Think you're getting hosed at the pump?

By DAVDI MOON, Moon Capital Management
September 18, 2005

At the recent height of gasoline prices, I spent more than $100 to fill up my pickup truck. Like most everyone, I was none too happy about it.

Fortunately I understand supply and demand and don't look to some of the silly solutions I've seen floating around to address the situation.

Some activists are calling for governments to place a limit on the maximum price a station can charge for gasoline. Price controls lead to shortages, which lead to ' guess what? Higher prices. If the guy at the local convenience store has to pay $2.90 a gallon for regular unleaded but the governor says he can only charge $2.85 a gallon, how much do gas do you think he's going to be willing to sell? Put price controls in place and watch how quickly gas lines develop.

I received an email suggesting we boycott stations owned by one of the major oil companies, in an effort to show them that 'the consumer has all the power.' The consumer may have all the power, but the oil refineries have all the gasoline. The major oil companies don't­­­­­'or didn't a couple of weeks ago' have enough capacity to supply the demand for gasoline in this country. Again, a simplistic 'solution' for high gas prices would only lead to shortages and even higher prices.

Of course, this would only happen in theory, since consumers wouldn't be willing to purchase $5 gas at the stations favored by the boycotters, ignoring the $3 gas at the station in disfavor, just for the sake of principle.

As with most items, the price of gasoline is a function of supply and demand. But too many people confuse oil with gasoline. They are not the same thing. The process (and pricing structure) from oil to gasoline is long and complicated. It is not as simple as pump it today, refine it tomorrow, put it in your car the third day. Refining capacity in the U.S. is limited, so small disruptions in refining have huge marginal impacts on the price of refined products.

And don't forget, oil is the basic resource for numerous other consumer products, including cola bottles, cosmetics, fertilizers, drugs and others. All of these affect the supply and demand for raw materials.

Your local gas station is taking delivery of gasoline several times a week, in some cases daily. As a result, these stations, particularly the independent operators, are subject to the short-term fluctuations in the price of gasoline. These prices don't change daily; like stocks, they change every second of the business day. Gasoline, and almost every other grade of petroleum product along the crude oil life cycle, is a traded commodity. It usually changes hands many times before it ends up in its final product.

There are several ways to lower the price of finished gasoline products. Alternate forms of transportation, including alternate fuels, could reduce demand for gasoline. Like a conversion to the metric system, that is only likely to occur through market forces, not by fiat'and not today. An increase in the daily production of oil would help relieve pressure on the price of crude oil, but would do nothing about the refining capacity. To reduce the long-term market price of refined gasoline will require an increase in refining capacity or a decrease in gasoline usage. I'm not sure I see either on the horizon.

Unless that happens, expect to see more volatility in gas prices ' but because of market forces, not a conspiracy of greed.

David Moon is president of Moon Capital Management, a Knoxville-based investment management firm. This article originally appeared in the News Sentinel (Knoxville, TN).

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