Cost Analysis of Gas Prices - Research Paper Example

Cost Analysis of Gas Prices Gas and oil prices are an important aspect of the economy that everyone keeps their eyeson. This is attributed to the fact that they affect the financial situation of everybody. Gas and oil prices have a negative effect on the economy because they have the power to control the consumer’s spending as well as force retailers to increase prices making consumers spend more (“What Affects Fuel Pricing”). Several people wonder what affect the prices of oil and gas, and in actuality there are numerous different answers since several people will give varied answers. Therefore, this paper will seek to explicate some of the main factors that determine the gas prices, problems, causes and solutions. First and foremost, it is important to note that the supply and demand market place determines the worth of fuel. This is because an increase in demand and a decline in supply will automatically lead to a rise in price. On the contrary, if the demand goes down or there is an upsurge supply, then the fuel price will automatically decrease. In case a retailer decides to market its gas at a high price without considering the pricing of the competitors, then consumers will go and buy gas from the competitor selling at lower prices. When this happens, the retailer will lose business due to the high pricing and this will compel him to lower his gas prices in order to be competitive and maintain his customers (“What Affects Fuel Pricing”). Retailer competition also affects gas prices and this can be grasped by the differences in price on stretches of highways that have multiple gas retailers. When there are several choices that consumers can choose from; then it boils down to more competition on the retailers’. In as much as many retailers carry gas and oil from major oil corporations, they are independent merchants of the product. This implies that they have the freedom to set the prices the way they so wish. Chevron Corporation asserts that, crude oil is merchandized on the global market just like agricultural products such as corn and wheat, and precious metals such as silver and gold. In recent times, the prices of crude oil have increased dramatically as a result of the rising world demand and political instability in most of the oil producing countries (“What Affects Fuel Pricing”). Crude oil is the most important raw material used in gasoline and other petroleum products production. Therefore, it plays an integral in determining the price of gasoline. Crude oil price may be up to half the cost of one gallon of gasoline. Crude oil is processed and turned into gasoline in a refinery, and then it is taken to a terminal where wholesalers buy it for distribution to the retailer network. At the retail location, the retailer sets the gasoline price which incorporates a margin that accounts for the cost of doing business as well as profit. Crude oil takes the biggest portion of the gas cost. The amount of crude oil produced by the world’s oil exporting nations known as the Organization of the Petroleum Exporting Countries (OPEC) determines the cost of one barrel of oil. In 2004, before Hurricane Katrina, the crude oil prices averaged $35 per barrel; however, after the hurricane the prices doubled that (“What Affects Fuel Pricing”). In April 2008, crude oil prices were averaging at $104.74 per barrel and oil prices were reported to be almost $120 per barrel. By 16th May the prices had reduced to $117 a barrel. By 22nd May, London and New York oil markets registered prices slightly above $135 a barrel. Again, on 11th July, oil prices hit an all-time high figure of $147 (“What Affects Fuel Pricing”). The various market changes of oil prices was attributed to an increase in oil futures as a result of an increase in demand from countries such as China and India. In case there is conflict or threat of war that may disrupt oil production in an oil producing nation, then the prices of gas and oil are most likely to increase. An example of a conflict that interfered with oil production was the attack on Nigerian rich oil fields in 2008. This attack compelled Royal Dutch Shell to close its production of an oil field that was producing approximately 200,000 barrels of crude oil per day (Harris). Another recent clash was the disruption of Iraq exports by Kurdish and Turkish forces. All these issues lead to an increase in the price of oil and gas; thus, consumers do not have a choice other than dealing with the effects. Legislators also play a major role in influencing the oil and gasoline prices. The changes made in the 2007 federal energy legislation required several states to use varied blends of a clean-burning gasoline known as ‘boutique fuels,’ or gasoline blended with ethanol formulated specifically to meet the state and federal regulations. These changes comprised regulations to minimize air pollution. In the US, there are eighteen separate formulas of gasoline for various regions. Therefore, creating different fuels leads to ‘island’ markets and makes it difficult for suppliers and refiners to move gasoline from one region to another. The overall result is that the regional or local demand is not met. In order to solve this problem, legislations made on gasoline productions should be tailored to the extent that it does not break its demand and supply. Tax is another important determinant of gasoline prices. Every gallon of gasoline is subjected to several fees and taxes, which varies by state. New York’s contemporary fees and taxes are 67.4 (CPG), Pennsylvania’s contemporary fees and taxes are 50.7 cents per gallon (CPG) and New Jersey’s contemporary fees and taxes are 32.9 (CPG) (“What Affects Fuel Pricing”).The total fees and taxes from every state comprise federal taxes of 18.4 (CPG). As at December 2012, the American Petroleum Institute reported the nation’s average for gasoline fees and taxes was 45 (CPG) (“What Affects Fuel Pricing”). From all this, we clearly see that taxes plays a major role in gas and oil pricing. High taxes and fess results to high prices of oil and gas. Therefore, the taxes and fees levied on gas and oil should be fair so that the consumers can be able to purchase the commodity at fair prices. Sometimes there is an upsurge in gas and oil prices even though there could be plenty of crude