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I know that the following won't do anything to lessen the "pain at the pump" we are all experiencing, I just think alot of people don't understand how complex the problem really is. Like most of the problems facing our country (both short and long term) there are no simple explanations or solutions.
First of all, there is no doubt that commodities traders and "speculators" generally do nothing to keep prices down (unless they are betting against higher prices) and in fact can (and have) been responsible for artificial price increases in the past. While hard to stop, more can be done to regulate the speculative nature of much of the trading. To that end the US Commodities Futures Trading Commission has proposed new rules to do just that but they are (surprise) stalled in Congress!
Second, while Libya produces (used to produce?) only 2% of the worlds oil (and 0% of the oil we import) the fact is that oil is a global commodity with very thin inventory margins. Think of a busy store that only sells one VERY popular item and keeps the shelves out front full but has very little in the back, instead relying on daily deliveries of new items to replace what sold the day before. When things work right this makes the store a "lean, mean, money making machine". However, if that store misses a couple deliveries (because of transportation issues or because there is a shortage and other stores get delivered to first, or whatever), things can get out of hand pretty quickly. The global oil market is that "store" and "deliveries" (i.e. supply) throughout the global system are being restricted. When the supply of something drops and demands stays the same, the price goes up (and can go up quickly if it's something people have to have-remember Cabbage Patch and Tickle Me Elmo Dolls?) The choice to keep these thin margins is made by the suppliers (OPEC et al) and has been the way things work for decades. When you add the fact that US refineries and distribution systems have adopted the same "thin inventory" policies, it becomes apparent how and why prices can go up so quickly. Now, why they (seem to) go down so much more slowly is a whole 'nother story!
Third, while the global economy is fairly stagnant, the fact remains that demand for oil still goes up EVERY day. According to the US Energy Information Administration "The forecast for total world oil consumption grows by an annual average of 1.6 million bbl/d through 2012." In 2004 consumption grew by an average of 2.9 million BB/day, mostly driven by demand in the US, China and India.
Next, we are currently experiencing issues in our domestic oil supply situation. For one thing, we produce 40% less oil today than we did in the mid 1980s. Furthermore, while production in traditional oil fields in Alaska and Texas and other coastal areas declines, we are producing a lot of domestic oil from the interior of the country (eg North Dakota). The problem with that: moving it from those interior areas to outlying areas where 75%+ of the refineries are located. We have oil sitting there ready to be refined but there are not enough refineries in the area and/or pipelines or tankers to get it to other refineries quickly (or cheaply). That's why West Texas Intermediate oil (the "stuck"/domestic oil-which is of slightly better quality) is selling for significantly less than Brent crude oil (the imported stuff which is of lesser quality than WTI)). Under normal circumstances WTI usually sells for a couple dollars MORE than Brent crude, so you can see how far out of whack these seemingly minor transportation issues (that almost nobody knows about) can knock the whole system.
Finally, and perhaps most importantly, while OPEC produces only about 40% of the world's oil (and less than half of the oil we import), it nonetheless has an effective monopoly on the PRICE of oil and has proven over time that it is not afraid to manipulate prices and/or otherwise create conditions meant to influence pricing/supply (both up and down). As talked about at the outset of this piece, by keeping the supply of oil so close to demand levels, OPEC ensures that price control is not only possible, it actually couldn't be more simple: all they have to do is announce that they will (or won't) increase (or decrease) oil production. That's it; the market responds almost instantly and we see the effect at the gas pumps in a matter of hours, days or (at the most) a few weeks. All you need to do is look at what happened over the last three weeks: On January 18, just after oil broke through the $90/BB barrier, OPEC said that it would not increase oil production and blamed the price increases on "speculation". On Tues (March 9, 2011), after oil had gone up another $15/BB, a Kuwaiti oil minister announced that OPEC was "considering" raising production and the price of oil dropped $3/barrel by the end of the day!!! Two days later and the price is down another couple dollars! And since almost 70% of the cost of producing a gallon of gas comes from the cost of the crude oil (see below under MISCELLANY), it is apparent that the biggest single variable (by far) in the price of gasoline is the price of oil. I doubt that surprises anyone, so what does it mean?
