R-Squared Energy Blog

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Haven’t We Seen This Before?

At this year’s ASPO conference, I was twice asked about the gasoline supply situation – once at a panel session and once by a reporter. At the time, there were gas shortages throughout the southeast, and some of the speakers gave the impression that this was the beginning of the end: Gas shortages are here to stay, and we are on the verge of the entire country running out of gasoline. There were a number of predictions along the lines of “It’s going to get a lot worse before it gets better.”

While first discussing the source of the gas shortages – low inventories followed by a hurricane that sidelined a significant source of refining capacity – I answered the question as follows: “This is a temporary event. We will see imports start to pick up and fill the shortfall. We will see refining capacity start to come back online, and I predict that a month from now gasoline inventories will be higher than they are today.”

Of course that doesn’t mean that we won’t find ourselves right back in this position, nor that it won’t be worse next time. But I think failure to understand how the refinery/pipeline/import system works – sometimes by people in positions of authority – can cause premature predictions of imminent disaster. I think we have far too many people who can’t identify a wolf telling the villagers that the wolf is here. Many know that this is a pet peeve of mine.

So what has happened since ASPO? The ASPO conference took place 4 weeks ago. At the time, gasoline inventories stood at 178.7 million barrels. Imports at that time were at 1.2 million barrels a day. Since then, we have seen 3 consecutive weeks of inventory build, and inventories now stand at 193.8 million barrels, just 2 million barrels short of their position of a year ago. Why have inventories built? Three reasons. Imports, as I predicted, picked up and have been above the 1.2 million barrel level in each of the past 3 weeks. Demand remains historically low due to high prices. And refinery utilization has increased in each of the past 3 weeks.

However, there was one thing I didn’t predict, and that is the primary topic of this essay. If someone had asked me, I would have guessed that because of the inventory situation, gasoline prices would remain strong. That hasn’t happened. (I think the anti-gouging laws worked to keep prices in check, at the expense of worsening the shortages. See Rationing by Running Out).

As inventories have recovered, gasoline prices have plummented. Retail gasoline prices have fallen each of the past 3 weeks, and are now down by $0.50 since the conference. This is of course being driven by the collapse of oil prices, but doesn’t bode well for spring gasoline prices. Why? It seems that we have been here before.

In August of 2006, retail gasoline prices briefly touched $3.00/gal. Prices then plummented by more than $0.70/gal, and spent the late fall/early winter in the $2.20/gal range. The sudden arrival of lower prices had two primary impacts. First, imports dried up, as it wasn’t nearly as financially attractive for exporters to send gasoline to the U.S. Second, demand picked up sharply, eventually reaching winter levels of 9.5 million barrels/day – unprecedented for that time of year. As one might expect, this resulted in a steep decline in gasoline inventories, and we went into the spring of 2007 with historically low inventories.

I devoted a lot of time in the first half of 2007 toward discussing the plunging inventory situation – and predicted much higher gasoline prices as a result. In mid-April, I even got into a debate with Doug MacIntyre, who at that time was the author of This Week in Petroleum, about the direction of gasoline prices. He felt like prices were peaking in April of 2007, I thought they still had room to run. In fact gasoline prices ran up another $0.33/gal in the six weeks following our discussion, setting a national retail gasoline price record at that time of $3.26/gal.

So now we return to the fall of 2008. Because of record gasoline prices, demand this year has been much lower than last year. At times this year, gasoline demand has been half a million barrels a day lower than at this time last year (or in 2006). But gasoline prices – currently still much higher than in 2006 or 2007 – are on a downward trajectory that is certain to result in an increase in demand. In fact, demand last week reversed course and trended higher for the first time since late August. If prices continue to fall, keep a close eye on demand, imports, and ultimately inventories. This is all setting up to be similar to the situation we saw of much lower prices in late 2006, which led to record gasoline prices by the summer of 2007.

This all highlights the fact that we are playing with fire with our gasoline inventories. It was no surprise to inventory watchers that parts of the country quickly ran out of gasoline following Hurricane Ike. This is the risk we run when we maintain gasoline inventories at a low level: Events that disrupt gasoline supplies can very quickly cause havoc. The solution to the problem isn’t easy. Refiners have seen margins evaporate, and thus don’t want to maintain high inventories. A strategic gasoline reserve would seem to be an answer, but it would be difficult to maintain because of the seasonal variations in gasoline blends. The shelf life just wouldn’t be long enough.

