Opinion: It’s not just oil prices – refining capacity drives up fuel bills

Reuters – Global inventories of refined petroleum products have fallen to extremely low levels as refineries prove unable to meet growing demand, particularly for diesel-type fuels used in manufacturing and the transportation of goods.

The result has been a spike in the prices refiners receive for selling fuels relative to the prices they pay to buy crude and other raw materials, dramatically increasing their profitability.

Refiners in the United States currently receive an average of more than $150 per barrel (all figures are in US dollars) from the sale of gasoline and diesel at wholesale prices, while only paying about $100 for buy crude.

The indicative 3-2-1 margin of $50 per barrel is based on the assumption that a refinery produces two barrels of gasoline and one barrel of diesel from refining three barrels of crude.

The margin is meant to be representative of an “average” refinery and is a gross figure on which refiners must pay for labour, electricity, gas, hydrogen, catalysts, pipeline transport and the cost of capital.

Net margins are tighter and refining costs have risen rapidly due to the widespread inflation that has devastated the economy following the coronavirus pandemic.

Still, even accounting for rising input costs, gross margins have more than doubled to $20 at the end of 2021, ensuring refiners have a strong financial incentive to maximize crude processing and fuel production. .

Gross margins are currently higher for the manufacture of diesel (nearly $60 per barrel) than for gasoline ($45 per barrel) reflecting the relative scarcity of middle distillates.

U.S. inventories of distillate fuel oil are 31 million barrels (23%) lower than the five-year pre-pandemic average, compared with a shortfall of just six million barrels (3%) of gasoline.

The squeeze on fuel inventories and refining capacity is compounding already high crude prices caused by sanctions on Russia and production curbs by OPEC+ and U.S. shale producers.

The resumption of international passenger aviation with the lifting of quarantine restrictions further tightens the fuel market, as jet fuel is broadly similar to diesel and gas oil.

The effective wholesale price of diesel has climbed to over $160 a barrel while gasoline is trading at over $150, based on futures contracts for delivery in New York Harbor.

Once distributor and retailer markups and taxes are included, the average pump price paid by motorists jumped to $236 per barrel for diesel and $186 per barrel for gasoline.

The refining margins and fuel prices quoted in this column are all for the United States, but the same shortage of refining capacity and fuel inventory is driving up diesel prices elsewhere and driving gasoline prices with them. .

Refiners have the opportunity to increase fuel production by postponing non-essential maintenance and running refineries at full capacity until early fall. And also some margin to adjust the production mix by switching from maximum petrol mode to maximum diesel mode in the downstream processing units.

But any increase in diesel production is unlikely to fully reverse the depletion of inventories and bring them back to pre-pandemic levels. Prices will therefore have to continue to rise until they begin to restrict consumption or the economy enters a cyclical downturn.

Consumers can reduce their short-term fuel consumption by consolidating freight loads (fewer trips, flights, and deliveries), reducing speeds (slower trips, flights, and drives), and eliminating idling of engines.

But the fuel savings are relatively modest and tend to degrade service levels, reduce capacity and increase capital costs.

In contrast, a downturn in the business cycle results in large simultaneous reductions in diesel use – either absolute or relative to trend – by freight companies, manufacturers, miners and construction companies.

Downturns in the business cycle have therefore tended to be the primary route through which the distillate market and other fuels markets have rebalanced in the past.

The adjustment process is likely underway in 2022. The cyclical downturn and reduction in fuel demand could occur in one, two or all three major consuming regions.

Parts of China’s economy already appear to be in recession as coronavirus shutdowns cripple factories and transportation systems and depress consumer spending.

Europe’s economy is on the brink of recession as Russia’s invasion of Ukraine, sanctions imposed in response, soaring energy prices and runaway inflation disrupt manufacturing and drive down household spending.

The United States is the only major economy with significant momentum, but there too the rate of expansion is slowing, which will likely lead to slower growth in distillate consumption later in the year.

John Kemp is a market analyst at Reuters. The opinions expressed are his own.

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Felix J. Dixon