<%@LANGUAGE="JAVASCRIPT" CODEPAGE="65001"%> Underlying causes of high fuel prices
Little Log


By Leo Everitt (03/08)

Ed Note: We've had many comments expressing concern and frustration over the ever-increasing cost of fuel. Many are convinced prices are artificially inflated, and that either the government or "big oil" is maniupating fuel costs. I asked one of our frequent contributors, Leo Everitt, for his opinion. Leo is a former senior executive with multiple Fortune 500 companies, including Cummins. I have considerable respect for his views on issues such as this, and he offered up a response to me query. I thought it was so interesting and informative that I asked for his permission to share it here with our readers:


The basic answer is that gasoline and diesel serve two different markets and come from different supply chains.


Increased gas prices are reducing demand, which demand is being further reduced by the economic downturn, so demand is going down rather dramatically. At the same time ethanol production is increasing dramatically to a forecasted 2.7 billion gallons a year beginning this year or a 33% increase over 2007 thus dramatically increasing “gasoline” supply. Further there is a worldwide effort to convert automobiles to diesel, especially in Europe, thus driving up diesel demand and this in turn further reduces gasoline demand. This supply/demand imbalance in favor of supply is pushing gas prices down and gasoline is expected to be under further downward price pressure through the summer absent a miracle increase in economic outlook.


Europe is subsidizing the cost of using diesel fuel to manage a shift to diesel fueled automobiles for higher fuel economy and reduced pollution. This has the effect of reducing or eliminating exports of diesel fuel to the US thus reducing US supply. Diesel fuel capacity is constrained in US due to lack of any new capacity having come on stream for decades and only one new refinery presently being built and not expected to be on line until 2012. Further, much diesel usage is not tied to consumers but rather consumed as heating fuel, jet fuel, railroad and on-highway trucks, etc. These industrial consumers are not impacted in same way as individal consumers. Bio-diesel has not reached the same level of production as ethanol and thus has not significantly increased the supply. The problem gets worse over next 12-18 months as diesel powered autos will move into US mainstream by 2010 thus increasing diesel demand and lowering gasoline demand. Cummins new automotive diesel plant is ramping up in Columbus, IN and expects to be supplying Chrysler with both SUV and smaller pickups within next year for 2010 models. Further, diesel fuel prices are much higher in Europe and thus it is attractive for refiners to ship to Europe if they should have any shortfall in domestic production.

In short, the deck is stacked domestically towards increasing diesel fuel prices and lower gasoline prices and thus an ever widening price differential .

A Key Consideration

While the market forces noted above play out on the US domestic scene, it must be kept in mind that the emergence of dynamic growth economies in China and India, along with others, is increasing worldwide demand for crude and thus will force prices up over the foreseeable future. It really serves no useful purpose to have an irrational debate about supposed conspiracies involving the government or the oil companies. More constructive is the larger debate about energy and environmental impacts, and by taking a stand in support of those who are arguing for the development of a comprehensive US strategic energy policy that can enhance US energy independence and provide for environmental improvement.