So while I expect this trend of shortages to continue, you can give yourself an advantage by being educated about the inventory situation – especially in your particular part of the country. That won’t prevent entire cities from running short of gasoline in the event of a disruption, but it can prevent you personally from being one of the masses of people waiting in gasoline lines, wondering exactly what went wrong.

October 19, 2008 Posted by | EIA, gas inventories, gas prices, gas shortages, gasoline demand, twip | 627 Comments

Rationing by Running Out

This looks ominous:


Gasoline Inventories at Lowest Levels Since 1967. Source: This Week in Petroleum

Of course we used a lot less gasoline in 1967, so on a ‘days of supply’ basis, this is probably the lowest level ever.

I just got back to Dallas from the ASPO conference, and we are having shortages here as well. My cab driver said he had been to several stations that had no gas, and my wife told me that the Texaco near our house is out of premium.

Someone asked during a panel discussion at ASPO whether we were going to have rationing by price. I answered that we are having that now. But prices aren’t going up nearly as much as you would expect during these sorts of severe shortages. Why? I think it’s a fear that dealers have of being prosecuted for gouging. So, they keep prices where they are, and they simply run out of fuel when the deliveries don’t arrive on time. If they were allowed to raise prices sharply, people would cut back on their driving and supplies would be stretched further. This article explains it nicely, and is well-worth a read:

Instead of raising prices, in an attempt to reduce demand for gasoline, thereby allocating gasoline that was in short supply by means of price, station managers simply let people fill up their tanks until the pumps were empty. Anyone who wanted gasoline after that was out of luck.

This is rationing by lining up. It is the alternative to rationing by price. Rationing by lining up creates no financial incentive for suppliers of the item in short supply to allocate new supplies to the region of the country which is experiencing a shortage. Instead, delivery schedules remain the same as they did prior to the shortage. This continues the shortage.

Whenever there are complaints about price gouging during a period of a shortage, sellers get the message. The next time there is a shortage, they hesitate to raise prices. They shift to the other allocation system: first come, first served. This subsidizes people who have a low value on their time. People who place a high value on their time prefer to pay extra money in order to attain their goals. But this is made illegal by the state. So, the shortage lasts longer than it would otherwise have lasted.

The official goal of the government is to make certain that everyone has access to the item in short supply. The government says that raising prices during a shortage is unfair. So, the result is the opposite of what the government’s official justification was for holding prices down. There is an even greater shortage, because people buy more of the item than they need immediately. They have no incentive to reduce their consumption, thereby making available applies to those who were at the end of the line. There is no incentive for anyone at the front of the line to refrain from filling his gasoline tank. So, gasoline runs out before the line runs out.

Such are the unintended consequences of government intervention. Personally, I would rather at least have the option of paying twice as much for gas than to either wait in line for a long period of time, or have to drive all over town to find some.

I also said last night that I don’t believe we are entering an era of gasoline shortages. I predict that inventories a month from now are higher than they are today. But the recovery will take longer than if prices had risen sharply.

What is the status of the refineries that are down? This story has the details:

EXXON MOBIL

• Baytown refinery, the largest in the U.S., is restarting.

• Beaumont refinery remains offline.

VALERO

• Houston and Texas City refineries should be back to normal in several days.

• Port Arthur refinery remains shut in but should begin the restart process in several days.

SHELL

• Deer Park refinery, third- largest in the Houston- Galveston area, is restarting. Normal operating rates are expected by the weekend.

• The Shell-Motiva joint venture refinery in Port Arthur is still shut in. Power has been restored, and production of gasoline is expected to begin this week.

BP

• Texas City refinery, second- largest in the Houston- Galveston region, has not restarted.

SOURCES: Department of Energy, the companies

I don’t believe any of ConocoPhillips’ refineries are still down, so their branded stations are likely to have supplies. In fact, CNN reports:

A ConocoPhillips (COP) spokesman said the company “is not short crude and our system is generally balanced.”

