The Facts on Gasoline Prices

Dean Foreman
Posted May 22, 2018

Washington is known for partisan political skirmishing, so it’s not surprising that a group of Senate Democrats is trying to score political points against this year’s tax reform legislation by suggesting that lowering the corporate income tax rate has been linked to the recent rise in gasoline prices.

Let’s straighten them out on a couple of important things about gasoline prices, which have nothing to do with tax reform:

• Per-barrel costs for crude oil – the No. 1 factor in the cost of producing gasoline and diesel – have risen due to a tighter global oil supply/demand balance and lower inventories compared to last year.
• With a strong economy, U.S. petroleum demand has run at its highest levels since 2007 and was up by more than 750,000 barrels per day in April, compared with one year ago.
• As they do every year around Memorial Day, the start of the summer driving season, Americans are traveling more, which could raise demand further.
• Although gasoline prices have increased recently, they’re still lower than where they were four years ago, largely because of increased domestic oil production.

Here’s what we know: Nationwide, the American Automobile Association (AAA) reports that average prices as of May 18 were $2.91 per gallon for gasoline (up from $2.74 a month ago) and $3.17 per gallon for diesel fuel (up from $3.02 last month).

Again, these price levels are lower than they were in 2014. Surging oil production since then, which has made the U.S. the world’s leading producer of oil and natural gas, put downward pressure on the domestic and global cost of crude oil. 

Strong domestic oil production also has resulted in a discount for U.S. consumers of more than $5 per barrel in April, as international crude oil prices are that much higher.

Breaking things down, fuel prices start with fundamentals. The following chart reflects how U.S. oil markets have changed compared with last year.

Supply (record production) and demand (highest in 11 years) have risen. International (Brent) crude oil prices averaged $71.63 per barrel in April – up 37 percent since April 2017.  By comparison, domestic (WTI) crude oil prices averaged $66.25 per barrel in April. 

The $5.38 per barrel discount of domestic WTI crude oil below international prices is a benefit that U.S. consumers have enjoyed by virtue of strong domestic oil production. Without it, there could be upward pressure on international oil prices, which in today’s dollars were over $100 per barrel four years ago and averaged more than $100 per barrel for four consecutive years from 2011 to 2014.

One thing happening now that’s similar to the high oil price period of 2011 to 2014 has been elevated concerns about oil supply from Iran (U.S. withdrawal from the nuclear deal), Venezuela (deepening humanitarian crisis), and even Saudi Arabia (dismissed rumors of coup attempt). There’s a lot to be said for a well-cushioned market, and inventories have fallen since last year. The more the U.S. produces, the better off our country is likely to be.

Remember, gasoline and diesel fuel prices tend to track the price of crude oil, because crude oil currently makes up more than half of the cost to make the fuels:

Beyond this, the federal gasoline tax is 18.4 cents per gallon, and state gasoline fees and taxes range from a low of about 9 cents per gallon in Alaska to as much as 46.7 cents per gallon in California and 49.4 cents per gallon in Washington state. On average, taxes currently make up 18 percent of what consumer are paying at the pump. 

The remaining 25 percent of the price is the cost to refine, transport and sell gasoline. If that seems rich, consider that in Q1 2018 the natural gas and oil industry as a whole earned net income of just 6.2 cents per dollar of sales. For manufacturing industries in general, the average over the past decade was under 8 cents per dollar of sales, so natural gas and oil actually have lagged other industries despite recent price increases.

All things considered, the increase in recent prices is a signal the U.S. and global economies have been healthy. Gasoline and diesel fuel prices have still been lower than they were in previous years, and with domestic prices having remained below international ones, U.S. consumers have seen savings at the pump – again, largely because of strong oil production here at home.

Fostering U.S. natural gas and oil production can help continue to place downward pressure on prices. With drilling activity in May at its highest levels in three years, U.S. oil production appears to be poised for oil supply growth, but it still needs help from cogent policies to support international trade, avoid tariffs that hamper the economy, and foster infrastructure development and investment growth that are critical to the energy renaissance.