Why we pay more and more for gas at pump

That $4 gallon of gasoline sloshing around your tank is the product of a long journey from deep beneath the ground, through geopolitical and market forces, to the pump where consumers are asking: Why does it cost so much?

With gasoline prices up by more than a dollar a gallon from a year ago, motorists are fuming and wondering who to blame: speculators, oil companies, refiners, local gas stations, government -- maybe all of the above?

Rising fuel costs, along with increasing food prices, are threatening to slow or even choke off the already weak recovery from the recession.

Regular gasoline averaged $4.138 a gallon on Long Island Sunday. A barrel of benchmark U.S. crude oil that cost around $86 on the New York Mercantile Exchange before Libya descended into civil war in February cost $111.71 last week.

Americans are conserving, using about 1.6 percent less gasoline than a year ago, but some experts don't foresee a dramatic drop in demand until the national average tops $4. It was $3.848 on Friday.

While the oil industry blames the price of crude oil for the rising prices at the pumps, skeptics ask if the companies are capitalizing on it. Robert Sinclair, a spokesman for the AAA New York, notes that oil companies earned record profits the last time gasoline cost more than $4 a gallon. Oil companies claim their margins of profits were not outlandish.

The Obama administration is under pressure to provide relief. Some public officials, mostly Democrats, are calling upon him to release some oil from the Strategic Petroleum Reserve to increase supplies. So far, he has said only that it is an option. Rep. Steve Israel (D-Dix Hills) Monday will press for tapping the reserve.

The U.S. Department of Justice said Thursday that a working group had been assembled to watch for fraud, collusion or misrepresentation at the retail and wholesale level and examine the role of traders in oil futures markets.

Here's a look at the forces at work from the oil well to the gas pump:

Finding and extracting oil

Gasoline's journey to the pump often begins in remote or dangerous parts of the world. Crude oil accounts for about 65 percent of the price of gasoline, according to the U.S. Department of Energy.

Nations that form the Organization of Petroleum Exporting Countries own about three-quarters of the world's proven oil reserves, allowing the cartel to manipulate supplies and prices. And its members include Libya, where a civil war has completely shut down its 1.8 million barrels a day of production. Though not a large amount, it raises fears that violence could spread to major producers.

As demand has risen and more convenient areas are pumped dry, the nation has come to depend more on regions politically unstable -- and often unfriendly to the United States -- places like North Africa, the Middle East and Venezuela -- so that supplies are endangered and prices are volatile.

This year, the so-called fear factor about the impact of political instability overseas has added $20 to $25 a barrel to crude oil's price -- about $112 on Friday -- and more than 45 cents to the pump prices of gasoline, according to Dominick Chirichella of the Energy Management Institute of New York. OPEC Secretary-General Abdullah Al-Badri put the fear factor at $15 to $20.

"There is no shortage anyplace in the world," Chirichella said. "It's the anticipation of a shortage that's driving everything."

The U.S. imports about half the roughly 20 million barrels of petroleum a day it consumes, with about half of that coming from Canada and Mexico. Almost none is from Libya, but oil is traded on a global market. "When the overall supply of crude oil decreases, the world market tightens and prices usually rise," says the energy department. And one other factor: Libyan oil is particularly prized for being low in sulfur -- "sweet" in industry parlance and easier to refine, so it is not easily replaced.

As world consumption has risen, drillers have had to go into deeper and more expensive and remote locations, especially offshore in the U.S. Gulf, Nigeria, Brazil and, onshore, in the Arctic areas of Russia. Drillers have to invest billions of dollars to locate oil.

Once it is found, the costs per barrel to produce it vary wildly -- and rarely are disclosed by the producers. Andy Lipow, president of Houston consulting company Lipow Oil Associates Llc, estimates costs range from less than $10 a barrel in Saudi Arabia on land to as much as $60 to $70 in the most extreme deepwater locations. "And the oil is being produced in locations that are far from population centers," he said.

OPEC says there's no shortage of crude. Saudi Arabia, the world's largest exporter of oil, last week confirmed earlier reports that it had cut output by more than 800,000 barrels per day in March because of weak demand for their oil. The country is producing 9 million barrels a day. OPEC ministers have repeatedly said there is little they can do to bring down prices, and they do not meet formally to reconsider output policy until June.

Buying and Selling Crude

Before that black goopy stuff heads to a refinery, someone pays for it. Since the world buys and sells crude oil with dollars, when the dollar slides, as it has since January, it buys less.

The dollar's value relative to other currencies has fallen by 6.3 percent this year. It takes more dollars to buy the same amount of oil today than it did in January. But the correlation is not precise. About a third of the recent price increase is tied to the dollar, according to Chris Lafakis, an economist at Moody's Analytics.

"When the value of the dollar falls, a higher price is necessary to bring global supply in line with global demand," Lafakis said.

About another third of the recent price increase is from what Lafakis calls the "supply uncertainty premium," an additional cost that insures against market disruptions and can show up in price speculation.

Companies can buy crude oil for immediate use, or they can protect against potential market swings by locking in prices months or even years in advance on a futures exchange.

Oil producers, refiners and end users held slightly more than half of the light sweet crude oil futures and options contracts reported on the New York Mercantile Exchange in March, according to the U.S. Commodity Futures Trading Commission. But their 55 percent of the market has shrunk since January by 2.1 percentage points, while money managers who invest in the market to try to make a profit, have increased their share by a similar amount.

With the Federal Reserve keeping interest rates low, investors have searched for more fertile ground to grow their cash.

"If you're a person that has money to invest -- the dollar being destroyed as it is -- you're not left with very many options," said Porter Bennett, president and chief executive officer of Bentek Energy, a Colorado firm that analyzes energy markets. Oil, he said, is "probably the best investment out there."