Finally, I have just returned home after 3 weeks on the road. I have a massive backlog of e-mails to wade through, and if you have sent me an e-mail and I haven’t answered it, please be patient for a couple of days. I am going to limit my time on the computer for a few days.

September 24, 2008 Posted by | EIA, gas shortages, rationing, twip | 37 Comments

Rationing by Running Out

This looks ominous:


Gasoline Inventories at Lowest Levels Since 1967. Source: This Week in Petroleum

Of course we used a lot less gasoline in 1967, so on a ‘days of supply’ basis, this is probably the lowest level ever.

I just got back to Dallas from the ASPO conference, and we are having shortages here as well. My cab driver said he had been to several stations that had no gas, and my wife told me that the Texaco near our house is out of premium.

Someone asked during a panel discussion at ASPO whether we were going to have rationing by price. I answered that we are having that now. But prices aren’t going up nearly as much as you would expect during these sorts of severe shortages. Why? I think it’s a fear that dealers have of being prosecuted for gouging. So, they keep prices where they are, and they simply run out of fuel when the deliveries don’t arrive on time. If they were allowed to raise prices sharply, people would cut back on their driving and supplies would be stretched further. This article explains it nicely, and is well-worth a read:

Instead of raising prices, in an attempt to reduce demand for gasoline, thereby allocating gasoline that was in short supply by means of price, station managers simply let people fill up their tanks until the pumps were empty. Anyone who wanted gasoline after that was out of luck.

This is rationing by lining up. It is the alternative to rationing by price. Rationing by lining up creates no financial incentive for suppliers of the item in short supply to allocate new supplies to the region of the country which is experiencing a shortage. Instead, delivery schedules remain the same as they did prior to the shortage. This continues the shortage.

Whenever there are complaints about price gouging during a period of a shortage, sellers get the message. The next time there is a shortage, they hesitate to raise prices. They shift to the other allocation system: first come, first served. This subsidizes people who have a low value on their time. People who place a high value on their time prefer to pay extra money in order to attain their goals. But this is made illegal by the state. So, the shortage lasts longer than it would otherwise have lasted.

The official goal of the government is to make certain that everyone has access to the item in short supply. The government says that raising prices during a shortage is unfair. So, the result is the opposite of what the government’s official justification was for holding prices down. There is an even greater shortage, because people buy more of the item than they need immediately. They have no incentive to reduce their consumption, thereby making available applies to those who were at the end of the line. There is no incentive for anyone at the front of the line to refrain from filling his gasoline tank. So, gasoline runs out before the line runs out.

Such are the unintended consequences of government intervention. Personally, I would rather at least have the option of paying twice as much for gas than to either wait in line for a long period of time, or have to drive all over town to find some.

I also said last night that I don’t believe we are entering an era of gasoline shortages. I predict that inventories a month from now are higher than they are today. But the recovery will take longer than if prices had risen sharply.

What is the status of the refineries that are down? This story has the details:

EXXON MOBIL

• Baytown refinery, the largest in the U.S., is restarting.

• Beaumont refinery remains offline.

VALERO

• Houston and Texas City refineries should be back to normal in several days.

• Port Arthur refinery remains shut in but should begin the restart process in several days.

SHELL

• Deer Park refinery, third- largest in the Houston- Galveston area, is restarting. Normal operating rates are expected by the weekend.

• The Shell-Motiva joint venture refinery in Port Arthur is still shut in. Power has been restored, and production of gasoline is expected to begin this week.

BP

• Texas City refinery, second- largest in the Houston- Galveston region, has not restarted.

SOURCES: Department of Energy, the companies

I don’t believe any of ConocoPhillips’ refineries are still down, so their branded stations are likely to have supplies. In fact, CNN reports:

A ConocoPhillips (COP) spokesman said the company “is not short crude and our system is generally balanced.”

Finally, I have just returned home after 3 weeks on the road. I have a massive backlog of e-mails to wade through, and if you have sent me an e-mail and I haven’t answered it, please be patient for a couple of days. I am going to limit my time on the computer for a few days.

September 24, 2008 Posted by | EIA, gas shortages, rationing, twip | 258 Comments