11:26 am
Tue April 13, 2004

Gasoline Prices

Ever increasing energy costs have Dennis considering the causes and effects of "the price at the pump".

Wilmington NC – [Click the Listen button to hear Dennis' commentary.]

Record high gasoline prices - in recent weeks this has been proclaimed repeatedly in headlines and news stories.

Retail gasoline prices have reached all-time highs. At least when stated in current dollar values. That is, not accounting for inflation. But even so, national average prices around $1.80 per gallon for regular grade gasoline, and prices above $2.50 in some states, are high by most any standard. Every motorist has observed this when filling up at the gas station.

Two questions come quickly to mind. One, how will high prices affect our overall economy, and with it, creation of new jobs? And two, what has caused prices to rise so high?

Neither question can be answered with 100 percent certainty. Nonetheless, there are some pretty good clues. And interestingly, tax effects figure in on both issues.

First, let's turn to some of the economic implications. Obviously, higher gasoline prices affect consumer spending. In essence, higher prices reduce the amount of money households have for discretionary spending - much like higher taxes. This comes at about the same time that many consumers are receiving refund checks stemming from last year's federal tax cuts. The higher energy prices, however, will consume much of those refunds, thus reducing the economic stimulation effects of lower taxes.

Higher energy costs also affect American businesses. Not only do their energy costs increase, but so too the cost of transportation and many other materials. With aggressive foreign competition, most US firms have limited ability to pass along such cost increases to consumers. This means that, in order to protect profits, they must keep a tight lid on labor costs. This does not bode well for either expanded employment or higher wages - not exactly good economic news. Further, if firms don't protect profits, stock prices will begin to slide, taking along consumer confidence.

Now, to the causes - what has driven prices higher. Culprits are plentiful. One factor has been gasoline reformulation requirements implemented by several states in order to meet air quality standards imposed by the federal Clean Air Act. Some 15 different blends are called for by various state regulators. Gasoline refined for one market can't be sold in another with different requirements, thus creating regional shortages. Further, tight supply of some blending ingredients has added to price pressure.

And, along come taxes. Nearly half of the states raised gasoline taxes last year, and others are likely to follow. With most states facing budget difficulties, many are finding more political support for raising excise taxes, such as those on gasoline, rather than sales or income taxes. The average state gasoline tax increased 7 percent in 2003 - Florida was at the top, with a 250 percent jump.

Crude oil is also a major factor. Crude prices recently reached a 13-year high, exceeding $38 per barrel. Some of the increase is due to the disruptive effects of recent acts of global terrorism. But, prices for future delivery have also increased sharply, reaching all-time highs. This suggests that more fundamental factors are involved.

One is OPEC - the organization of countries that produce a third of the world's crude oil supply. On April first, to keep prices high OPEC cut its production target by four percent. Part of its rationale is, because crude oil on the world market is priced in US dollars, the weak dollar has effectively reduced the real price by something like 30 percent. Thus, the higher dollar price is just off-setting.

Perhaps, as well, the Arab-dominated OPEC is less than fully enthused by America's war in the middle east.