By Ken Robinson
February 2, 2023
Elevated gas prices have been top of mind for drivers across the country. While prices haven’t reached the heights of 2022, 2023 is nowhere near the extreme lows of 2020. So, what’s been happening? What events and factors have impacted the rollercoaster ride of these prices? There are a number of elements that go into how gas prices are determined. In this post, we’ll explore the main contributors and how they impact vehicle owners each time they pull up at the pump.
As we shared in the intro, there’s a large number of factors that can elevate or decrease the price of gas. But, when looking at most frequent culprits, the ones with the large impact, there are four main components of the retail price of gasoline. Those are the cost of crude oil, refining costs, taxes and distribution and marketing. While prices reflect these components and the profits of those who produce and distribute gasoline, there are additional elements at play that influence prices. These can include geographic location, local market conditions and unforeseen disruptions that lead to additional spend.
The cost of crude oil is the most significant factor of how gas prices are determined. In fact, it accounts for more than half of what we pay for per gallon of gasoline. Put simply, this means that supply ultimately determines the price of gas. Major oil producers can drive up the price per barrel of crude oil with decisions that slow or cut production to decrease supply. Disruptions and geopolitical issues also slow production. For example, consider the Colonial Pipeline ransomware attack, the Texas Freeze and the Russian invasion of Ukraine.
Oil producers may also choose to ramp up oil production, increasing supply and reducing the price per barrel of crude oil. While this ultimately benefits drivers with lower costs per gallon, this maneuver is rarely about the price per barrel. Oil producers often take this approach in an effort to create a supply imbalance and gain market share from competitors.
There are three top crude oil producers: Russia, the United States and OPEC+. Since the invasion of Ukraine, a large number of Western countries are no longer buying oil from Russia, even as they sell at a price far lower than the other producers in the market. This gives OPEC a large amount of control over the market, and they were already one of the top three.
As a bit of background, OPEC is an organization made up of a number of oil-producing countries. Those countries include Algeria, Angola, the Republic of Congo, Equatorial Guinea, Gabon, Iran, Iraq, Kuwait, Libya, Nigeria, Saudi Arabia, United Arab Emirates and Venezuela. In recent history, OPEC has made significant efforts to increase the price per barrel of crude by unanimously cutting production. When the U.S. and most of Europe sanctioned Russia, many looked to OPEC to increase production. They opted to further cut production, an effort to raise the price per barrel further.
Refining oil is another process that impacts how gas prices are determined. These costs fluctuate based on the season and geographic location of the refinery in the U.S. Varying types of crude oil require different levels of refinement and rely on the processing technology available at the sites that produce it. Different parts of the country also have stricter limits on greenhouse gas emissions and require different gasoline formulations.
Federal gasoline standards mandate specific fuel mixes for different seasons. Gas stations must switch fuels based on the season to comply with EPA regulations and reduce air pollution. Fuel with a lower Reid Vapor Pressure (RVP) evaporates at a slower rate than blends with higher RVP. Winter fuel mixes require a higher RVP for engines to start and operate properly in colder temperatures. During the summer months, refiners produce fuel with lower RVP blends to limit unnecessary evaporation due to rising temperatures. Prices historically climb during the summer season because the additives used to lower the fuel’s RVP require a greater level of refinement.
Federal, state and local governments tax gasoline. For that reason, taxes have the second-highest impact on retail costs. The current federal motor fuel tax rate is 18.40 cents per gallon of gasoline. This tax consists of an excise tax of 18.30 cents per gallon and the 0.10 cent per gallon federal Leaking Underground Storage Tank (LUST) fee.
In addition to excise taxes, states incorporate fees and taxes that include environmental fees, inspection fees, load fees, clean up fees and LUST taxes, license taxes and petroleum taxes. According to the U.S. Energy Information Administration, the average of total state taxes and fees on gasoline average 31.02 cents per gallon. Pennsylvania is the state with the highest tax rate on gasoline at 57.60 cents per gallon while Alaska was the lowest at 8.95 cents per gallon.
Taxes may impact how gas prices are determined, but they also contribute to making roads drivable. Without routine maintenance to city streets and interstate infrastructure, we wouldn’t get very far. Which raises the question: what happens when electric vehicles overtake internal combustion engine (ICE) vehicles? Given the limited production, lack of infrastructure and slow adoption, we’re still many years from such a reality. But it gives voice to the argument for a vehicle miles traveled (VMT) tax.
The price of distribution and marketing are also play a role in what determines gas prices. Most refineries use pipelines to ship gasoline to terminals near consuming areas. From there, it is blended with other products and delivered by tanker trucks to individual fueling stations for distribution.
Oil refiners own and operate some gas stations while independent entities purchase fuel to resell to the public at others. Gas prices reflect this markup as well as local factors such as the physical fueling location, market competition and the owner’s marketing strategy. Business operating costs also affect prices and considerations include wages and benefits, equipment, insurance, lease spend, overhead and more.
As you can see, no one person is responsible for the price of gasoline. There are several components that impact how gas prices are determined in a variety of ways. Efforts can be made to alleviate pain at the pump, but prices are ultimately determined by supply and demand. Nothing short of increased gasoline production or reduced demand will have a significant impact on prices.
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