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Pumped Up!

This morning, as I brought my daughter to school, I noticed something I haven't seen in a long time—the price of regular unleaded gas at my local station was $2.89 per gallon!!! Now I know that anyone reading this who has spent even a small amount of time in Canada or Europe will laugh at my shock (their gas prices are regularly 1.5x to 2x ours). And yes, I realize that being here in New Jersey, our gas is lower-priced than many places around the country. But still, I haven't seen $2.89 per gallon in these parts in quite some time.

 

The truth is that while we were suffering under an extended winter, gas prices have gone up to their highest level in three years...a 10% rise since the end of February, and almost twice that in the past year.  In fact, since the national average bottomed out at $1.70 in late 2016, gas prices are up more than a dollar per gallon.

 

So why the rise?

 

The easy explanation has to do with crude oil. As oil prices go up, so do the prices of gas at your local gas station. The price of oil is on the rise because demand is high. Why is demand high? One reason is due to  global inventory controls administered by the Organization of Petroleum Exporting Countries (OPEC). For many years, stockpiles of crude oil in the United States and elsewhere were at dangerous levels. For more than a year now, OPEC has worked to reduce this stockpile, which has all but been eliminated. With demand high, production is high...and prices are high.

 

Another factor that can't be ignored is the instability surrounding the 2015 Iran Nuclear Deal. The Trump Administration has not been short on surrounding the deal and whether the United States will continue to participate in this multi-lateral agreement—a decision that will likely be made within the next three weeks. Should the United States pull out of the agreement, it is likely that new sanctions will follow, which will put negative pressure on Iran's fuel exports. If the United States stays in the deal, the expectation is that no new sanctions will be coming down the pike, and some relief to global demand fears will be eased. At this point, the result here is anybody's guess. As we have learned over the past sixteen months, the prediction business is fool's gold.

 

A more interesting player might be the sort of "which came first: the chicken or the egg?" thing going on in the auto industry, something that certainly can't be ignored when talking about gas prices. When gas prices were high in the early part of this economic cycle, people started flocking to fuel-efficient cars, everything from hybrids to electric to smaller vehicles. Dealers couldn't push gas-guzzling SUVS and trucks off the lot. In fact, I remember going into a dealership about ten years ago and one of the biggest trucks didn't even list its fuel efficiency anymore. Fuel cost was such a big concern that the dealer's only hope was to duck and cover. As a result of this move to smaller cars, the demand for fuel went down. And when demand goes down, prices are typically not far behind.

 

As prices got lower, suddenly people started to care less about fuel efficiency. Car buyers were no longer so concerned with the environment. They could get the big car they wanted and not break the bank at the pump. And so started something of a renaissance for  SUVs, minivans and trucks—a renaissance that is still going on to this very day, and has created a renewed demand for fuel. And you know what happens when demand gets higher...(see the last line of the paragraph above).

 

So does this mean that we will soon return to favoring smaller cars? Not quite. The technology surrounding electric and alternative fuel vehicles has improved drastically over the past few years, and that is not likely to change anytime soon. As car manufacturers perfect their visions of the "car of the future," many are abandoning smaller sedans, which have dropped in popularity. In fact, Ford announced this week that it is dropping all but two sedans from its North American dealerships. And it is not just Ford. Fiat Chrysler did away with the Dodge Dart and Chrysler 200 last year. GM is scaling back production of Chevy Cruze, Impala and the Buick LaCrosse.

 

As demand and availability of smaller cars continues to plummet, demand for fuel is likely to continue its steady rise. Each passing year will see more older-model smaller cars go off the roads and be replaced by their larger counterparts. And while most car manufacturers have some high-end electric cars, or are working on their technology to meet the demands of a changing global climate, it may be quite some time before we see those cars on every lot. It is only when the next generation of automobiles reaches a critical mass (i.e., a price where middle class families can afford them) that demand for fuel might start to subside.

 

With all of these global factors, we cannot forget the other driving force (pun intended). One that comes into play every year at this time: summer. Yes, the season we've all been yearning for during these colder months doesn't help gas prices one bit. Summer is known as the driving season, when people head to the beach, cross country, on a day trip or on a dream vacation. Domestic demand for gas always reaches its annual peak during the summer months. When you add that to global demand hikes, uncertainty with Iran, and a decline in the availability of smaller sedans, it seems pretty unlikely that substantially lower gas prices are coming anytime soon.

 

What should we do? Be aware and stay prepared. Understand you are paying more at the pump and put a few extra dollars in the budget to accommodate for that increased cost, and remember to consider fuel costs when you make your next vehicle purchase.

 

Sources

https://www.bloomberg.com/view/articles/2018-04-26/small-cars-are-out-of-style-just-as-gas-prices-start-to-rise

https://www.cnbc.com/2018/04/18/3-gasoline-is-coming-soon-as-demand-jumps-and-crude-oil-prices-rise.html

https://www.wsj.com/articles/oil-inches-higher-ahead-of-u-s-stocks-data-1524649650

https://ycharts.com/indicators/gas_price




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