On the Price of Gasoline

One cannot help but notice that as Putin’s war in Ukraine drags on, the price of gasoline has gone through the roof. A combination of post-COVID economic adjustments and sanctions on the Russian regime has driven the price to a comparative level not seen since the oil embargo of the 1970s.

Needless to say, there are a lot of complaints and questions:

Why can’t the president do anything about this?”

Why does it always seem like the price goes up even before any sanctions / disasters / whatever could possibly have an effect?”

Why is there so much variation in prices from one station to the next?”

The first question is a general gripe that reveals a poor understanding of economics and presidential power; the last two contain hints as to the reason behind the dramatic price increase.

This was all explained to me some time ago by someone who worked in the petrochemical industry. I probably don’t remember everything precisely, but I think this is good enough.

The most important thing to remember is that your local service station is NOT owned by the oil company. Like fast food places, they are franchises. The local owner / manager has signed a contract with the oil company to sell their products – and only their products. They buy their stuff from the oil company, and sell it back to us. The sign out front is NOT who owns the station, but rather whose gasoline (and other products) you can buy there.

Because of that, the price you see is not directly set by the oil company; it’s a combination of factors – the most important one is how much it’s going to cost the service station to refill their underground tank. And that can vary a LOT depending on when they’ll need to place the order for a refill.

As a rough example, let’s say two service stations each have 5,000 gallon tanks, and they each sell about 1,000 gallons a week. Bob’s got 4,000 gallons in his tank; Ray is down to his last 1,000. Obviously Ray needs to place his order today; Bob can wait a few weeks. Ray can set his per gallon price based on what today’s order will cost; Bob has to guess at what the price for a refill will be in four weeks – and set his price so that he will have enough money to afford the refill. Service stations are generally small and independent places; they cannot afford to be caught with insufficient funds….

There’s a lot of guesswork involved, as you can imagine. But that’s why there’s so much variation from station to station and even day to day in the price of a gallon.

One other thing to keep in mind is that you can’t just automatically increase production of crude oil or buy it from somewhere else. There’s a lot of difference in crude oil that has nothing to do with who pumps it out of the ground – and not all crude oils make for good gasoline. This video touches on it….

 

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