What Makes Up the Price of Gas?

By John Porretto and John Wilen

Consider the game of chicken that plays out every day across Pennsylvania State Highway 441. In Marietta, a Rutter’s Farm Store gas station stands on one side, a Sheetz gas station on the other.

Kelly Bosley, who manages Rutter’s, doesn’t even have to look across the highway to know when Sheetz changes its price for a gallon of gas. When Sheetz raises prices, her own pumps are busy. When Sheetz lowers prices, she has not a car in sight.

She calls Rutter’s headquarters to report the competition’s new price and wait for instructions.

"I call a lot of times and say, ‘They went down, hurry up! Hurry up! Call me! Call me!’ Or it could be where theirs goes up, and I’ll say, ‘Take your time! You know, I like being busy.’ But I have no control over that," she said.

You think you feel helpless at the pump? Ms. Bosley makes a living selling gas – and even she has little control over what it costs.

So how are gas prices set?

The biggest factor in the skyrocketing price of gasoline is the historic ascent of crude oil, which has surged from $45 per barrel in 2004 to more than $135 this week.

In the first quarter of the year, based on a retail price of gas that now seems like a steal – $3.11 a gallon – crude oil accounted for all but about a dollar, or 70 percent, of the cost, according to the federal government.

The rest is a complex mix of factors, from the cost of turning oil into gas to taxes to marketing costs to, sometimes, nothing more than the competitive whims of local gas station owners.

The knee-jerk villains are the oil companies, fat with multibillion-dollar profits. But wait: The oil companies don’t set the price of oil or the cost of a gallon of gas.

Prices are a function of the open market, the result of futures contracts being traded on the New York Mercantile Exchange, or Nymex, and other exchanges around the world.

Buying the current July crude oil futures contract means you’re buying oil that will be delivered by the end of July. But most investors have no intention of ever accepting the underlying oil: Like stock investors who frequently buy and sell holdings, they’re simply betting prices will rise or fall.

Of late, on the Nymex, oil futures have been rising.

Why? Blame the falling dollar. Oil is priced in U.S. dollars, and the weaker the dollar gets, the more attractive dollar-denominated oil contracts are to foreign investors – or any investor looking for a safe haven in the turbulent stock market.

The rush of buyers keeps pushing oil futures to records, and the rest of the energy complex has followed. That pushes up the price of gas that goes into your tank.

There is some evidence Ameri-cans are buying less gas, and common sense suggests they would cut back even more if gas rose to $4.50 or $5 a gallon.

Lower demand should mean lower prices – but it takes time for that to happen, given the enormous scale of refining operations.

Oil and gasoline prices often move in the same direction, but they aren’t linked directly. In fact, while oil prices have more than doubled in the past year, gasoline is only up about 19 percent.

Oil prices often fluctuate with production decisions from the Organization of Petroleum Exporting Countries, which supplies about 40 percent of the world’s crude, or when conflict in the Middle East or Nigeria threatens supplies.

As for gasoline prices: They’re closely tied to demand from U.S. drivers and how efficiently refineries are operating. Falling production or inventories often send prices skyrocketing.

Other costs are a factor – though they’ve been relatively stable.

For example, federal and state taxes added 40 cents to a gallon of gas in the first three months of this year, roughly the same amount as they added four years ago.

Marketing and distribution costs – the tab for delivering gasoline from refiner to retailer – were 27 cents to start the year, only 6 cents higher than four years ago. The cost of refining added 27 cents to a gallon in the first quarter of this year, a nickel less than what it added in 2004, according to the Energy Information Administration.

What happens when that gasoline makes its way to your neighborhood gas station?

Major oil companies own fewer than 5 percent of gas stations. Most are owned by small retailers – and many say they’re struggling these days to turn a profit on gas. That’s because wholesale gasoline prices have risen sharply recently but station owners have been unable to raise prices fast enough to keep pace.

Station owners face a balancing act: They must try to maintain a price that allows them to afford the next gasoline shipment but not give the competition an edge. Stations pay tens of thousands for each gas shipment before they see a cent in the register.

Eventually, many make only a few cents per gallon, a margin that can disappear altogether when credit card fees are added in.

Most gasoline retailers long ago got past any illusion they can make money selling gas. They rely on gas sales to drive traffic to their shops, where they hope repairs or food and drink sales will help turn a profit.