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The Truth About Why Gas Prices Are Rising So High

By Kiara Ashanti

gas prices arm legAs a kid growing up in the frigid northern states, I eagerly awaited April and May when the days of shivering mornings, glove-covered hands, and general misery would be over. But these days, I dread the arrival of the warmer months. Spring and summer are when people take to the roads en masse, which means the price of gas is bound to skyrocket even higher than its current record rates. The average price of unleaded is above $5.00 a gallon and it’s not even May yet. June and July could mean higher prices than we have seen in decades.

The President and both parties of Congress have ratcheted up the rhetoric to explain why prices are so high and what needs to be done. But are they pitching the truth?

World Demand of Oil

Oil executives and Republican politicians would have us believe that the problem with rising gas prices is due to a rise in world demand. The countries of India and China are growing their economies and so have an increased need for energy. It’s easy to blame an increase in world demand because there legitimately is one. China, India, and other countries have increased energy needs, and their purchases of oil have risen to compensate. In fact, China alone has increased its oil consumption 350% above what it used in the 1980s.

To make matters worse, America is not exploiting its oil resources fully. The President likes to say production has risen under his term, but that is deceiving. Production is up, but not from drilling and not from new permits on public land. Private land used for fracking, the process of liquefying rock and extracting natural gas, is the cause. Oil drilling permits have not been issued, and there has not been a new oil refinery built since the 1980s. So those who blame the high price of gas on a demand/supply issue have it right…right?

Scapegoat

Wrong, they are incorrect. The problem with this assertion is that the same thing was occurring back in 2008 when prices spiked and “Drill, Baby, Drill” became a campaign mantra for John McCain. Demand was high back then too. But after the election and before Obama took office, gas prices dropped below $2.00 a gallon. If robust world demand increases the price of gas, it would not have dropped in late 2008.

rising oil prices

Evil Oil Speculators

Others, including many politicians on the left and television pundits like Bill O’Reilly, have found their target in oil and gas speculators. These are people, or companies, that trade oil futures for profits. In layman’s terms, they “bet” on what the future price of oil will be, and if correct, they make a boatload of money.

Speculators are being blamed for the high price of gas because people believe they are running up the price in order to make a profit. This idea is so strong and persistent, in fact, that Congressman Bernie Sanders of Vermont has written a bill that is designed to stop oil speculation. He is not the only one to call for an end to speculation either. Columnists, pundits, and even the President have called for its halt. The only problem is that speculators are not the reason behind high gas prices.

Phantom Menace

One of the problems faced by politicians and TV pundits is that often they are called on to speak or fix things they know nothing about. Naturally, and with a public clamoring for quick solutions, this can lead to ineffective or even destructive measures that get signed into law.

In order for a group of people to control the price of anything – oil, stocks, currency, gold – they must be able to move the market. To move the market, they need enough buying power (money) to control demand for the item in question. But the oil marketplace is a multi trillion-dollar market. To control the price long-term, speculators would need at least a third of the market’s size in investment dollars – easily a trillion dollars. But as a group, they do not have that amount of investment dollars. There simply are not enough speculators in total numbers or in combined investment dollars to control the world oil market long-term.

Think of this analogy. Imagine you have a backyard pool. But instead of water it is filled with cherry flavored Kool-Aid. You decide you want to lighten the deep red color, so you pour one gallon of clear water into the pool. But does the color of the pool change? No, because you have not poured enough water into the pool to dilute the Kool-Aid. This is the same principle. There are simply not enough oil speculators to have any significant effect on the large size of the oil market.

The other issue is that most people do not understand what speculators do or how they think. Oil speculators are securities traders. They trade securities, they don’t hold them. In fact, they don’t even care if the market is going up or down. They just care that it’s moving; they can make money in either direction. So, sure, the oil speculators are profiting off the up-trend, but they’re not responsible for it. So the question is: What is causing the move up, if it is not the oil speculators?

The Guilty Party Is the U.S. Dollar

The answer to this conundrum is in your wallet. Take out your wallet, pull out a dollar bill, cut it in half, and you have the answer. The U.S. dollar is not worth what it used to be. This is not a revelation to most people. However, most do not realize how a weak dollar affects the prices of all the things we buy, especially gas. Look at the chart below. It shows the value of the dollar versus the price of oil over much of the last decade.

wtic usd chart

As the chart shows, whenever the value of the dollar goes up, the price of oil goes down. When the value of the dollar declines, the price of oil goes up. The reason for this is simple. The oil market is priced in dollars, so everyone buys and sells in dollars. The oil sheiks get paid in U.S. dollars, so if the dollar does down in value, they require more dollars to receive the same value. The chart is the simplest way to see adjustments in the price of oil relative to the strength of the U.S. dollar.

