Drop in Crude Prices Doesn’t Mean Savings at the Pump

October 12, 2011 7:35 AM16 commentsViews: 43

Drop in Crude Prices Doesn't Mean Savings at the Pump

No, U.S. motorists, you haven’t been imagining it: despite a large decline in oil prices since May, gas prices have taken a longer time to fall than to rise.

Gas prices rocketed up about $1.85 per gallon in just two short months this spring, to an average price for regular unleaded of about $4 per gallon in May from about $3.15 per gallon in late February.

The push higher was propelled largely by a surge in oil prices, which rose from about $84 per barrel to about $114 per barrel during the same period.

However, since May, the price of crude has tumbled, due to concerns about the durability of the U.S. and European economic recoveries and the ouster of Libya’s Moammar Gadhfi, with crude falling to about $86 per barrel in mid-October.

And yet, despite oil’s plunge a massive $20 in two months during the down-trek, to about $90 per barrel in early August, the price of gasoline dropped very little during the same period, from the aforementioned $4 per gallon to about $3.70 per gallon in early August.

A $20 drop in crude should have netted a 40-cent or 50-cent drop in gasoline prices. So, what gives?

One reason is the summer driving season: U.S. gasoline demand is highest in June, July, and August, when many Americans take vacations: in particular, families take vacations because, as rock singer Alice Cooper famously noted, school is out for summer.

Another Reason For Slowly Declining Gas Prices: Greed

However, another reason is gas station operator greed. You read correctly: greed. Others would call it simply “profit maximization.”

To be sure, many locally owned gas stations operate on small margins, but that doesn’t mean they aren’t vulnerable to the human weakness called avarice.

When the price of oil rises, many gas station operators immediately raise their price of gasoline because they know that their gasoline supplier, often an oil company, will increase the price of their next gasoline delivery. The gasoline station practice helps smoooth out their cash flow, even though they purchased the gasoline still in their station’s tanks at a lower price.

However, these same gas station operators don’t apply the equal, reverse practice when the price of oil drops. When oil declines, gasoline suppliers will often drop the price of their next delivery, but many gas station operators won’t lower prices at the pump immediately.

In fact, what many stations do is keep the price of gasoline high — as high as the market will allow — even after they’ve pumped all of the “higher-priced gasoline” in the their tanks, and have taken possession of the new, “lower-priced gasoline.”

The reason? You guessed it: these gas stations operators are trying to squeeze a few more pennies (or nickels and dimes) of profit out of each gallon of gasoline — i.e. they’re trying to profit from the larger spread. Many gas station owners won’t immediately pass on their lower costs to their customers. Depending on your perspective, that’s either profit maximization or greed.

What corrects the sneaky practice? The market. Eventually, consumers will bargain hunt and look for a gas stations that has lowered their gas prices. The higher-priced gasoline stations will hang on to their prices for as long as they can, but eventually — unless they want to lose a considerable portion of gas sales business — when prices fall at nearby stations, they’ll then drop their prices, to remain competitive.

To be sure, other factors can affect gasoline price rise rates and decline rates, but the above practice is the major reason gasoline prices rise so quickly, and fall so slowly. No, you weren’t imagining it.

Gasoline/Energy Analysis: Had oil’s price drop this year occurred outside of summer and had gas station owners immediately passed on the savings from the lower-cost of gasoline in the past four months as oil prices fell, the average price of regular unleaded would have fallen to $3.30 per gallon or even less in early August.

Further, gasoline pricess (and diesel and heating oil prices) aren’t inconsequential matters regarding the U.S. economy: American motorists and businesses consume a high amount of fuel, on a per capita basis, and every dollar used to purchase energy is one less dollar available for other decisions (consumption, investment, business expansions, etc.)

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