Well, let's take a quick look back in history. OPEC was founded in 1960 but didn't really become a major player in the international oil game until the end of the 1960s. From 1946 through the end of 1970 a barrel of oil ranged in price from a low of $1.37 to a high of $3.60 (in unadjusted, or "nominal" dollars). During this time the US (and Texas in particular) was the center of the oil production universe and was the worlds largest producer of oil. By the end of 1973 OPEC had become the world's largest producer and had established a three tiered pricing system with a low price of $5.20/BB and a high of $8.55/BB. By the end of 1979 the low price oil had risen to just $6.20/BB but the high quality oil was all the way up to $38/BB (and the rise from $16 to $38 happened in 8-9 months as a result of huge production cuts by Iran (during their "Revolution" and war with Iraq) and Iraq). This must have been the "light bulb" moment for OPEC because not only did the price of oil go up 450%, but their production costs stayed the same and, best of all, THE WORLD CONTINUED TO BUY! Sure, the overall amount of oil purchased by the rest of the world dropped in response to the price hikes but the price had more than quadrupled, and OPEC revenues exploded. In fact, in 1980 OPEC exported $580Billion (in 2005 dollars) of oil, a number they wouldn't even come close to again until 2006 when they exported just over $500B (in 2005 dollars). Thinking they had struck the jackpot (which they kinda had) OPEC promptly establish production quotas to control the supply of oil and maintain those high prices. And, from 1982-85, they were mostly successful, with the high price oil maintaining its $38/BB price through April of 1981 before slowly sinking to around $26/BB by the end of 1985 (Saudi Arabia repeatedly exceeded the quotas, accounting for the slow drop). However, from '79-85 global demand for oil dropped so dramatically (including by 25% in the US) that by about 1984 OPEC was actually making less than before prices spiked. In other words, they had almost killed the Golden Goose. At that point, Saudi Arabia completely broke ranks with the other OPEC members and the price of oil was once again (supposedly) allowed to be dictated by the free market. By the end of 1986 the BB price of oil had dropped to just over $14. From 1987 ($17.50/BB avg) to 1999 ($16.50/BB) the price of oil stayed very steady, with a high yearly average of $23.19 in 1990 and the low of $11.91 in 1998). Total revenues from oil exports during those years also remained steady, averaging around $150B (in 2005 dollars). However, by the end of 1998 revenues had dropped to just over $100B (in 2005 $) the lowest level since the early 1970s. (Link to OPEC revenue graph: http://upload.wikimedia.org/wikipedia/commons/0/0a/Opecrev.gif )
From 2000-03 BB prices averaged about $25 before jumping to $37.41/BB in 2004, $50/BB in 2005, $58 in 2006, $64 in 2007, $91.50 in 2008 (when oil peaked at $147/BB) before dropping to $66 in 2009 and then moving up to $81/BB at the end of 2010. And today we are just over $100/BB.
So what happened since 2004? Well, according to OPEC's own web site, it was "a combination of market forces, speculation and other factors [that] transformed the situation in 2004, pushing up prices and increasing volatility in a well-supplied crude market. Oil was used increasingly as an asset class. Prices soared to record levels in mid-2008, before collapsing in the emerging global financial turmoil and economic recession." And as far as this statement goes, it is correct. "A combination of market forces" certainly existed: the US and world economy were both (seemingly) doing very well, the dollar kept getting weaker (which makes our imports, including oil, more expensive), production levels by non-OPEC nations (including the US) lagged, refineries were pushed to near capacity around the world, and the tremendous growth spurt of emerging nations like China, India, and Brazil (and the reemergence of Russia) really kicked in and put a lot of upward pressure on commodities of all sorts (remember the huge spike in concrete, lumber and dry wall prices in the early to mid 2000s? That was mostly due to increases in demand in China and India).
As for "speculation" (and as discussed above), it's almost certain that "speculation" has artificially jacked up prices to some (unknown) extent.
And as for the "other factors"? As best I can tell, that refers to the will of OPEC and its constituent members and is best expressed by the stated objective of OPEC: "to co-ordinate and unify petroleum policies among Member Countries, in order to secure fair and stable prices for petroleum producers; an efficient, economic and regular supply of petroleum to consuming nations; and a fair return on capital to those investing in the industry." I don't know about you but when I read "co-ordinate and unify petroleum policies", I see "control supply and, therefore, prices". "Fair and stable prices for petroleum producers" pretty much speaks for itself (i.e. "as much as we can get for as long as we can get it"). "Efficient, economic and regular supply to consuming nations” should have " (at prices we decide)" tacked on the end.
Now, to be fair, I believe that OPEC normally acts in a pretty responsible and even handed manner and has done quite a bit over the years to stabilize situations that could have easily gotten out of hand otherwise. After all, at the end of the day they are businessmen and the oil business (like most businesses) does not perform at its best when there are wild swings in prices or supply. However, unlike most businesses, OPEC has that effective monopoly on the PRICE of oil and that makes them, potentially, a very real threat at any point in the future if they decide that it is time to put the squeeze on. I guess we need to hope we can keep them on our side (hard to believe, I know, but they really have been pretty much "on our side" since at least the mid '80s). As the old saying goes, "With friends like these, who needs enemies?", right? Stay tuned and start thinking about getting a hybrid or at least getting rid of that huge SUV...because it's beginning to look like 2004 again!
MISCELLANY
A 2008 cnn.com analysis (based on gas at $3.37/gallon and crude oil at $110/barrel) of how much it costs to produce an "average" gallon of gasoline found that:
The actual oil costs about $2.07/61%. Taxes add about $0.48/14% ($0.18.4 Federal, average of $0.22 State and the rest in various county and local taxes, fees, etc). Refinery costs add an average of $0.24/7%. It costs about $0.25/gallon/8% to transport the gas from the refineries to the gas stations. The gas station owner usually gets 7-10/2-3% cents per gallon (before expenses). The grand total: about $3.15/gallon, plus or minus your state's gas tax rate above or below $0.22/gallon). In other words, almost 70% goes to the oil producer (i.e. OPEC and others).
Link to a graph (with historical annotations) showing the price of gas from 1947-present:
