Oil briefly topped $100 on Wednesday, a reflection of the turmoil in the North African oil producing nation of Libya, where some of the country’s 1.6 million barrels per day of output has been cut back and may soon be turned off completely.
Prices ended the day below the $100 mark Wednesday, at $98.10, on trading on the New York Mercantile Exchange, but that was up $2.68 or 2.8%. With unrest growing in other oil rich nations, many are predicting a significant and sustained price spike in the coming weeks.
It’s been a few years since oil hit the $100 mark — Oct. 2, 2008 to be exact — so we turned to some industry experts to help explain some of the basics of why prices overseas and the U.S. are going up.
Q: If Libyan oil goes mainly to Europe why are U.S. oil price rising?
A: The U.S. is very dependent on oil imports from overseas, namely the Middle East and West Africa. If Libyan oil production is shut off, then European customers who would normally be supplied by that source will instead try to buy crude from other sources, putting them in competition with the U.S. buyers, notes Jeff Dietert, the co-head of research for Houston-based Simmons & Co.
The price of oil is always set by the “marginal barrel,” the last barrel to be delivered to meet demand, notes Craig Pirrong, a commodities professor with the University of Houston. For all parts of the U.S. that marginal barrel will be an imported barrel, which could just as easily go to a European or Asian buy if the price differences justify it.
“So as far as oil is concerned, no continent is an island,” Pirrong said.
Q: If the oil price is we refer to in the U.S. is based oil priced at the Cushing, Ok. storage and pipeline hub, and that hub is practically swimming in oil, why is that price going up?
A: U.S. Gulf Coast refiners who rely on oil from overseas are seeing their costs go up, so they are increasingly looking to get oil from the U.S. Midwest, namely Cushing, where prices have been lagging behind overseas prices by a record amounts, notes Dietert.
There aren’t many ways for oil to get from Cushing to the Gulf Coast – most pipelines flow the other way – so Gulf Coast customers are turning to rail cars and barges to get Cushing crude, even with the added transportation costs. That increased demand is helping to drive up Cushing prices.
Q: U.S. gasoline demand is low and we have plenty of oil and gas in storage, so why are our prices going up?
A: The price of oil is the single largest component of gasoline prices, about 70 percent of the cost, so where oil goes, so does gasoline. In Houston gasoline prices were $3.018 for regular unleaded on Wednesday, up from $2.994 on Tuesday and $2.963 on Feb. 16.
But consumers are a bit justified in being angry at how quickly gasoline prices have reacted to the oil prices, says Amy Myers Jaffe, a fellow at Rice University’s Baker Institute.
One rule of thumb says it usually takes a few weeks for an oil price increase to work its way through the refining system to the gas pump, Jaffe says
“But maybe they’re a little fast on the trigger on the way up and a little slow on the trigger on the way down,” Jaffe said.
Q: Why didn’t’ we see prices spike like this during the 2010 Gulf oil spill and drilling moratorium?
A: That impacted activities associated with oil production that wasn’t expected to be on the market for many, many months, so it did not impact the then-current prices.
Q: We’ve seemed regular oil supply disruptions in the past in Nigeria, a major U.S. supplier, with relatively small price jumps. Why is this so different?
A: “I think traders are looking at this possibility of dominoes,” said San Diego State University finance professor and economist Dan Seiver. “Just as it started with Tunisia, a small country that nobody ever thought about, and all of the sudden it spread to Egypt . . . and even Libya. Nobody’s really sure how far this will go.”
Q: Isn’t this all just caused by speculators looking to drive prices higher and rake in big profits?
A: While there are many companies buying and selling oil futures, most of the players today are there trying to manage the risks their businesses face due to changing oil prices. That includes airlines trying to manage the impact of oil on jet fuel costs.
Leo Drollas, an analyst with the Centre for Global Energy Studies said in a presentation Wednesday that there appear to be fewer pure speculators — traders buying and selling oil futures just for profit — in oil markets today than in 2008.
“In 2007 and 2008 you had so many financial institutions betting on oil, touting it as a safe investment to their client,” Jaffe said. “Today there’s not as much of that money in the oil market, so it makes it harder to create a bigger bubble.”
Q: Are we heading for a repeat of 2008 record oil prices of $150 or more?
A: It depends on who you ask.
Global demand for oil right now is stronger than it was going into 2008 since the global economy is on the mend, putting greater pressure on prices, says Dietert.
And the current crisis is more like the massive supply disruptions of the 1970s, including the 1979 Iranian revolution, so it could have a more profound and lasting impact.
But analysts with Societe Generale note that there’s more spare production capacity today than there was in 2008, nearly 5 million barrels per day among OPEC nations today versus less than 2 million barrels per day in 2008. Crude oil supplies in the U.S., Europe and Japan are also higher now than they were in 2008 and there’s more spare refinery capacity.
Jaffe notes the Saudis are much more inclined to bring that extra production online today than they were in 2008.
Tom Kloza, an analyst with the Oil Price Information Service, says he’s sticking his $3.50 to $3.75 per gallon U.S. gasoline prediction.
“My gut tells me the world can deal with loss of lots of Libyan oil,” he said. “But the real worry is Saudi Arabia. If we wake up and see violence there, I redact all previous predictions.”
