity), and they can make a lot of low-sulfur diesel." It will be the smaller refineries that will face the biggest capital costs, Cobb said. "There's going to be a few refineries that will just give up," he said.

At the same time, however, Cobb explained that when there are hefty investments made for refinery upgrades—such as the ones required to produce low-sulfur fuel—then the market experiences capacity creep that is above the normal rate of about 1%/year. "When you get into these periods where there is a whole lot of money spent for cleaner fuel or to fix environmental problems at a refinery, it is nearly irresistible for refiners not to add capacity," Cobb said. "So, instead of less than 1%/year, they add 1.5-2%/year," he said. And with the supply-demand balance relatively stable at present, adding to supplies at a rate of 1.5%/year for 2-3 years, Cobb observed, would depress margins and force the closing of some refineries.

Refinery closures, consolidations
In 1980, the US contained more than 300 refineries. Today, there are a little more than half this amount, and yet "we've more or less had all the gasoline that everybody ever wanted in the entire 20 years since that's happened," Cobb said. He predicts another 5-10 refineries are on the "suspect list" for imminent closures in the not-too-distant future, taking a few hundred thousand barrels per day of refinery capacity with them.

Cobb said that at present, there are probably more refineries for sale than there has been in quite a while. However, the question remains as to which firms will purchase these plants—particularly at a time when refiners are facing so many obstacles. "There are some people that like this business," Cobb observed.
And because refiners all operate their plants based on slightly different models, Cobb said that those buying the refineries may run them more efficiently than the previous owners, he said.

Contact Steven Poruban at [email protected].