How Did Gas Get Where It Is?


Photo Credit: The Denver Channel

Well, gas prices are going up, and just in time for summer. Yep, just like it happens every year, our gas prices are going up in May, except this time it feel different. Ask anyone, they'll tell you, heck, you might even be one of those who sense it. This time, it's more than just gas prices going up, it feels like an unnatural market force, and that's because it is.


One of the reasons why the average person doesn't understand how the President and Congress effect gasoline prices is that they often have a complete misunderstanding of the oil refining and purchasing process. As such, they tend to believe it's a FAR more stable market than it is.

 
 

Oil, like all other raw materials, is a commodity, not a product. That means that it's not wholesaled out in the same way that say, a pair of pants would be. Cotton is a commodity, so it is similar to oil in how it sells, but the pants produced from it are not. That makes a big difference, and you HAVE to understand it in order to understand how it all works.


A product has a set price. A manufacturer purchases commodities to manufacture goods. They have a total COGS (or Cost of Goods Sold) that they average out in order to keep prices stable. They make the pants for $5, and wholesale it out for $10. The distributor tacks on another $5 and the store sells them for $50, making about $12-15 after they've paid all of their expenses. This is how most people think that gasoline works, except they would be completely wrong.


You see, cotton and other common commodities are fairly stable price wise, and so that allows the manufacturer us set a standard price knowing that any profit lost when the price is slightly higher will be gained back when the price goes down. Yet oil is anything but a stable product/market, and that leads to BIG differences in what you pay at the pump.


Let's start by understanding how commodities are sold. If you wanted a barrel of crude oil (raw oil), you would think that you'd call up Exxon Mobile and order it, except you would be wrong. You see commodities are sold on the Commodities Exchange (like a stock market for raw materials). Competing manufacturers outbid each other for "lots" of goods that they then turn into the end user products that we buy in a store.


So when that pants manufacturer needs cotton, they don't call up a farmer and buy some, they have an agent at the commodities market buy them however many "lots" of cotton that they need. These agents compete with investors, who are called Speculators, and their job is to attempt to get the company the necessary materials at the lowest price possible. Now that's easier in a stable market like cotton, but what about an unstable one like oil? Well, that's a vastly different story. (I know I'm oversimplifying it a bit, but this is a general understanding)


BUT, what happens if a speculator bought the oil instead of a company? He holds a futures contract that means he will has a delivery of oil set. So when an oil company can't buy enough oil (due to OPEC, or a pipeline problem, or a tanker spill, or just under production), they have to turn to those speculators to buy those futures, and they often charge a "premium" for their product since the company has nowhere else to turn.


This artificially increases the prices, and causes agents to have to pay more per barrel than the market dictates they should. It's a kind of "worst case scenario" that they run into often enough, but will do whatever they can to avoid. Which brings us back to the agents. Those agents often try to get ahead of the speculators, and in doing so, they often begin to artificially inflate the market because they know that paying more now will prevent them paying even more later.


This competition between the agents and speculators leads to a market where the COGS often exceeds what it should. Yet unlike the cotton market, these price swings are so big and so volatile, that the manufacturers cannot simply standardize their price and let the highs and lows average out. Imagine if you knew that oil was trading at $15-30 a barrel and the gas pump was charging $2.50 a gallon. You'd never buy gas there. You'd drive down the street for the $1.20 gas that a $15 per barrel price says you should be paying. This is why price nominalization in the gas industry never works.


But what does ANY of that have to do with the President and Congress? Well, remember those speculators and agents? They're people; and their job is to get the goods at the best price to either manufacture it, or to hold it for trade later.


What do you think happens when these people hear that Biden plans to cancel the Keystone Pipeline and that the higher cost of rail transport will continue? Rail has limited delivery capacity and is not a constant and "on demand" flow like a pipeline is. That means more can go wrong. Trains can derail, they can be late, tracks can go out, they have to be inspected by customs. All of this factors into the minds of the speculators and agents who are competing for that oil against a future price.


So if they think the price will go up in the future, they bid more now betting that that premium price now will still be less than the future price later. And the market inflates, and the price you pay at the pump goes up.


So what happens if this is compounded by multiple events, and or a President who says his literal goal is to restrict access to, they use of, and/or the ability to import oil?


What would you do if you were a speculator or agent?


You see, it's not rocket science.


No one yet has created a workable hydrogen fuel cell car. No one has cracked cold fusion, no one has figured out how to mine asteroids to build a Dyson Sphere, and no one has created both a cheap enough and powerful enough solar panel that every home in the world is equipped with. You know, one that powers their home in full but is cheap enough for a young family to afford.


In other words, we're stuck using oil, even if you don't like it.


Your electric car? It was sill powered by oil, coal, or natural gas. Just because that process happened somewhere else doesn't mean it didn't happen.


There is no one, or even a combination of, "renewable" sources of energy today that will meet our energy demands, and the one thing this country WON'T do is reduce their energy consumption. They may say so because it sounds nice, they may even do some trimming around the edges, but when it comes to the real lifestyle cuts required to make an impact? Well, those people are rare and hard to find.


So you and I are stuck under the thumb of the speculators and agents, and the more volatility that is introduced into the market, the higher our prices are going to soar. That's always been the trick, the more stability you have the more regular the prices. Why is cotton a stable market? Because we know each year that the cotton farmers are going to product between X & Y amount of cotton and the market is prepared to deal with it. A steady market leads to both steadier and lower market prices.


So, does Joe Biden hold some of the blame for the oil prices? Yes, he does, and it's disingenuous to say that he's doesn't. You can try to spin it, to make the speculators and/or agents at fault, but they're just trying to make money in the market or for their company. They don't actually effect policies that effect prices, politicians do that, and their words and rhetoric matter.


It's funny to me how the same people who said that "Trump's words matter" on everything from race issues to foreign policy now are attempting to say that "Biden's words don't matter" because he's only taking about the future or our dreams as a nation. Dreams become goals, goals become plans, plans become actions, and actions have consequences. His words matter just as much, and they are kicking us in the gut right now while we're still attempting to economically recover from COIVD. This is the last thing we need.


Then you add in the costal pipeline shut down, the fighting happening in the middle east again (his fault as we detail here), the ship that shut down the Suez Canal, on top of the cancelling of the Keystone XL Pipeline. What did you think was going to happen? $4-5 gas is coming, those barrels are already in production from crude to refined. When they start getting shipped out, wow, people are going to lose their minds, but it's' coming, and you'd better prepare for it now.


Am I suggesting you horde? No, that's silly. Unless you want to pay a TON more for gas by adding fuel stabilizers to it, that's the wrong way to do it. But I do suggest you have A can ready, and start putting away a little extra money now to deal with the rising prices later. An ounce of prevention can save a pound of cure.


Until we have a clear and unambiguous message coming from the White House that they will support and open up energy acquisition and imports, these prices will continue and likely go up.


The only other option is to solve one of the alternative energy puzzles, and last I heard, Cold fusion hasn't even been done in a small scale event. So I wouldn't bet on any of that, at least for the next 50-100 years.


Your President, ladies and gentlemen, you biggest foe when it comes to your gas prices.


To all those who voted for him, congratulations, you got what you wanted.


It's not what you thought it would be, huh?


If only someone had told you that ahead of the vote...

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