Thanks for bringing some expertise to the discussion. Maybe this will mitigate some of the wilder comments….Nah!
Political instability in Libya and throughout the Middle East has already contributed to oil price spikes and may impede America’s economic recovery. For every $10 increase in the price of crude, prices at the pump raise about $0.25, and America’s GDP falls a few tenths of a point. This may not seem like a significant amount, but that $10 increase can lead to billions extra spent on oil – over half of which is imported.
Moreover, the unacceptable crackdown by the Libyan government is a reason why relying on the Middle East for oil production is a poor choice for Americans. Although Libya is not a main importer of crude to the U.S., instability in the global markets affects prices at home. However, as this article aptly highlights, domestic crude supplies have the ability to mitigate U.S. crude prices. With abundant supplies of oil and natural gas here in the U.S., we should focus on producing our domestic energy, creating American jobs and growing our economy – all of which weaken the power that foreign dictators like Gaddafi have over our energy prices. It’s not only smart energy policy; it’s smart foreign policy.
Can you tell me why the price of gas goes up within hours of a crude oil price increase anouncment but the price does not go down when there is a crude oil price decrease announcment?
Lets see, a bird fall from a tree in So. America… price of oil goes up. Spring Break… Oil goes Up. Summer… Oil goes up. What I’m seeing is less supply-and-demmand and more I’m-greedy-and-I-demand. If we’d supply & refine more of our own oil, we wouldn’t be at the mercy of so much international marketeering.
Does the following make any sense as a possible explanation for the much maligned speed and delay respectively as to why gasoline prices at the pump seem greased on the way up and very sticky on the way down as related to crude price movements?
The pump owner and retailer is advised by his supplier or simply learns like the rest of us that crude is moving higher and his next delivery will cost more.
Facing this reality, the retailer, who is not or trys not to be a non-profit business, decides with his impending next inventory going to cost more he would be well advised to take steps to increase his cash flow–now. On the other hand when the price of crude is dropping, he finds he has high cost stocks on hand and will do his best to recover his cost plus a small profit on such inventory rather than sell it below cost. Hence he delays his reaction for the usual reason: self-interest and the desire to remain in business along with servicing his bank note inter alia.
If consumers are convinced that gasoline selling is such a money-maker, and they feel helpless and can’t lick ‘em, how about joining ‘em and get your share of the loot—unless your morality and ethics forbid such excess return on capital.
But you could always salve your consciences by just giving the “excess” to your church or rebate to your customers. Wouldn’t that be jolly.
Observer:
I’d argue the retailers are more likely to make their price changes in reaction to what they actually pay for fuel because they tend to be in pretty tough competition with the gas station on the opposite corner. Most gas station owners are small biz people, and generally the gasoline part of the business doesn’t make as much money as the convenience store part of their business. My guess is the pricing decisions that Amy Jaffe refers to the article are happening on the wholesale side. But then again, I haven’t dug into this issue in a while, so I could be wrong.
You people really missed the boat on this one. There is no mention of the Federal Foreign Trade Zone Act of 1934 that specifically exmpts FOREIGN oil from local taxation. this gives an economic incentive for ametican companies to use FOREIGN oil rather than domestically produced petroleum products. To add insult to injury, the local port authority helps companies create foreign trade zones here in Harris county to help exempt FOREIGN products from local taxation. You can thank your legislators for this boondoggle.
Agree that the gasoline side of the retail business these days is more important as an attractor and bait to get the passing motorist to pull in, and hopefully visit the store for some impulse or conscience buying while partaking of the restroom. Love those Lance $.75 peanut butter crackers or $1.00 candy bars. Offered as represntative of mark-up magnitudes of every thing in inventory.
Agree also that the competition between stations located on opposite corners or nearby is intense since most motorists will seek to save a penny a gallon so discrepancies are promptly eliminated. Is this done by a short phone call in quick markets even though it would be anti-compeitive or do the lesser fry simply follow example. Anyway if a retailer’s price is not competitive, no store traffic, no profits, no future.
You don’t suppose the wholesaler might offer input and guidance here, do you? Absolutely not. Free Competitive Enterprise reigns supreme in the land, we all know that is a truism. Except, for a list of some size of possible deviations. Ah yes.
Dominoes, (imagined)production shutdown, fewer speculators (really, then how come there are futures contracts for Cushing equalling 3 times its’ already full up storage capacity?) the mysteries of supply and demand which only those in the oil bidness understand completely – then how come WTI drops 6 bucks in about an hour on the rumor that Qaddafi has been shot? Do not pretend that any of this is based on rational thought.
Prices in the futures markets reflect every bit of information about what has happened, plus a calculation of the probabilities of events that might happen. It does not take hours or days for information to travel around the world, only as long as it takes for someone to key a few words into a Twitter message. The magnitude and duration of price changes depend on whether rumors are confirmed or not.
Had Q’Daffy been killed, there would have been a greater probability that a stable government might be established and full oil production reestablished. So a price change based on that rumor would have been a rational reaction.
In fact, I suspect the drop in oil prices Thursday and Friday was caused by profit-taking, because the rally earlier in the week had gone too far too fast. And because of indications that Saudi Arabia was prepared to increase production to make up for lost Libyan output.