The dollar has been in a downward spiral for the last 10 years. It started its downward move under President Bush because he adopted a weak dollar policy to spur the export of U.S. goods. And when President Obama came into office, he accelerated governmental debt spending, and the Federal Reserve began printing money to help the economy. But neither spending nor the printing of more money has helped the economy. Printing more money has led to a diluted dollar and governmental debt also weakens it. The result? Higher gas prices.

Possible Solutions

As a citizen, it is crucial to know the true reasons behind the problems we face. When you do not, you may create or accept solutions, but discover later that the problem has not been solved. Unfortunately, our recent history is rife with such examples.

In the wake of the Enron scandal, the Sarbanes-Oxley Act was signed into law. It was supposed to stop fraud regarding financial records. But years later, Bernie Madoff was jailed after defrauding billions in large part owed to fraudulent financial records. Sarbanes did not stop it. In 2008, the financial market crashed because of the mortgage market, derivatives, and a financial sickness created by Fannie Mae and Freddie Mac.

Now, we have the Dodd-Frank Act, written by the guys who were in charge of the recently collapsed mortgage market. Though the Act intends to prevent another banking crisis, it does not in any way affect, include, or deal with Fannie Mae or Freddie Mac. A prediction that it will not prevent another banking crisis is easy to make.

Both examples illustrate responses that did not address the real issues behind the events they were supposed to prevent. Congress could make every single oil speculator in the world disappear tomorrow, and yet gas prices would not come down. A Republican controlled Congress and President could order drilling off every single oil hole in America, and in the long-term it would do nothing to decrease gas prices.

Though an increase in supply could lower prices in the short-term, we would still be faced with the issue of a declining dollar. If that is not addressed, gas prices could go even higher. This is especially true since it is unlikely the U.S. will become independent of foreign oil given our current and projected rates of consumption. If, however, we enact policies that lead to a strong dollar and the value of the dollar goes up, the price of gas would come down – even without additional drilling.

gas money tank

Final Word

Our monetary policy is the most effective means we have to control the price of gas and positively affect the lives of everyday Americans. Your wallet is getting thinner, so to speak, because the dollars bills in it are worth less. That is why gas will be so expensive this summer, in the fall and winter, and in the foreseeable future – unless, of course, the value of the dollar goes up.

(photo credit: Shutterstock)

Kiara Ashanti
Kiara Ashanti is a former financial advisor, securities trader, and writer in Central Florida. He has written for Black Enterprise Magazine, Active Trader Magazine, and Atlanta Post, and has even appeared on The Oprah Winfrey Show. Kiara covers the areas of business, investments, and personal finance.

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  • RDH

    Gas is $3.679 this a.m., down from $3.729. Where is gas $5.00 a gallon? By saying the average price is $5.00, are you referring to the national average or your local area? To have an average of $5.00, and with gas at $3.679 here in San Antonio, gas must be over $6.00 a gallon in a lot of places.

    Now, having said that, your article is correct. The declining value of the dollar is a major culprit in the price we pay at the pump. This administration will not take the steps necessary to strengthen the dollar. I doubt the next administration,whether democrat or republican, will strengthen the dollar either. So, we are “stuck.” I appreciate your article addressing the real culprit in all this, the declining value of our dollar. Well written. I find it interesting, that when I was a kid in the late 1950s, an ounce of silver which then was valued at One Dollar, bought roughly 5 gallons of gasoline (yes, gas was .20 cents a gallon). Over 50 years later, an ounce of silver, valued at roughly $30 an ounce, still buys roughly 5 gallons of gasoline.

    • http://www.facebook.com/profile.php?id=1494445710 Kiara Ashanti

      rdh it may have been a spike in Cally. I was looking at a chart of average gas prices for my info, and that was the last price on it. You are correct there will be state and regional differences.

  • Mlewis1945

    While I understand your distaste for easy money (inflation), I think you’ve overlooked the demand/supply relationship in oil today. In 2010, we consumed slightly more than 19 million bbls/d while producing about half that amount. Americans use about 3 gallons per day per capita while china and India consume .5 gallons per day. Their increasing demand means that prices will go up, reflecting demand. While American reserves have been increased due to the shale oil, our production will never replace what we use. And the only reason that the reserves increased is due to the higher price per barrel which makes previously uneconomic sources available.
    You’ve also failed to mention that more cash means paying off the National debt costs less in real terms than a deflating dollar. Whether you want inflation or deflation depends upon which side of the fence you’re sitting on.

    • http://www.facebook.com/profile.php?id=1494445710 Kiara Ashanti

      Mlewis1945, you are missing two points. One, the difference in supply and demand today is not significantly more than before President Obama took office. At that time gas was 1.79 a gallon. Two, even though the increased demand we will ultimately see from China and India in the future, a strong dollar will still keep prices low. A weak dollar, plus increased demand will make it even more expensive than it is today.