But speculators play an important role keeping cash flowing through the market and often cushion price swings, market experts say.

"Those speculators are people that run retirement funds, pension funds, a lot of money markets funds," said Bennett.

Market fundamentals of supply and demand account for the remaining third of the increase in price, said Lafakis.

The United States uses 18.8 million barrels of oil a day, accounting for 22 percent of world consumption, according to the U.S. Energy Information Administration, but developing nations increasingly clamor for more crude to fuel their growing economies.

China, now the world's second largest oil consumer after the U.S., uses about 9.6 million barrels a day, accounting for half of the global growth in oil consumption in the past decade, Federal Reserve vice chairman Janet Yellen said in a speech in New York City earlier this month. "Although real activity in the emerging market economies slowed appreciably immediately following the financial crisis, those economies resumed expanding briskly by the middle of 2009 after global financial conditions began improving," she said.

The recession drove cars and trucks off the road as people cut back, depressing demand. The economic recovery means more people aren't just getting paychecks, they're filling up their tanks.

"As economic activity is picking up and the economy starts to do better, the immediate demand for oil starts to rally," said Gene McGillian, an analyst at Tradition Energy, an energy adviser and brokerage firm.

Refineries

We can't burn crude oil in our cars; it needs to be refined first. The cost of producing gasoline from crude comprises about 14 percent of the price of gasoline, statistics show.

And the East Coast gets particularly hard-hit, say industry experts.

U.S. refineries had to import about 65 percent of the crude oil needed to produce gasoline last year, according to the National Petrochemical and Refiners Association. And much of what it imports goes to East Coast refineries at about $12 a barrel more than U.S. crude, says Lipow, the oil consultant from Houston.

In addition, the nation still had to import about 10 percent of its gasoline to meet its consumption demands, which is roughly 9 million barrels a day, said the U.S. Department of Energy. And much of that imported gasoline because of logistical reasons comes here to the East Coast -- one of the reasons why gas here is more expensive than in many other regions of the country, Lipow said.

"Refining margins in the East Coast are the worst in the country because they have to buy all that expensive crude." he said. "The East Coast has become more dependent on imports."

Planned and unplanned refinery outages here and abroad are blamed by experts as contributors to the recent price run-ups. The American Petroleum Institute estimated that U.S. refineries last week were using only 81.3 percent of their capacities, 7.3 percentage points less than a year earlier. They can go as high as 95 percent of rated capacity.

In addition, gasoline sold in the spring and summer is more expensive to produce because federal environmental law requires gasoline to emit fewer vapors. That is accomplished by using less butane, a cheap ingredient that helps to "stretch" the supply of gasoline.

Delivery

Oil and refined gas travel across land or sea or both before arriving at the pump. Distribution and retailing account for about 8 percent of the cost of gasoline, says the energy department, and includes ship, pipeline and truck costs.

At each stop along the way, gasoline's value can change, based on market forces such as supply and demand and the cost of replacing the gasoline. So, contracts for large volumes of gasoline between sellers and buyers usually specify a prevailing market price, not a fixed price.

There is so much intermixing of crude oil during refining and of gasoline during shipment and in storage at terminals that it's virtually impossible to tell where a particular gallon came from, says the energy department.

Gasoline's composition differs by state and even regionally because of environmental requirements, which impact price. However, the only difference among brands in any locality is the additives individual companies put into delivery trucks or at gas stations, says the energy department.

At the pump

Gasoline's next-to-last stop is the local service station, where taxes, competition and the retailer's need to make a profit decide what you pay.

Sometimes refineries sell directly to distributors who sell to service stations. Also, a terminal, such as those in Holtsville and Inwood that supply most of Long Island's gasoline, can take temporary ownership of product.

"There's all sorts of different arrangements," said Lipow, the petroleum expert from Houston. Again, the value of gasoline can change as it sits in the tanks. Prices at the "racks," where gasoline trucks load up to deliver to gas stations, can vary as much as several times a day and are set by whomever owns the gasoline.

Retailers often get some of the blame for rising prices but the retailers say they are just as helpless as their customers to control prices.

Kevin Beyer, president of the Long Island Gasoline Retailers Association, says markups per gallon for most stations range from 11 cents a gallon to 18 cents a gallon -- out of which the station has to pay all its expenses.

Stations change their prices based on competition -- sometimes from stations that filled up on cheaper gas, Beyer said. Occasionally a gas station has to raise prices because it knows the replenishment cost will be higher and competition won't allow it to raise pump prices by a like amount, Beyer said.

Gasoline gets taxed at different rates around the country, starting with an 18.4 cent nationwide gasoline tax and an assortment of state and local taxes, all of which in New York amounted to 65.6 cents a gallon in January -- the latest estimate available from the U.S. energy department.

Pump prices vary regionally and from community to community, even for the same brand.

On Friday, for example, the website gasbuddy.com, whose information is based on motorist reports, said regular gas in Nassau and Suffolk ranged from $3.95 a gallon to $4.39.

Factors affecting prices include distances from distribution terminals or pipeline; differences in property taxes and real estate costs; variations in wages of the people who staff gasoline stations; the station's competition, or lack thereof, at its particular location; and differences in prices among distributors -- even to two stations selling the same brand in the same town.

Said a spokeswoman for Gulf when asked recently about differences at two of its Long Island stations: "It really is the discretion of the service station owner to set their prices."

Prices also vary by whether the station is contracted to buy gasoline from one supplier or whether it is an "independent," free to find the cheapest on a given day, Beyer said.

Underlying it all is that there are no government price controls on gasoline; wholesalers and retailers are free legally to charge whatever the market will bear for their products -- as long as they provide what they advertise: a full gallon of gasoline with the specified octane and are not taking advantage of a supply shortage and absence of competition by "gouging."