Can Gas Prices Make It Back To $3 This Year?

Through much of the spring and early summer, Wall St. experts and oil analysts said gasoline could break above the $5 barrier as oil moved close to $150 a barrel and vacation travel increased.

In some regions of the country premium gas prices did top $5, but, for the first time in a long time, the move in prices is down. Data from the AAA show the national price for a gallon of gas falling to $3.96 this week, down from $4.05 a week ago.

With crude still dropping, the question is how far can gas fall and can it make it back to $3 this year? Because of changes in consumption patterns, gas prices could fall sharply and fast.

The link between $150 crude and $4 gas is one that the public associates with an absolute link between crude and petrol. The relationship is a good deal less direct than most consumers believe.

Because of falling demand and a strengthening dollar, crude has dropped below $124, and, barring political instability in one of the large producing nations like Nigeria or a hurricane in the Gulf of Mexico, oil should keep dropping.

Based on OPEC production and the flow out of other major producing nations, the supply of crude is fairly stable. Use of oil in large consuming nations including India and China should be dropping modestly. They have cut the level at which they subsidize gas and diesel, raising prices to consumers and businesses.

Airlines, tremendous consumers of fuel, are cutting capacity by as much as 15%, further denting demand.

The most significant point as which the link between the price of oil and the price of gas diverges is in the habits of the car driving public. Production of gas out of major refineries is likely to stay steady. A fast drop in crude prices should actually improve margins at major refiners as oil drops faster than what they charge retailers for gas at the pump. American’s have driven 40 billion miles less in the past seven months compared to the same period last year pushing down demand for gas by 2.4%.  More people are not driving at all or are turning to public transportation.

If oil drops 25% from its $150 peak, moving down to $112, gas would likely be pushed back toward $3. But, gas could move down to that level even with oil only slightly under $120, if it stays there for a prolonged time.

One barrel of crude oil makes 19.5 gallons of gasoline. But, crude is used for a number of other products including petrochemicals. The prices of oil by-products including plastics, synthetic fibers, and detergents have spiked up sharply, cutting demand.

If consumption of jet fuel, petrochemicals, and heating oil drops because of high prices, the amount of crude available to refine for gas will increase. Couple that with the fewer numbers of miles driven by Americans and there is a compounding effect.

Conservation plus less demand for other uses of oil spells gas moving back to $3, even if oil only falls modestly from here.

Douglas A. McIntyre