Senin, 09 April 2012

The threat of higher gasoline prices is receding

According to AAA, the nationwide average price of regular gasoline is $3.93/gal. (In California we are paying well over that, with prices for premium approaching $5/gal.) As the chart above shows, gasoline prices today are about as high as they have ever been. Does this pose a threat to our struggling economy? While it's undoubtedly a problem, I think it's more in the nature of a headwind rather than a big recession threat.

The chart above compares the nationwide average price of regular gasoline (orange line) with the price of nearby wholesale gasoline futures prices (white line). Note how well these two series track each other, but especially note that the orange line tends to lag the white line a bit. That makes sense, since future prices operate in real time and wholesale prices necessarily lead retail prices. Note also how wholesale prices have rolled over in the past week, and are basically unchanged over the past month. Pump prices have only recently gone flat. So the price of gasoline futures today suggests that pump prices will probably decline to $3.80-3.85 in the next few weeks.

The first of the above two charts focuses on recent trends in crude oil prices, using the NYMEX futures contract. Here we see that prices today are about 30% less than their peak in mid-2008. (Arab Light Crude currently has been trading at an unusually wide 20% premium to U.S. crude for the past nine months or so, and I'm guessing that mid-east tensions account explain a lot of that.) The second chart shows the inflation-adjusted price of Arab Light over the past 40 years. On this basis crude is about 15% below its mid-2008 level.

The chart above compares the price of Light Sweet Crude to the wholesale price of gasoline. They track each other closely—as they must—but it should be clear that gasoline prices today are quite high relative to crude prices. This is probably a function of a shortage of refinery capacity. It's going to be difficult for gasoline prices to move higher unless crude prices increase by a lot. Meanwhile, market arbitrage is going to tend to bring gasoline prices down relative to crude prices. And since pump prices are high relative to wholesale prices, and wholesale prices are high relative to crude prices, it is reasonable to think that pump prices are at least unlikely to rise further, absent a significant increase in crude prices, and could well decline.

From a longer-term perspective, these charts show that, thanks to the greatly increased energy efficiency of the U.S. economy (last year the U.S. consumed 18.84 million barrels of oil per day, the same as in 1978, despite the fact that the size of the U.S. economy has increased by 130% since 1978), the average person is spending only 6% of his disposable income on energy, or about one-third less than in 1980. They also show how spikes in the price of oil lead to a substantial reduction in U.S. oil consumption, thanks mainly to technology gains and ongoing conservation and energy efficiency efforts. Since gasoline prices are very high in both nominal and real terms, it is thus reasonable to expect that gasoline demand will be soft for the foreseeable future, while the demand for more energy-efficient vehicles will remain strong.

This chart shows how drilling and exploration activity respond to the real price of crude, which is perfectly rational; crude prices have jumped since the end of the recession, and this has led to a surge in drilling and exploration activity all over the world. Combine this with the prior two charts and you see how expensive gasoline is the "cure" for high gasoline prices, since high prices lead to reduced demand and increased oil drilling and exploration. Prices are definitely high in real terms today, so gasoline demand is likely to be soft, even as drilling activity continues to pick up. And with prices at the pump somewhat high relative to wholesale prices to crude prices, we are unlikely to see pump prices rise much further, if at all, in the near term. Finally, gasoline prices at this level do not represent an unusual burden on consumers' pocketbooks in historical and relative terms.

Expensive gasoline is a problem, but market forces are working to alleviate the problem, and consumers are less dependent on energy prices in general than they have been in the past. So the current spike in gasoline prices is not necessarily an economy killer.

UPDATE: The following two charts show how incredibly cheap natural gas has become in the U.S. This undoubtedly alleviates to a meaningful degree the problem of expensive gasoline.

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