Summer Seasonal Demand Could Further Impact Pump Prices

Dean Foreman
Posted May 26, 2022

The 2022 summer driving season starts revving up after Memorial Day, and it poses lots of questions for Americans as they take to the roadways – from vacationing families to truckers delivering goods from one end of the country to the other.

This summer could be like none other in recent memory. As the driving season starts, families and businesses already have been buffeted for months by higher fuel prices. The leading contributor has been petroleum demand growth outpacing growth in supply following the pandemic and with economies restarting. Summer motorists could face new headwinds if increased driving further boosts demand, as it has historically.

The takeaway is one we’ve been talking about for months – the need for continued growth in American oil production to help put downward pressure on global crude oil prices. U.S. production is increasing, yet to sustain more production the industry needs more access to public resources onshore and offshore, more infrastructure and clear policy signals affirming the future vital role of oil and natural gas. This is critically important to foster new oil and gas investment for the years to come.

AAA expects Americans to travel this summer like it’s 2019 – by car and by plane – and much more so than last summer.

Of course, motor gasoline prices have risen considerably this year. Regular gasoline prices were $4.60 per gallon as of May 23, up from $3.04 per gallon one year ago, including more than one dollar per gallon or nearly a nearly 30% since February 24, per AAA.  Let’s call that the “Putin premium.”   

And airline ticket prices have also risen, in part due to higher jet fuel prices but also because resurgent air travel demand has outpaced airline additions of flights and routes since the pandemic.

Importantly, these higher costs for motor fuels and air travel have occurred against a backdrop with the higher consumer price inflation in more than 40 years per the U.S. Bureau of Labor Statistics (BLS). 

This wave of suddenly higher prices could also stress household budgets. Consumer delinquency rates on loans and leases, which are lagging indicators of a problem, have remained at relatively low levels per the Federal Reserve Board (FRB).  Yet, the University of Michigan’s latest survey of consumer sentiment suggests that Americans have recently felt worse about their economic prospects than they have in many decades. Compared with credit delinquencies, the Michigan survey has historically been a leading indicator of consumer spending that makes up about 70% of the U.S. economy.

With this said, let’s take on the questions du jour.

How are petroleum product prices set?

Although we’ve addressed this point before, it’s important to keep in mind that global markets, not firms or individuals, set prices. Refined products are quintessential commodities – that is, they are produced by many sellers, are fungible or standardized products that are storable and tradeable, and the sales transactions occur in highly competitive and financially deep/liquid markets via spot sales, contracts and futures markets. This means that the refiners that make petroleum fuels are price takers (vs. price makers) both for their crude oil inputs and the products they make economically in something close as there could be to the theory of perfect competition.

Why have crude oil and motor fuel prices risen so far this year?

As we’ve consistently identified over the past year based on API’s primary market data, a combination of demand outpacing supply, low inventories and import dependence (recently shifted to an increased pull for U.S. energy exports), has historically been a recipe for upward price pressure.    

Motor fuel prices have historically corresponded with those of crude oil, and the U.S. Energy Information Administration (EIA) currently estimates that 60% of the gasoline price per gallon at the pump stems directly from that of crude oil.

The reason crude oil prices have risen mainly relates to a dearth of domestic crude oil production compared to where the U.S. was in 2019, but the compounded effects of Russia’s war in Ukraine on energy, agriculture, steel and other commodities globally has been palpable – and appears to be both large in magnitude and difficult for policymakers to address in the near-term.

This is not to give policymakers a free pass about poor choices that have restricted U.S. energy production and contributed to making a bad situation even worse, but world has a genuine global supply problem, and we are all in this together.

Other than high prices as a starting point, why does this summer appear to be different from past ones?

By economic fundamentals, we generally see downward pressure on prices when that something is in abundance – and inventories can serve as an indicator of relative abundance.

U.S. crude oil inventories have recently been at their lowest levels since 2014.  Notably, U.S. commercial crude oil inventories, excluding the U.S. Strategic Petroleum Reserves (SPR), between December and April each year on record since 2005 have historically risen by an average of more than 40 million barrels in advance of increased refining activity preceding the summer driving season. However, as of April 2022 year-to-date, U.S. crude oil inventories fell by 3.4 million barrels. 

Consequently, a drawing upon commercial inventories over the balance of 2022 could correspond with historically low stock levels. And, conversely by economic fundamentals, scarce supply has historically been a potential source of upward price pressure.

These factors suggest that on top of fuel price levels resulting from the post-pandemic demand/supply imbalance, summer driving demand has historically added seasonal upward pressure on retail prices.   On average since 1993, prices in May through August have averaged about 4% than the average for each year, per EIA.

Aren’t U.S. Strategic Petroleum Reserves helping counter the loss of Russian oil to global markets?

By the numbers, the U.S. released about 8.5 million barrels of light crude oil from the SPR between April 1 and May 13, per EIA.  U.S. crude oil exports increased by about 20.5 million barrels over the same period, so over 40% of barrels from the U.S. SPR have contributed to fungible global oil supplies.

It appears that U.S. releases from its SPR have added to global supply. However, this could leave less protection in the event of future oil supply disruptions. A significant disruption this summer could have an amplified market effect, given how tight markets have been recently.

What is indicated in motor gasoline and diesel distillate market fundamentals?

U.S. motor gasoline and diesel fuel have shown similar market developments so far this year, including refinery production that has been strong within their respective five-year ranges; demand that began that year at a historically strong pace but dropped to the middle of the five-year range by April; exports that essentially doubled between January and April; and, inventories that have fallen to or below the bottom of the five-year range.

In short, these observations suggest that U.S. refining has stepped up and met strong but slower demand so far this year.

Has the East Coast been disproportionately affected?

Yes, regional disparities in stocks are pronounced on the East Coast, both for crude refined petroleum products, where trade with Europe normally serves as an integral part of the supply mix but has broken down with higher exports but also lower and more expensive imports in the wake of Russia-Ukraine.

The increased international pull for U.S. petroleum products has contributed to low inventories. Consequently, calls to ban exports from some in Washington wouldn’t be surprising. But this would essentially abandon America’s European and other allies and tell them that they are completely on their own. Export bans would also be detrimental to broader international economic and trade relationships.

The best answer is to enact cogent, all-of-the-above energy policies that foster U.S. domestic crude oil production, refining activities, infrastructure and trade.

What’s wrong with a windfall profits tax, as some have proposed?

Taxing a sudden, short-term rise in operating margins could undermine investment incentives, and those who argue otherwise are being both selective and specious in their thinking.

Large capital investments depend on earning returns through the business cycle, and since 2014 the operating margins -- that is, profit per dollar of sales – among downstream companies have averaged in the low single digits, including losses of 5% in 2015 and 8% in 2020. 

As noted above, refiners are price takers. They’re also exposed to global commodity price risks – and do not have the protection of guaranteed regulated rates of return like utilities. Downstream operating margins trailed both the S&P 500 and even the utilities segment of the S&P 500, which averaged more than 10% operating margins since 2015 per Standard & Poor’s.

If policymakers raise taxes whenever margins rise but offer no downside production, that could become a significant deterrent to investment and work against the very problem that policymakers hope to address.