oil in the market. This is attributed to the fact that there are several types of oil and there prices also varies. In this regard, oil can categorized as light or heavy, and as sour or sweet (oil is never tasted, but that is how it is called). Light, sweet crude oil is cheaper and easier to refine; however, their supplies are running low. Heavy, sour crude oil is plentiful and readily available all over the world; however, refineries, especially in the US must undergo expensive retooling to handle it. Sanctioning requirements necessary for petroleum infrastructure plays a role in affecting gas and oil markets. Despite the fact that the demand for gas and oil have tremendously increased in the United States of America over the years, there are no new oil refineries that have been built since the 1970s (Rugaber). So as to meet the increasing demand, the United States of America must import massive volumes of gasoline as well as other petroleum products. It goes without mention that the cost of crude oil significantly increases the cost of gasoline at the retailer pumps. This problem can be solved by sanctioning the construction of new oil refineries so as to increase the volume of gasoline produced in the country. An upsurge in gasoline supply will automatically lead to a reduction in gasoline price. Natural disasters also have an integral role in determining the prices of gas and oil. This is attributed to the fact that natural disasters normally generate imbalances in the supply and demand market mechanism. For instance, if supply of gasoline products are disrupted in one region, short term demand is likely to exceed the supply; thus, driving the prices high in other parts of the country (“What Affects Fuel Pricing”). This can be best explicated by the Hurricanes Katrina and Rita scenarios. The country faced a reduction in the gasoline supply by approximately ten percent. This resulted to the movement of gasoline supplies from other parts of the country to the South East. This affected the regions whose supply had to be moved resulting to an upsurge on gasoline prices. This was because the supply was interfered with while demand stayed high. The cost of refining gas and oil also determines its cost. For instance, diesel fuel price is costly compared to regular gasoline because since the cost of refining it is substantially high compared to the cost of refining gasoline (“What Affects Fuel Pricing”). The distance between local gas stations and refineries also plays a role in the cost of gas and oil prices (“What Affects Fuel Pricing”). This is attributed to the fact that the transportation costs are factored in the eventual price set by the retailing gas stations. For instance, stations situated nearer to the Gulf of Mexico, where numerous oil refineries are situated sell their prices at lower prices since they do not incur transport costs. The New York Mercantile Exchange (NYMEX) entry into the oil business in 1978 after the government’s deregulation of heating oil has also played a role in the gas and oil prices. From the time it entered into the business, it has threatened the deep-rooted interests of government and big oil groups such as OPEC that had monopoly of market prices. This is because it provided an open market; hence a transparent mechanism for pricing heating oil, and later, gasoline, natural gas, and crude oil (“NYMEX-U.S. Crude down on Weaker China Data, Libyan Oil Outlook”). High prices of gas and oil have adverse effects on other economy indicators such as consumer spending and this slows down the United States of America’s economy. For instance, the federal government publicized plans of spending $40 billion a month on buying mortgage bonds to ease the burden of buying homes (Rugaber). Additionally, it pledged to maintain short-term interest rates near zero up to mid-2015. However, the federal government’s actions played a major role in helping gasoline prices move up slightly above $100 a barrel (Rugaber). The federal government’s activities can push up gasoline prices in several ways. For instance, it generates new funds to pay for mortgage bond purchases. This leads to an increase in the amount of dollars circulation; thus, dropping the dollar’s value. Since oil is valued in dollars, the drop in the dollar’s value will automatically lead to a rise in the gasoline price. This is attributed to the fact that overseas investors would spend a lot of money to purchase dollars needed to buy oil. Lowering interest rates would compel venture capitalists out of safe assets such as bonds, leading them into extremely risky investments such as oil; hoping for greater returns (Rugaber). On the other hand, if the federal government activities fast track growth, the demand for gas and oil will increase leading to the rise in their prices. Oil Price Information Service reported that the high cost of gas is eating up a massive share of the United States incomes compared to the previous years. The expenditure at the pump accounts for approximately 8.2 percent of a family unit’s household income (Rugaber). This is slightly below the 8.3 percent registered in 2011. In the year 2012, it was reported that a typical family unit spends almost $342 per month on gasoline. However, prior to the upsurge in gasoline prices that began in 2004, families used to spend less than $200 a month (Rugaber). The upsurge in gas prices has compelled Americans to minimize their expenditures by driving less and buying hybrid vehicles that consume minimal fuel. In conclusion, the problem of rising gas and oil prices cannot be linked to only one issue as many consumers think (“What Affects Fuel Pricing”). One must look at the numerous varied aspects that determine the cost of gasoline at the pumps. Additionally, we must also look at natural disasters, rising cost of foreign oil, taxation, supply and demand, as well as legislation as legitimate factors that determine prices of gasoline. Works Cited Harris, Edward. “Shell Shuts Down Nigerian Oil Field After Attack.” Associated Press 7 July 2008. “NYMEX-U.S. Crude down on Weaker China Data, Libyan Oil Outlook.” Reuters. N. p., 2014. Print. Rugaber, Christopher S. “Rising Gas Prices Crimp Americans’ Spending.” Business - Boston.com. N. p., 2013. Print. “What Affects Fuel Pricing.” The Price of Fuel. N. p., n.d. Web. 6 Apr. 2014.  . Read More