The Price at the Pump
The price at the pump costs an arm and a leg and American consumers can feel it. With energy being the largest driver of inflation in the past 12 months, it’s time to ask, “What the heck is going on with gasoline prices?”
It’s understandable if you don’t know what’s going on in the energy market; there’s a lot of mixed messaging. This article will give you a refined briefing on the U.S. energy situation using non-biased-facts — filtering out grabby headlines, opinions, and downright misinformation.
Before diving in, it’s important to understand what drives the price of oil.
It’s also important to note the difference between WTI crude and Brent crude. WTI or West Texas Intermediate is crude oil that is exported from America (primarily extracted from the Gulf of Mexico and refined in Cushing, Oklahoma). Brent Crude is the world’s primary oil. It comes from the North Sea. When you hear about Brent/WTI spreads it is the difference between American crude and rest of the world crude. Gasoline prices in the U.S. are based on the price of these two which, for the most part, trade in line with each other.
Now let’s dive in...
During the first week of his presidency, Joe Biden made sweeping changes to oil and gas policy in the United States by introducing an executive order that halted all new oil and gas leases on federal onshore lands and in federal offshore waters. Federal land leases account for 24% of all U.S. production. The same week, the administration announced that it would put a halt to the Keystone XL pipeline. The 1,179 mile pipeline was intended to transport crude oil from Western Canada and North Dakota to be refined and stored in Cushing, Oklahoma—a major crude oil refining and pipeline hub. These actions were an attempt to reduce fossil fuels and curb the methane emissions caused by the oil and gas industry.
These policy decisions came at a time when Covid-19 was peaking and lockdowns were in full effect. Consumers were not traveling, as service-based industries were still at a major stand-still. The price at the pump was decreasing and at the same time, Tesla vehicle sales were higher than ever. The green revolution was looking promising.
Until the world started its first “re-opening”.
As the recovery started and production resumed, Chinese coal-dependent factories (35% of their GDP) opened their doors to start manufacturing goods again. The demand for coal, which China is the world’s largest exporter of, outpaced supply and created a price surge.
As coal miners tried to keep up with demand and prices nearly quadrupled, the world turned to other forms of electricity production. Most countries skipped past alternative energy sources, as nuclear faces regulatory barriers around the world and wind and solar have far too dismal supply relative to world energy production. The easy answer was to substitute coal with crude oil, the commodity that provides ⅓ of the world’s total energy.
China and other countries looked to the United States to supply oil whilst avoiding tapping into their own countries strategic petroleum reserves (SPRs) as long as they could. During this period, China nearly doubled their petroleum import from the U.S. The price of crude went up and the price at the pump approached 5-year highs.
Where is OPEC in all of this?
Oil prices cannot be discussed without understanding what OPEC+ is doing. The OPEC and Russia alliance alone accounts for 52% of global crude oil production, while the U.S. accounts for about 18.6%. In the past few months OPEC+ has been slow to boost production and has indicated that it will not raise output until early 2022 on the basis of winter demand expectations and worldwide reopening. After months of begging OPEC+ to increase output and blaming the cartel for price gauging, President Biden announced that he would tap into the United States SPR and release crude into the market in an attempt to lower prices at the pump. Energy analysts warned that a release from the SPR may not have the desired effect. They explained that however many barrels the U.S. or its partners in Asia and the UK release, OPEC could withhold more and for longer.
When the announcement was made, the price of WTI decreased 3% and Brent didn’t move. The reason is that the White House’s official policy is to release 50M barrels (bbls) over the next “several months”. The world oil consumption is 100M bbl’s/day. Assuming that “several months” means 2 months, world consumption over that period amounts to 6B bbl’s. 6B/50M equals less than 1% of daily world oil consumption. This will have low to no impact on global crude prices and is not what the SPR was originally intended to be used for. It is important to note that the SPR oil is “sour” meaning that it contains high amounts of sulfur which takes time and gas to refine (which makes it more expensive).
Last week, Goldman Sachs commodity strategist Damien Courvalin explained that although WTI prices dropped after an announcement that there would be an SPR release, most of the move has been priced in and the only thing that could affect downside price would be low trading volumes into the holidays. Perhaps Courvalin overlooked new government-imposed lockdowns or an abrupt OPEC supply response. Oil has since priced in Omicron downside revising Goldman’s end of year target from $90 to $85.
A recent assessment from oil consultancy Energy Aspects talks about the demand concerns surrounding Omicron, and OPEC’s response, with Chief Oil Analyst Amrita Sen telling Bloomberg TV that OPEC+ pulled off a “genius move” at their latest meeting because, "by keeping the meeting open throughout the month, the group can adjust its output if demand falls, effectively putting a floor under prices" adding that “you’re not going to be brave enough to sell against that. It was a pretty impressive move. The pause was the most logical outcome. Given all the uncertainty over the virus, it made sense. But the genius move was keeping this meeting open. It’s probably going to be the longest meeting ever.” Sen says OPEC+ couldn’t have increased output by more than 400k b/d due to uncertainty over demand. However, conversations among members regarding supply remain ongoing. “I wouldn’t be surprised if they do that (pause output hikes) in January.” Like Goldman, Energy Aspects maintains its Brent forecasts of $100/bbl for 2023 and $85/bbl for next year.
The MCP research team holds no price target for crude, although, we all hope the price at the pump goes down…
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