Why the Hell is Gas is over $4 a Gallon?!: An Attempt to Explain

“Dude—what is up with gas prices??”

This is the question on all of our lips in one form or another. Different people will give you different answers. – “It’s the damn OPEC countries!” “It’s the evil oil execs!” “Stop the speculators!” And so on.

At the end of May, the Bigwig Execs of all major American oil companies attended a Senate Judiciary Committee hearing on price gouging in the oil market.

Oil Exec J. Stephen Simon had this to say:

In 2007, the average price per gallon of regular gas was $2.80. About 58% of this price reflects the cost of crude oil. 15% of the price reflected taxes, the remaining 27% goes to refining, marketing and transportation translating to “earnings of only about 10 cents per gallon of product sold”.“Since last year, the increase in gasoline price – and more – can be attributed to the rise in the cost of crude oil.” Other product prices have not risen as much therefore Exxon’s margins have been reduced. Current earnings are down to only 4 cents a gallon.

According to Simons, therefore, we should feel sorry for the poor oil companies—and should see them not as immoral pocket liners but rather as brave American businessmen, competing in a tough international market for the good of the country.

If his take seems a tad bit skewed—congratulations—it is! In February 2008, Exxon Mobil made history by reporting the highest quarterly and annual profits ever for a U.S. company—$11.66 billion during the fourth quarter of 2007. It also set an annual profit record of $40.61 billion.

Apparently Mr. Simon and his Exxon buddies inhabit a world in which billions and billions of profits can still represent a loss. What a world.

Sadly, however much we may wish to lambaste Simon and his ilk with total blame for the current debauchery at the pump, there are other villains in this game.

Villain 2: OPEC Countries –or, rather, the current geopolitical situation in which the oil-producing few are allowed to dictate policy for the oil-consuming many. On Tuesday, Abdullah al-Attiyah, oil minister for OPEC member Qatar told Reuters that “The supply is very efficient and very balanced and we don’t think this [the current oil crisis] is a product of supply”. He pointed the finger at the oil speculators.

Villain 3: Oil Speculators

A speculator participates in the financial market (buys, sells, holds, etc) with the aim of profiting from the fluctuations in its price. In the case of oil, speculators, “bet” on future contracts—literally: The owner of the oil can sell a future contract on what he will drill two months from now and guarantee the price he will be paid when he delivers it; Exxon buys the contract now and guarantees the price will not go up when it is delivered. Speculators make a profit by buying and selling these contracts. (Don’t ask me how—this is the end of my knowledge)

Many argue that this speculating is tampering with the supply-demand equilibrium and is the force behind the massive price surge over the past few months.

So who is to blame? I don’t know—and honestly judging from the current uproar in the media, neither does anyone else. Perhaps the best lesson here is just how many people have the power to screw you and I at the pump. Smart car anyone?