- The Washington Times - Friday, April 28, 2006

Understanding high gas prices

The price of gasoline recently seems to be a persistent topic of conversation and argument (“Bush orders suspension of gas rules,” Page 1, Wednesday). A common complaint is that there seems to be no basis for the price to rise because the service station owner already has the gasoline in inventory and paid for it earlier. In other words, he should not sell it for more than he paid for it.

Gasoline, and all other commodities, should be priced based on the expected cost to replace it in inventory, not on what was paid. Though this may seem mercenary, it is the only way a business can expect to stay in business.

For example, let’s say I run a local service station and the gasoline in my tanks cost me $2 per gallon and my normal markup to cover costs and earn a return is 20 cents per gallon. The price I will charge if I ignore the future is $2.20. However, if I ignore the future, my business may well not be part of that future.

Let’s say that I, and everyone else, expect the price of crude oil to increase and the price of wholesale gasoline to rise to $2.25 per gallon by the time I next need to refill my tanks. If I sell my gasoline today for $2.20, but I expect to have to pay $2.25 just to replace my inventory, I will lose 25 cents per gallon on my inventory and realize an actual loss of 5 cents per gallon overall.

Should I, or any other businessperson who wishes to stay in business, sell my current inventory for less than I think it will cost me to replace it? I don’t think so.

In this hypothetical situation, I not only would not earn a return on my business, but I would not even cover my operating costs. I therefore would be inclined to shut down rather than face mounting losses.

The refinery also must take such calculations into consideration. Drawing down inventories of crude oil implies that those inventories will have to be replaced so that the business may continue for the next month, and so on. If the refiner paid $68 per 42-gallon barrel but expects to have to pay $73 per barrel to replace it, upon what should he base his pricing of gasoline being produced and wholesaled?

Some may argue that the prices of gasoline never seem to fall as rapidly as they rise; they do not decrease on expectations of falling wholesale gasoline or crude oil prices as fast as they rise in expectations of increases. Though this seeming imbalance also may be challenged, and there even could be very sound business reasons (beyond cries of greed) for an imbalance if one did exist, this is a separate debate.

The point is that pricing for sale today must reflect expectations of tomorrow’s cost to replace inventory, not yesterday’s costs of today’s inventory.

The alternative is to have more service stations go out of business and less competition at the pump.

RONALD D. RIPPLE

Associate professor of economics

Macquarie University

Sydney, Australia

I hear a lot of people screaming about the cost to fill up their automobiles (“Bush orders suspension of gas rules,” Page 1, Wednesday). Though there are plenty of places in the daily paper where segments of the problem are delineated, few, if any, are compiled into an in-depth look that outlines the totality of the problem. Oil companies are the frequent target of consumers’ ire, and this is encouraged by some politicians who love to heap scorn on “Big Oil.”

However, if one delves deep, one sees that the cost of processing is sky-high. This is caused by the very people heaping scorn: politicians.

The move to ethanol-based additives to replace the toxic fuel additive methyl tert-butyl ether (MTBE) has created shortages and increased costs because of handling and retooling.

Combine this with the “environmental” rules associated with the processes, loss of refineries during hurricane season last year, and the massive taxes imposed by the federal government alone and the profits made by the oil companies pale in comparison.

Many people focus on the total figure of oil-company profits, which is in the billions of dollars. The size of these profits is irrelevant when one considers the volumes of gasoline dispensed. The fairer way to look at this is by percentage of profit in relation to expense, which points the finger, as I said before, to the federal government, whose total tax burden on the consumer is approximately 42 percent of the cost per gallon.

The oil companies have issues with distribution of ethanol, the new additive, which is less stable and has a shorter shelf life than the old MTBE additive. That problem coincides with the necessity of transportation to and from the coastal refineries.

Then there are the multiple formulas required by federal regulation to combat specific smog types and concentrations of differing locales. All this complexity comes at a cost, but the demagogues in Congress failed to inform the public of this during the very quiet debate on these issues, which explains why it is still flying below the radar of most Americans.

The government, however, has no cost associated with its income stream (the tax on gas). It simply imposes the tax, and the cost is passed on to the consumer.

It is the government’s job to build roads and other projects related to transportation, but the money is held in the general fund and used for other things as well.

The oil companies, it is expected, would use their profits for exploration and development of fuels, but once again, federal regulation gets in the way of oil drilling and pumping.

The cost of compliance with these regulatory burdens is pretty high — once again because of political meddling. When all these factors are taken into consideration, it is no wonder we have gasoline selling for more than $3 a gallon.

If we place the blame where it belongs (on meddling politicians) and if Congress had employed the KISS method (Keep It Simple, Stupid) of regulation, our costs for energy would still be low, and the cost of a gallon of gas to the consumer would not be a topic of discussion at the water cooler.

NORMAN HENDRICKSON

Bowie

The excellent editorial “Demagoguing gas prices” (Wednesday) is on target. If the Senate majority leader and the House speaker don’t understand what is really happening, they are in dire need of an education. If they are using this issue to score political points, it is shameful. I expect this from liberal Democrats, but when Republican leaders do this, I need to find myself another party.

KLAUS J. CHRISTOPH

Gainesville

The embalmed Hillary

In the article “Snow seen as key to improved press ties” (Nation, Thursday), President Bush is quoted as saying, in reference to times when Tony Snow on his radio show has disagreed with the president, that Mr. Snow said to him, “You should have heard what I said about the other guy.”

I recall in one of Mr. Snow’s columns, “The royal progress of Hillary,” published in The Washington Times on July 11, 1999, when Hillary Clinton was seeking the Democratic nomination for the U.S. Senate, Mr. Snow described her “listening” trip through New York, during which she “appeared among the people as someone to be seen, not heard; venerated but not touched…. This exercise was designed to demonstrate her virtuosity at listening. Unfortunately, it made her look like The Accidentally Embalmed Tourist — in shiny new Bruno Magli pumps.”

Mr. Snow’s use of the word “embalmed” aptly described the pallor and paucity of Mrs. Clinton’s spirit. Her refusal to answer questions from the people on that trip revealed both her arrogance and her inability to engage in real debate with real people. Mr. Snow brilliantly described her liberalism and hypocrisy in that article. Though he may have some disagreements with Mr. Bush, he excels at demolishing, with awesome verbal skills and integrity, positions posited by left-of-center liberals. I am looking forward to his press conferences at the White House.

BEVERLY KROEGER

Springfield

LOAD COMMENTS ()

 

Click to Read More

Click to Hide