There are several reasons why oil companies hate to invest in refineries, most of which have been discussed above. The key issue, though, is return on investment. Refining is a very low-margin part of the whole process from exploration to final product sales. My brother works at a refinery, and they’ve gone through several periods where they’ve been on the company black list because they are not an internal profit center. The big companies look at each segment of the business and rank them according to how much money they would make if they were individual businesses. Refineries often come in last. They take huge amounts of money to build and operate, use expensive feedstocks (crude oil) and then have to market a commodity, which by its nature is not something that you can charge much (if any) more for than your competitors. So they hate to put big chunks of their cash into building more.
In addition, it’s to the companies’ advantage to keep gasoline supplies a bit tight. A few years ago there were some internal memos floating around that were pretty explicit about that. By keeping supplies tight, the price of gasoline was maintained at a higher level, and the refining process became more profitable (higher price for their end product). I can’t find the memos on the net right now - they used to be at ConsumerWatchdog.org, but have been removed. There is a 2005 news story that is on the site that describes the memos, though - it’s very interesting.
this doesn’t make any sense to me. In a competitive market, you never make more money by reducing your own output, as someone else will step in to replace it. If, however, you think they are colluding, that is quite illegal - is there any evidence of that?
I’m not an economist, so maybe I have it all wrong, but I don’t get this. If oil was cheap, wouldn’t the bottleneck on the supply of petroleum lie in the number of refineries to an even greater extent than it does today? Why wouldn’t oil companies just find investors to fund refinery construction? They don’t need cash. Refineries would seem like an extraordinarily smart investment, especially in the economic atmosphere of optimism the late 90s.
The problem with this is that ignores “barriers to entry” which discourage new competition.
In this case the barriers to entry into the refining market are the tremendous initial cost (both financial and combatting NIMBY) and the low rate of return.
It isn’t collusion to have everyone in a business sector to look at roughly the same projections and decide, “crap, it’s not worth it.”
In this case the analysts are looking at a billion dollars to expand an existing refinery and a period of 20 years before they recoup the investment and start turning a profit. Obviously, building a new refinery would cost more and take even longer to earn a payback.
This is what an old boss of mine used to call “cutting your way to profitability.”
What this doesn’t take into account was that the demand for refined fuels was so much less in the 90s that current refineries were not working to capacity. How do you justify the enormous amount of expense to add new refineries when the existing ones could handle the load with ease?
This is a classic chicken and egg problem. When demand is low, prices are low and profits are low so it doesn’t pay to invest. When demand is high, prices are high and profits are high, but the payback is so far away that anything could happen in between.
Occasionally somebody makes the decision to go ahead anyway and bet that their additional capacity will be just what is needed and they take over the world. More often somebody makes the decision to go ahead and sinks billions into a hole in the ground. (Which is exactly what happened in the 70s.) That’s why CEOs are supposed to get the big bucks.
If it isn’t a supply issue, and it isn’t speculation, then why do prices for gasoline jump everytime a band of idiots attack a random drilling or refining facility in Nigeria, when we get only a small percentage of our oil from there?
Why does the war in Iraq make prices go up when there’s a little more unrest than usual?
Wells are still flowing, people are still driving, there’s relatively little instability in the supply chain, so if it isn’t speculation, then what is it?
When demand is equal to or greater than supply, any factor that affects supply will have a disproportionate effect on prices. Most prices are set by long-term futures contracts. But the “spot” market is for oil that is needed right away. If you’re one of ten people bidding for 1000 barrels of oil when only 900 are available, you raise your bid enormously.
You see this in all sorts of markets. It’s exactly what Enron did in California in the electricity market. They created artificial shortages, so that people would desperately bid $1000 for electricity that might cost pennies on a normal day.
This has larger implications for the broader market. If you see shortages in the spot market, you realize that the long-term market may get equally iffy. So you start bidding up long-term futures to ensure that you get your share no matter what happens.
We saw a lot of these spikes after 9/11 because buyers hate uncertainty in prices and tried to lock in as much certainty as they could afford.
But these were short-term spikes. The recent rise is all due to a real lack of supply and that’s why it is so much larger and has lasted so much longer than all the others have.
But that’s just it…there seems to be some disagreement as to how much demand there is versus supply. I have no cite, but I read the news daily, and I often see conflicting views: you hear about the lack of refineries, or how suddenly China and India are gobbling up what would have been our glut of supply, or the weak dollar, or how hedge markets are uneasy because of a “perceived” interrruption of supply, no matter how small, due to a terrorist strike against a small-ish facility.
I suppose it could be a combination of all these factors. One could also make the argument that the US has been underpaying for gasoline for decades and only now in light of economic conditions, weakened currency and increased demand that the pigeons have come to roost.
I just don’t know what to believe. The supply/demand model has generally been the price indicator in an economy such as ours, but oil is an energy resource so it’s regulation makes it’s pricing somewhat murky.
If the free market can’t take care of this problem … I think I could get behind nationalized oil refineries. I’d be cool with my tax dollars going towards that – how many refineries could have been developed for the cost of the current war in Iraq?
Another wild-hair thought – does China and India have much refining capacity of their own?
And if not, could they be convinced to develop some? And if they say “no”, could they be somehow shut out of the oil market (not very nice, I know) until they decide to play ball? Of course, if one were to take it that far, it might well spark military action.
All these reflect Full-Sized refineries, don’t they?
What if you had some kind of micro-refinery…something that was self contained and can fit on the trailer of an 18-wheeler, and thus can be driven site-to-site and use a feedstock other than petroleum?
A small, mobile gizmo that comes to you, eats up all the waste stuff you have taking up space, and leaves you with a useable fuel.
A smaller scaled refinery would return its investment faster, yes?
Oil inventories are currently increasing. This means that the price is probably too high, and as inventories get larger the price should decline.
What may be happening right now is that the oil market is becoming a speculative asset bubble market. People are betting on long-term increases in the price of oil, and this is driving up futures prices and current prices. I’ve heard that Iran is actually leasing a whole bunch of storage tankers to float their excess oil offshore because they’re producing more than they can sell at current prices.
I think you’ll see a retrenchment in prices fairly soon - maybe in the fall. Not to anywhere near the $25/bbl oil was at a few years ago, but back under $100/bbl. That doesn’t mean it will stay there - in the long term, I think demand may still outstrip supply and keep prices moving upwards until other energy sources come online and demand for oil balances supply again.
What if you had a Mr. Fusion device and you could power it with any garbage you had handy? Wouldn’t that be ever better? I mean, if you’re going by imaginary technology anyway?
This is what I think is happening too. We had the dot.com bubble, thoue housing bubble, and now the oil bubble. It should burst at some point and oil should come down to earth a bit and stay that way for a few years before adjusting upwards again.
None of the technology you mentioned is remotely available as a portable micro-refinery. It’s not clear that they would be cost-effective on small scales in the first place. Economies of scale are crucial when converting tons of waste into gallons of fuel. It’s never true that smaller-scaled plants return their investments faster. Just the opposite. Small-scaled ones are needed to test the technology, but it costs proportionally far more to build everything small and in multiple quantities than it does to build one central facility.
These are technologies hoping for a future, some of the zillion alternatives that people will be testing on the market to see which ones survive. Most will fail that test.
In the meantime, they’re as realistic as fusion. Which is always only 25 years away.