Soaring Gasoline Prices: Six Things You Need to Know

A motorist pumps fuel into his vehicle
A motorist pumps fuel into his vehicle. REUTERS

Gasoline prices, alongside other energy commodities, are on the rise and further increases are just over the horizon. Now, it seems that everyone, from central bankers in charge of price stability to traders looking to make a profit from arbitraging commodity futures and politicians seeking to turn inflation into a campaign issue, is taking notice.

The recent resurgence in the price of crude oil has led to speculation that, in a repeat of what happened at this time last year, a spike in energy prices could undermine real economic growth just when the recovery appears to be gathering momentum again, Paul Ashworth, chief U.S. economist at Capital Economics, wrote in a note to clients Friday.

Here are six things to know about the recent rise in energy costs:

1.     It's Not Just About the Pump

The reason energy prices are making the headlines now is that retail gasoline prices, which had lagged the increase in crude prices from earlier in the year, are beginning to perk up considerably.

On Friday the average price in the U.S. for regular unleaded was $3.647 per gallon, with customers on the West Coast seen digging in their pockets for more than $4 per gallon -- a psychologically significant mark -- at the pump. The increase has been swift: Customers were paying nearly 30 cents less per gallon -- $3.379 -- a month ago, according to data from the AAA Daily Fuel Gauge Report.

Now, even natural gas is slated to rise. The price of the fuel had recently dropped on an excess of supply, a result of previously inaccessible deposits made viable through hydraulic fracking. But not anymore.

Our U.S. economics team raised their growth outlook for this year, implying an improvement in U.S. natural gas demand in addition to higher use from coal-gas switching. Meanwhile, supply cuts are expected to start setting in from the second quarter, wrote Michael Lewis, a research analyst at Deutsche Bank, in note Friday.

2.     It's Bound to Get Worse

Better-than-expected economic storylines out of the United States and China mean a much-expected dip in demand from those countries might not materialize in 2012, driving up prices. Meanwhile, Iran's pre-emptive move to halt oil exports to the UK and France added to expectations that buyers faced fresh impetus to scramble for alternatives, said Lewis.

In different times, other countries would up production to avoid the shortfall, but according to Sonsoles Castillo, head economist at Spanish bank BBVA, current spare capacity is not enough to absorb large supply shocks (Iran has the second largest spare capacity but no demand due to sanctions), with inventories much tighter than thought (OECD inventories are well below the five-year average). Political factors in countries like Sudan, Syria and Yemen also have caused output to decline by more than 1 million barrels per day.

3.     But it Won't Be as Bad as in 2008

Since rising energy costs affect downstream inflation, sudden spikes can hurt consumer confidence and slow down GDP growth. The question many are now asking is whether the current surge in prices will have damaging effects.

Economists are split on this point, though many point out the current price shock is much more gradual than those seen historically, including in 2008, the last time gasoline was over $4 a gallon in the United States.

The effect on growth of a rise in energy prices depends importantly on the abruptness of the increase. We found that, given a gradual and temporary rise, consumers are able to adjust saving patterns to smooth consumption, minimizing the impact, Peter Newland, an economist at Barclays, said in a recent note.

But while the impact might not be as negative as from a sudden shock, higher prices do have the potential to dampen some of the positive momentum the economy, particularly in the U.S., appears to be experiencing.

With oil prices over $100 per barrel and the never-ending stream of bad news out of Europe, it is hard to see consumer confidence making a run to higher ground, Justin Hoogendorn of BMO Capital Markets wrote in an e-mail, adding the bearish prediction that spending may not be sustainable at current levels and we would expect overall GDP growth in 2012 to dip back below 1.5%

4.     Traders Are Already Riding the Rise ...

Not everyone is distressed at the rising commodity energy prices.

Michael Pond and Chirag Mirani, two interest rates analysts at Barclays, recently noted that investors are moving from betting on crude hedges to putting their money on inflation-linked Treasury bonds, where increases in fuel prices were being reflected by an corresponding 3.3 percent increase in the price of the bonds.

Gasoline futures themselves are rallying, especially the ones for delivery of the fuel further in the future.

5.     ... As Are Certain Economies

There's also the fact that an increase in commodity energy prices actually helps industry -- and job creation -- in certain parts of the country. While consumers in the Southeast and West Coast will suffer from their now increasingly expensive commutes, Southwest and the Mountain states will also remain strong on increased natural gas exploration, Mark Vitner, chief economist at Wells Fargo Securities, wrote in a recent analysis.

6.      Politicians Will Make Gas a Campaign Issue

Perhaps the most fortuitous use of rising prices has been by candidates campaigning for the upcoming U.S. election, who have over the past two weeks begun to make high gasoline prices into a stump issue.

On Wednesday, Newt Gingrich declared in the Republican presidential debate in Phoenix that he had a plan thought out so no future president will ever bow to a Saudi king again and so every American can look forward to $2.50-a-gallon gasoline.

President Barack Obama fired back at that argument during a campaign stop Thursday.

You can bet that since it's an election year, they're already dusting off their 3-point plan for $2 gas. And I'll save you the suspense, Obama said in Florida. Step one is to drill and step two is to drill. And then step three is to keep drilling.

That's a bumper sticker. It's not a strategy to solve our energy challenge. That's a strategy to get politicians through an election, the president added.

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