      You make a good point that I did not want to get into because of space, regarding using inflation as a way to pay down the debt. It has two problems. One, politically it will surely destroy whomever the President is if they do that. Inflation got into the double digits under Carter, interest rates were as high as 17%. Obama or Romney (who probably wouldn’t do that anyway) would just get lambasted. Second, and more deadly is the risk that dollars would cease to be the currency that oil is bought and sold in. IF that happens, then in ALL areas the country would be toast. So we really cannot use inflation as a way to erase the massive spending we are doing now.

  • MoneySmartGuides

    Very informative post. Now if we could just get everyone to understand so the politicians can stop blaming everything but the real culprit!

  • http://twitter.com/smstrategy StockMarketStrategy

    Hi Kiara,

    Very informative post. You should Google search the High Frequency Trading manipulation in oil also I think it might make you gasp!! This case especially: High-frequency trader Optiver pays $14 million in oil manipulation case.

  • http://pulse.yahoo.com/_FTQVAINPI2JQCHAPO7OK73FA2I workit

    I learned a lot with your article. Thanks for such clear explanations. I live in California and yesterday my gas cost $4.32 and I live in the suburbs. I sure hope our country doesn’t get into worse shape. Sad Times. Countries used to look up to us. And now…….

  • http://twitter.com/jasonchanning Jason Channing

    Lols USO, those gas companies have posted registered high earnings. Look at the earnings for every quarter for the gasoline companies. Growing bigger and bigger. Those lobbyist have create laws to make money for themselves. They made america oil reliant instead of making public transportation more cost effective and efficient.

  • James nunez

    Yeah Kiara I’m gonna have to debate you on several points here. First absolutely currency devaluation is an issue but lets look at something simple right now. RBOB is trading at 2.58 By historical standards The difference in RBOB historically has been that the retailer added .40cents to the price to cover federal tax that has not increased in decades and about 4 cents for a small profit to the retailer. Currently the average price in Dayton Ohio is 3.35. But really gasoline should be selling for 2.98 a gallon. about 20 years ago a test market was created to see how consumers reacted to a few penny increase in the price paid at the pump it used to be 5-10 cents. that proved to be very profitable so it was expanded to a region and then to a few regions and now its the national standard. so in the past 7 years or so the 4 cents of profit have regularly become 12-60 cents in pure profit at the retail level.

  • James Nunez

    Second point the repeal of glass- steagall made it possible for all the legislation slowly and methodically put in place by the super high powered banking lobbyists for the benefit of the financial services industry to pillage the world and then have “percieved by the public” losses actually paid for by tax payers (that’s socialism by the way) but I digress. The real problem was giving banks the ability to combine operations of investment banking retail banking hedge funds mutual funds insurance companies anuity products dirivitives markets commodities markets and currency markets …i’m sure i missed a few. But when we allowed that to happen we sealed our fate as a nation and for the rest of the world. ENRON was really a test lab for trading operations in power Recall the rolling blackouts of California directly caused by simply turning off the power at a power generating plant and squeazing supply to municipalities then insisting those municiplaities pay you far higher prices for the megawatt or gigawatt or heck kilowatt. That really was the model that has now been institutionalized by our commodities markets. You have already seen it unleashed in the commodities that have essentially been the proverbial straw that broke the camels back in countries with far lower per capita income the arab spring can arguably be brought down to the the street level to the human level of a man not being able to afford to provide food clothing or energy to his family. when you demasculinize men of a country in masse bad things happen …or good depending on your point of view. I’ll leave it there and you can extrapolate as you deem appropriate.

    So, banks have worked diligently to create and now hold the worlds most sophisticated commodities trading operations ever created (more on this later) and why not they are the global speculators they do control not a trillion but hundreds of trillions of dollars, to believe otherwise is not understanding that this financial crisis we are in (and i have said this since a few months after the unwinding began) is a leverage problem the equity requirements of the financial instruments created was dilluted many times over as you created more and more financial instruments with less and less real capital. We have a 30:1 leverage problem. conservatively domestically we have a 100 trillion dollar leverage problem To think that fannie and freddie are the issue is a ridiculous position to take. I’ll point to the fact that banks have been deleveraging their portfolios and dumping toxic assets into fannie and freddie whiole sucking in almost dollar for dollar funds to fill the vaccum in their books Tarp and all forms of stimulous since are the tip of the iceberg we have already pumped in 55 trillion to the major banks while simultaneously attempting to make whole other nations that we essentially bankrupted with our toxic financial instruments that goldman and every other investment bank sold to them and their corporations. See the only problem is they did not have the ability to print money like we do. Just as an aside if you have this type of instability in other nations their currencies drop as well and so subsequently we don’t feel the drag on our dollar the way we would have had we gone through this alone. We had to share the financial vomit we created with as many greedy co conspirators as possible. Here is another aside, Just like big oil owns the entire process that is oil from the leases the exploration the drilling the extraction the transmission the refining the “cracks” (those are all the products in the refining process) the distribution and the retail network. well the banks now own that exact same model in financial services. Lets look at one more recent news story involving “the whale” and JPMorgan Chase the billion dollar loss from their off shored derivatives trading operations has quietly become 6 billion which was a a 100 billion dollar bet placed by one trader. what is significant is that this is part of the investment banking side of the bank but because of where they were located they quietly used FDIC insured capital from the retail banks operations to fund this bet that depositors money usually used to facilitate loans to other consumers and businesses not speculation. You know like banks are supposed to do. I’ll let you ponder that. but rest assured deregulating the banks was probably the most irresponsible thing we the people could ever have done. Well…maybe …keeping them deregulated almost 5 years after is really the most uninformed irresponsible thing we could be doing.

