Gas Prices Fall More Slowly Than Oil Prices

Crude oil prices have plunged around 15 percent in the last couple of weeks but gasoline prices have not. Is there a reason for that?

Actually, there is. The biggest disconnect is the fact that we are talking about two very different markets.

When we read that crude oil prices have plunged from around $100 a barrel to around $85, this price action is taking place on a futures market. It is the price of crude oil, to be delivered to the buyer next month.

The gasoline prices we all pay are in a retail market. Gasoline is a product that was made from raw materials purchased a few weeks ago, refined and delivered to gas stations across the country. The retail price, in large part, reflects the costs that prevailed in the market before today.

Competition

Because gasoline is sold to consumers in a competitive environment, some retailers will shave their profit margins a bit to sell fuel for slightly less than the gas station down the street. When their costs fall, they try to recoup some of that profit by increasing their margins.

In addition, there now exist two different prices of crude oil. WTI, produced mostly in the U.S. southwest, is significantly cheaper than Brent crude, which comes mostly from the Middle East. The loss of Libyan output has made Brent 15 to 20 percent more expensive than WTI.

In the U.S., some states get gasoline refined from Brent rather than WTI. These states tend to be in the northeast, which makes gasoline there cost more. If Brent crude falls more slowly than WTI, this can affect the price of Brent-refined gasoline. While there is plenty of WTI available, supply bottlenecks prevent it from being easily and efficiently transported to some of these states now dependent on Brent.

But at least prices are falling

The good news for consumers is that gasoline prices, while slow to fall, will likely keep falling as these new, lower prices work their way into the system. Many oil industry analysts have long believed that crude oil prices have been artificially high in recent months because of the belief that the world economy is recovering and would soon need more oil than is currently available. Events of recent weeks have changed that thinking.

Now, the prevailing view is that the economy is actually slowing and could possibly dip once again into a recession.

It may also be no coincidence that oil prices began to escalate a year ago after the Federal Reserve announced “Quantitative Easing II (QEII), its policy of trying to stimulate growth by increasing the money supply. Oil traders viewed the policy as devaluing the dollar, which is the currency used to price oil. Therefore, they concluded, it would take more dollars to purchase the same barrel of oil. QEII ended in June and the Fed has not announced a QEIII.

Meanwhile, gasoline prices are slowly headed lower. The national average price of self-serve regular today is $3.587 a gallon, according to AAA. That's down about 12 cents a gallon in the last 11 days, with the outlook for a continued steady decline as the summer driving season comes to a close.