In a recent email publication from an individual named Philip K. Verleger, Jr. titled “Notes at the Margin” Volume XII, No. 27, Mr. Verleger puts forth his explanation for the significant recent increase in crude prices. I cannot find an online publication to link to, but here is the individuals website: link
Additionally, in the publications section on his website, he has a couple of somewhat related postings:
1. Made in the USA: The Causes of High Oil Prices
Hereis his biography from the Peterson Institute for International Economics:
"Philip K. Verleger Jr., visiting fellow, has been associated with the Institute since 1986. As president of PKVerleger LLC and a senior adviser to The Brattle Group, a Cambridge economics consulting firm, Dr. Verleger specializes in the study of energy markets. He was a staff economist at the Council of Economic Advisers (1976–77); director, Office of Domestic Energy Policy at the US Treasury (1977–79); and senior research scholar and lecturer at the School of Organization and Management at Yale (1979–82). The author of numerous studies on international energy and petroleum issues, including Adjusting to Volatile Energy Prices (1993) and Oil Markets in Turmoil (Ballinger Publishing, 1982), he has served frequently as an expert witness for parties in private disputes. "
Anyway, Mr. Verleger states in his newletter that: 1) the various explanations port forward recently for the increase in prices are entirely wrong; 2) the consequences will be harmful legislation and long-term difficulties for the oil industry; 3) prices will climb much higher if their recommendations are implemeted; and then 4) "prices wil collapse when the real causes of high prices are resolved. By collapse, he means it: oil prices will be somewhere between $10 and $59 dollars although single digits cannot be ruled out.
His explanation for the price increases are:
1) Too much of the world’s refinery capacity has been built around fuid catalytic cracking and too little of it around hydrocracking capacity. Hydrocracking plants could manufacture gasoline or diesel while catalytic cracking is designed to make gasoline. Diesel supplies are tight while gasoline supplies are in surplus.
2) The imposition of tight sulfur specifications on diesel fuel. The U.S., Europe, Canada, and Japan pushed for regulations for over-the-road use diesel to have less than 10 to 15 parts of sulfur per million while refiners simply do not have capacity to deliver adequate diesel supplies with those restrictions.
3) Problems in Nigeria. Nigeria crude contains very little sulfur but the disruptions in Nigerian production have resulted in their supplies being replaced by heavy, high sulfur content Arab crude. This further exacerbates diesel supplies.
4) The department of energy’s injection of sweet crude to the strategic petroleu reserve. He suggests discontinuing the injection of sweet crude and replacing it with sour crude.
5) The supply / demand squeeze for diesel in Europe. European policies have resulted in the use of diesel instead of gasoline. Additionally, because of the high tax rates in Europe, they are not feeling the dramatic increases in prices as much, on a relative basis.
6) The requirement of the use of ethanol in gasoline. Refiners are processing less crude now because some capacity is being replaced by ethanol. Without these requirements, refiners could produce as much as an additional 200,000 barrels per day of diesel.
7) Prices are being lifted by the weak dollar. The declining value of the dollar compared to the Euro requires significant increases in prices in order to prevent European consumption from rising.
He goes on to say that the solutions are to: 1) relax sulfur standards; 2) release sweet crude from the SPR and possibly replace with sour crude; and 3) suspend mandates forcing refiners to blend ethoanol into gasoline. He states that he realizes that these do not solve all of the problems, but unfortunately little can be done for several of them (example: can’t force peace in Nigeria).
He goes on to say that prices will continue to rise and unfortunately many of the solutions being considered by congress may actually worsen the problem. The biggest prediction he makes, however, is that once refiners complete diesel production expansion projects and high prices ultimately lower the demand, prices will crater and that single digits cannot be ruled out. This is predicted to occur as early as 2010.
There is quite a bit more that he states, but what I have summarized seems to be the most interesting. I am not qualified to really weigh in on many of these claims as my expertise is more in the evaluation of reserves and financing of projects rather than prices, the diesel market, and refiners.
The debate is: how credible are his claims? Further, is he a reputable individual in general or a whackjob?
(I will continue to look for an online posting of the entire newsletter)