Quantifying Rita

For the second time in a month, the Gulf Coast oil and gas industry is tallying up the damage from a major hurricane. Although Rita's last-minute eastward shift spared the region and the country its maximum energy impact, it's going to be some time before the full extent of the damage is known, particularly to the offshore platforms and pipelines. In the meantime, as after Katrina, initial estimates of the effect on petroleum product supply are a combination of guesswork and basic arithmetic. Even if none of the region's refineries suffered serious damage, as seems to be the case, gas prices will have to rise again to balance the short-term supply deficit.

The Texas/Louisiana border region hit hardest by Rita includes the Shell and Valero refineries at Port Arthur, TX, the Exxon facility at Beaumont, TX, and three large plants at Lake Charles, LA. The combined capacity of these refineries totals 1.7 million barrels per day, just under 10% of US capacity for turning oil into gasoline, jet fuel and other products. If we assume that these facilities will be down for two weeks, on average, and that the entire 4 MBD Texas coast refining complex is down for a week, assessing damage and restarting process units, then we are looking at a supply shortfall of 40 million barrels. About half that would be gasoline. It will be difficult to make this up in the short term, because the refineries still running last week were operating at 96% of capacity.

In effect, then, we've lost nearly half the nation's gasoline production for the next week, and another sixth for a week or two beyond that, on top of the 5% still down after Katrina--with proportional effects on the other products. As I mentioned last week, one of the surprises after Katrina was that gasoline inventories never dropped below the 190 million barrel mark, despite the lost production, and even recovered to pre-Katrina levels. That was due to a combination of extra imports and reduced demand.

We're facing a comparable challenge for the next couple weeks, and demand will have to fall by at least as much as after Katrina to keep from drawing down inventories to the point that runouts become widespread. Unfortunately, the only way that will happen is through price increases, even though the weekend traders on the New York Mercantile Exchange don't seem to have figured that out. Gasoline dropped below $2.00 on the exchange, a fall of nearly 10 cents/gal. That seems highly optimistic to me; perhaps, as one analyst described it, the market just breathed a sigh of relief that things weren't much worse.

It took an increase of $0.45/gal. at the pump to balance demand after Katrina, from a starting point about $0.25/gal. lower than where we were right before Rita hit. That says we could see a national average of $3.30/gal. and regional averages $0.10-.20/gal above that, before prices start to come back down. Averages being what they are, I wouldn't be surprised if stations in a few locations come close to $4.00, before the Katrina/Rita wave has passed through the system. Consumers will howl, and politicians will act outraged in response, but remember that the alternative to high prices is low prices but no gas.