As Prices Head Higher
It's been fascinating watching the price of the most visible commodity in the world. In yesterday's session on the New York Mercantile Exchange light, sweet crude oil settled slightly lower, suggesting that for now the market has dialed in the impact of a lengthy shutdown of much of the Gulf Coast's oil production, along with the Administration's willingness to at least lend oil from the Strategic Petroleum Reserve (SPR) to refiners having trouble getting access to their normal supplies.

Gasoline, which poses more immediate supply problems, exceeded $2.90/gallon for part of the session but closed below $2.60. If you want to know where your local street price is headed, a good first approximation is to take that price, add in federal and state taxes, and another $.15-.20 for dealer margin. Where I am in Connecticut, that works out to about $3.30, vs. $3.059 yesterday afternoon at my local Shell station. But remember that local factors are going to create a wide variance around these figures, especially in states with no other supply than that from the affected refineries and pipelines.

Trying to predict where prices will go from here is tricky. Within a few days, we'll have a better sense of how long the key petroleum product pipelines and refineries will be down, and the market will be getting a sense of what's available to import, from where, and how long it will take to arrive. That should get us another price adjustment, probably up. In the meantime, the biggest factor of all, demand, will set the market direction. As I indicated the other day, with gasoline inventories already tight when Katrina hit, and refineries already running flat out, the only ways to make up for any lost production are with imports and reduced demand, and the latter will predominate until the former can come into play. How much will demand have to fall to balance the system in the meantime?

If you figure that demand in the three states most affected has fallen by a large fraction, say 2/3, then on a ratio of affected population to the whole, that should reduce US gasoline demand by about 3%. Since we've lost 10% of gasoline production for the time being, we need to cut another 7%. That amounts to 25 million gallons/day, or about the quantity used by 19 million cars. How do we cut that much? With prices approaching $3.00/gallon before Katrina, I have to believe it's going to take something much higher than that, $4 or $5, given how hard it is for consumers to adjust their usage patterns.

Finally, I'm disturbed by comments about price gouging. Sure, the guy in Georgia who jumped his price to $6 in one day deserves the trouble he will get, but we need to be very clear, here: This is not some scheme by Big Oil to squeeze money out of our pockets; this is a national crisis. If gasoline prices don't rise enough to slash demand by the quantities suggested above, then instead of a few outages--confined to locations that have lost their main supply source for a few weeks--we will have nationwide outages due to hoarding behavior. From my perspective, the higher prices go, the lower the risk of gas lines all over the country, with the accompanying penalty in lost productivity. I understand this will mean real economic hardship for those least able to bear it. Perhaps we need to be talking about an income tax rebate for the poorest Americans, rather than capping gasoline prices, as has been done in Hawaii.