  • Jamesnunez

    i’ll give another example on the banks owning the entire process. Detroit, Michigan Toledo, Cleveland, Ohio have been decimated over recent history economically. Detroit being the worst of the three. In fact there are a multitude of facilities in the great lakes that have been foreclosed on and are held by major banks many others are so depressed that banks can lease space really cheap. If you are a big bank with sophisticated commodities trading operations and you have not only the ability to affect global commodities markets with these trading floors. but then to actually take delivery of the physical commodity whether it is oil cotton aluminum iron rice whatever. Day rates for tankers has been pretty stable a quick check of who the largest consumer of tanker space will show an opaque path to ….you guessed it a big bank. it’s not news really, 60 minutes ran the story several years back and either Pro Publica or Frontline i believe also did a piece. I’ll try to share a few more perspectives with you later have a great weekend all.

  • Jamesnunez

    Oh yeah one of my favorite topics is what happened to refinery capacity utilization numbers? They used to be common up until 2006 or so. so I will tell you. It used to be prior to 2006 refinery capacity utilization ran throughout the year in the 95-98% range Shut downs, turnarounds industry speak for shutting particular units of a refinery down to change it over to refine something different or more of something heating oil in winter kerosene unleaded gas diesel etc. usually seasonal stuff it’s built in to our energy system and is always factored. It is true that there has not been a new refinery built in a long time what is not true is the perception that people normally get with that statement existing refineries have added capacity dramatically over the past 30 years ending about a decade ago. So getting back to capacity utilization. since 2008 our capacity utilization has dropped and stayed at 83-87% for the past almost 5 years This fact is unprecedented. we have never had this much surplus refinery capacity and for this extended period. it makes sense though when you are really in a depression and the only reason you can say otherwise is a booming stock bond commodities and futures market completely disconnected from the real economy that isn’t growing and is contracting every where but major metropolitan areas and where ever fracturing of our earths crust while pumping toxic waste into a “UN” reenforced concrete pipe into the ground ( i don’t know if you guys know what happens to un reenforced concrete. there is a reason rebar and wire mesh goes into the pier columns of buildings) with no regulatory oversight and in complete ignorance of the clean water act. but i digress. yes there has never been weaker demand for gasoline and for almost 5 years in our history or at least since 1972. relative to population and yes in the past 10 years our population has grown by 30 million to 334 million or thereabouts. All these hurricanes all these natural pending disasters, this crap about Iran blah blah we have always had issues much more real than any and all this and they never affected gasoline prices in any meaningful way until the peak oil scare of the 1970s. This is all misinformation dis information and no information and part of what drives gasoline prices higher with no real economic reason to attach to it. When i was in the NAVY we had mines in the Persian Gulf and we had Navy escort ships and mine sweepers for oil tankers That was real it barely affected a price of gas at the pump even in relative terms.

  • http://www.facebook.com/profile.php?id=1494445710 Kiara Ashanti

    Ok you’re letting a number of complicated items, cloud a simple issue here. First, commodity traders do not try and corner the market to one side. They want activity in either direction. I used to trade and I have interviewed dozens of traders over the last 10 years, so I know this intimately. The banks and their trading arms have nothing to do with the raise in gas prices or prices to the degree you mention. BUT, but even if they were, as long as the dollar is weak, that will be the majority of the issue. If the dollar was strong, and our spending not out of control (and thus affect the dollars value to the downside) gas would be more than less than half its price today. Here is why I think you are over thinking this. Remember, all the things you mention as the “real” reason gas is so high was also the case months before Bush left office. And when he left office gas was around 1.79 per gallon. So if it were all the things you mention, than it would never have gotten that low.

    Bush weakened the dollar to keep exports going, and credit flowing, and Obama came in and made things worse.

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