In early October, gasoline prices in California skyrocketed to new heights. Over the one-week period from October 1st to October 8th, the statewide average price of regular gasoline jumped 48.3 cents (11.6 percent) to $4.659 per gallon.[2] At record levels, gasoline prices in California were higher than anywhere else in the country (see the accompanying U.S. Gas Price Heat Map for October 8th from gasbuddy.com).[3]

U.S. Gas Price Heat Map for October 8, 2012

Click here to view map.

To What Extent Are These Price Increases and Price Differences Indicative of Anticompetitive Conduct?

Sharp elevations in gasoline prices and price differentials across geographic areas often spark speculation of potential illegal conduct. On October 7, 2012, amid the aforementioned price spike, Senator Dianne Feinstein called for an investigation by the Federal Trade Commission (FTC) into possible collusion or use of market power by gasoline wholesalers.[4] In part, Senator Feinstein motivated her request by stating that “California commuters are facing the highest gas prices and the longest commutes in the country.”[5] Earlier this year, on August 28, 2012, Senator Feinstein called for a similar investigation into gasoline price increases. The scope of that request raised questions of “why California gasoline prices consistently exceed prices in neighboring states.”[6]

Other Factors to Consider

While the recent price increases in California and overall price differences between California and other states could be the result of anticompetitive conduct, it is important to consider other factors that may impact California’s gasoline prices, including: market dynamics, unanticipated changes in supply and/or demand, institutional factors, and government regulations.

Cost of Gasoline

In general, the greater the cost to produce a product, the higher the market prices, other things held constant. By statute, gasoline sold in California must meet some of the strictest regulatory standards in the nation. These standards are intended to improve air quality, but make gasoline relatively more expensive to produce. Furthermore, on average, cleaner-burning summer-grade gasoline, which is typically supplied in California through the end of October, is more expensive to produce than winter-grade gasoline.

The higher cost of gasoline to California consumers is also due in part to taxes. California has the highest state motor fuels tax of any state,[7] and it also assesses sales tax on gasoline purchases.[8] In total, California’s gasoline-related taxes are among the highest in the country.

Demand for Gasoline

On average, higher demand typically results in higher market prices, holding other things constant. While there is certain to be variation within the State of California, population, commute distance/time, and the demand for driving are likely to be highly correlated with the demand for gasoline. Further, increased summertime travel typically results in an elevated demand for gasoline.

Supply of Gasoline

Higher prices can also result from expected and unexpected supply restrictions. For example, in California, the supply of gasoline is potentially constrained by a number of factors:

  1. High utilization rates (i.e., limited spare capacity) at oil refineries
  2. Limited fuel storage and no state strategic fuel reserve
  3. Barriers to entry
  • Few refineries outside of California can readily produce the cleaner-burning gasoline required by the state’s regulatory standards
  • Lack of significant pipeline or railway infrastructure to deliver large amounts of gasoline or oil to California

Unexpected Changes in Supply or Demand

Short-term price fluctuations can be triggered by unexpected increases in demand and/or decreases in supply. This is particularly relevant in California, characterized by relatively high demand and potentially constrained supply. In 2012, there were a variety of unexpected supply disruptions:[9]

  1. On February 17th, a fire shut down the BP Cherry Point refinery in Blaine, Washington, the third largest refinery on the West Coast. The early May restart encountered problems and was halted. Ultimately, this refinery re-opened May 31st after repairs and maintenance were completed.
  2. Between February and May, a string of unplanned outages occurred at California refineries.
  3. In March, a planned maintenance outage took place at the BP refinery in Carson City, California.
  4. On July 26th, unplanned repairs were undertaken at the Valero refinery in Benicia, California.
  5. On August 6th, a fire at the Chevron refinery in Richmond, California, the state’s largest refinery, shut down its crude unit and it looks to remain offline through at least the end of the year. As a result, this refinery is operating at about 60 percent of capacity.
  6. On September 15th, a power outage forced the shutdown of the Phillips 66 Los Angeles refinery for several days.
  7. On September 16th, a planned maintenance outage took place at the Tesoro Golden Eagle refinery in Martinez, California.
  8. On September 19th, Chevron shut down its KLM pipeline that delivers crude oil from the San Joaquin Valley oil fields to Northern California refineries operated by Shell, Tesoro, and Valero.
  9. On October 1st, a power failure at the ExxonMobil refinery in Torrance, California led to a refinery shutdown that lasted several days.

As a result of the aforementioned supply constraints and disruptions, there have been persistently low inventories throughout much of 2012.[10]

Conclusion

Californians have become quite accustomed to paying high prices at the gas pump in recent years. While it is possible that some of the recent spikes in prices are attributable to anticompetitive conduct by gasoline wholesalers, at least some of the price increases and price differences are likely the result of legitimate market dynamics, unanticipated changes in supply and/or demand, and institutional factors. Furthermore, California’s strict regulations, which help protect the environment, have contributed to severe supply restrictions in the California gasoline market and potentially made it vulnerable to temporary supply disruptions. Ultimately, higher and more volatile gasoline prices might just be one of the costs of living in a cleaner California.

In the couple of weeks following the October 1st to October 8th price spike, competitive market forces have seemed to drive prices down some. From October 8th to October 22th, the statewide average price of regular gasoline dropped 22.7 cents (– 4.9 percent) to $4.432 per gallon.[11]

This article was written by Alan P. Meister, Ph.D. and Douglas A. Herman, Ph.D[1] from Nathan Associates.