Record Gasoline Prices and Refinery Margins – What Does This Imply About Markets and Policy Responses?

Back on May 10, I was complaining about high gasoline prices but did not yet have official data on the role of refinery margins during April 2007. Well, my graph has been extended to April and no surprise – real gasoline prices have indeed increased (if you had to fill the tank like I did today – forgive me for stating the obvious) and much of the reason is an increase in the refinery margin from $0.59 per gallon to $0.77 per gallon. Given all the press roar about a shortage of refinery capacity, you might have expected more of the increase to be from refinery margins. But yes – some of the recent increase was due to higher oil prices and my use of historical April data misses what’s happened in the last couple of weeks.

But the main reason for this post is to let folks know about a time series on refinery capacity that my fellow Angrybear Cactus informed me about. The most recent observation was just under 90%, which is lower than the 95% figure that the press is touting as capacity before the Katrina effect. So how do we interpret the fact that refinery capacity is down even though refinery margins are up? The press seems to be eating up the inward shift of the supply curve hypothesis. This perfect competition model leads many economists to argue price controls would be a bad idea.

Certainly, the dip in refinery capacity and rise in refinery margins after Katrina should be seen as inward shift of the supply curve. But did Katrina and Hurricane lead to such a decline in refinery supply that we still are feeling the effects? Or is the fall in output and the rise in prices due to some cartel behavior? If the latter is the case, price controls might be a means of lowering prices and increasing production.