For example, in the 10-year  period April 1995 through April 2005, the national average price for a  gallon of regular grade gasoline has been as low as $0.89 and as high as  $2.25 without adjusting for inflation. In addition, gasoline prices vary by  location and, in recent years, California has consistently had among the  highest prices in the nation. Some analysts have predicted much higher crude  oil prices—and as a result, higher prices of petroleum products—while  others expect prices to moderate as producers respond to high prices by  producing more crude oil and consumers respond by conserving more,  and investing in more energy-efficient cars and other products. Gasoline Prices Are Determined by the Price of Crude Oil and a Number of Other Factors

Crude oil prices feed directly into the price of gasoline, because crude oil  is the primary raw material from which gasoline is produced. Figure 2 illustrates the importance of crude oil in the price of  gasoline. EIA  has stated that the world’s surplus crude oil production capacity has fallen  to about one million barrels per day, or just over one percent of the  world’s current daily consumption, making the balance between world  demand and supply of crude oil very tight. This tight balance between  world crude oil demand and supply means that any significant supply  disruptions will likely cause prices to rise. In addition to the cost of crude oil, gasoline prices are influenced by a  variety of other factors, including refining capacity constraints, low  inventories, unexpected refinery or pipeline outages, environmental and  other regulations, and mergers and market power in the oil industry. A  number of reports by government agencies, academics, and private  entities have concluded that the proliferation of these special gasoline  blends has put stress on the gasoline supply infrastructure and may have  led to increased price volatility because areas that use special blends  cannot as easily find suitable replacement gasoline in the event of a local  supply disruption. California’s Unique Gasoline and Isolation from Other Markets Contribute to its Higher Gasoline Prices

California, and the West Coast states more generally, have consistently  had among the highest gasoline prices in the nation. For example,  California’s gasoline prices averaged about 21 cents more per gallon than  national gasoline prices over the last ten years. In addition, California has  at times had more volatile gasoline prices than the rest of the country. For example, California’s  high gasoline prices have been attributed, in part, to its cleaner burning  gasoline. For example, at about 57 cents  per gallon on average, California’s total gasoline tax rate is among the  highest, behind only New York and Hawaii, and is 30 percent higher than  the national average of 44 cents per gallon, according to a November 2004  survey by the American Petroleum Institute. Future Oil and Gasoline Prices Will Reflect Supply/Demand Balance, but Technological Change and Conservation Will Also Play a Role

Looking into the future, daunting challenges lie ahead in finding,  developing, and providing sufficient quantities of oil to meet projected  global demand. Developing new oil deposits may be more costly  than in the past, which could put upward pressure on crude oil prices and  the prices of petroleum products derived from it. On the other hand, technological advances in oil exploration, extraction,  and refining could mitigate future price increases. Further, refining advances over the years have also enabled U.S.  refiners to increase the yield of gasoline from a given barrel of oil—while  the total volume of petroleum products has remained relatively constant,  refiners have been able to get more of the more valuable components,  such as gasoline, out of each barrel, thereby increasing the supply of these  components. Similarly, innovations that reduce the costs of alternative sources of  energy could also reduce the demand for crude oil and petroleum  products, and thereby ease price pressures. Greater conservation or improved fuel efficiency could also reduce future  demand for crude oil and petroleum products, thereby leading to lower  prices. Moreover, geopolitical factors will likely continue to have an impact on  crude oil and petroleum product prices in the future. Some analysts have recently reported in the popular press that this  devaluation can influence long-term prices in two ways. What is true for the nation as a whole is even more dramatically so in  California.
Why GAO Did This Study

Gasoline prices have increased dramatically in recent weeks and currently, California has the highest gasoline prices in the nation. Consequently, consumers are expected to spend significantly more on gasoline this year than last. Specifically, EIA recently projected that, because of higher expected gasoline prices, the average American household will spend about $350 more on gasoline in 2005 than they did in 2004. Understandably, the public and the press have focused on these higher gasoline prices and some have questioned why this is happening. Moreover, people are concerned about the future, with some analysts projecting prices of crude oil--the primary raw material from which gasoline is produced--to remain at current high levels or even increase. Other analysts expect prices to fall as new oil supplies are developed and as consumers adjust to the current high prices and adopt more energy-efficient practices. This testimony, as requested, address factors that help explain today's high gasoline prices in the nation as a whole and specifically in California. In addition, potential trends that may impact future prices of crude oil and gasoline are addressed.

What GAO Found

Crude oil prices and gasoline prices are linked, because gasoline is derived from the refining of crude oil. As a result, crude oil prices and gasoline prices generally follow a similar, albeit not identical, pattern over time. For example, from January 2004 to the present (April 25, 2005), the price of West Texas Intermediate crude oil rose by almost $20 per barrel, an increase of almost 60 percent, while over the same period, average gasoline prices rose nationally from $1.49 to $2.20 per gallon, an increase of 48 percent. Explanations for this large increase in crude oil and gasoline prices include rapid growth of world demand for crude oil and petroleum products, instability in the Persian Gulf region, and actions by the Organization of Petroleum Exporting Countries (OPEC) to restrict the production of crude oil and thereby increase its price on the world market. In addition to the cost of crude oil, gasoline prices are influenced by a variety of other factors, including refining capacity constraints, low inventories, unexpected refinery or pipeline outages, environmental and other regulations, and mergers and market power in the oil industry. Gasoline prices in California, and in other West Coast states, have consistently been among the highest in the nation and recent experience is no different. For the last week in April, the price of regular grade gasoline in California was $2.63 per gallon, about 43 cents above the national average. Explanations for California's higher than average gasoline prices include (1) California's unique gasoline blend, which is cleaner burning and more expensive to produce than any of the other commonly used gasoline blends; (2) a tight balance between supply and demand in the West Coast, and the long distance to any viable sources of replacement gasoline in the event of local supply disruptions; and (3) California's higher level of gasoline taxes--California currently taxes a gallon of gasoline at 30 cents per gallon more than the state with the lowest taxes, Alaska. Some sources have also attributed high gasoline prices, in part, to the fact that California's refining sector is more concentrated in the hands of fewer companies than in other refining areas, such as the Gulf Coast. Future gasoline prices will, in large part, be determined by the supply and demand for crude oil and its price on the world market. World crude oil demand is projected to rise, so new sources will have to be developed or prices will rise. Technological innovations that reduce the cost of finding or extracting crude oil could reduce prices, other things remaining constant. Greater conservation, or improvements in energy efficient technologies could also mitigate rising demand and reduce upward pressure on prices. In addition, alternative fuel sources may become more economical, thereby supplanting some of the demand for crude oil and gasoline in the future. America faces daunting challenges in meeting future energy demands, and policy makers must choose wisely to ensure that the country can meet these demands, while balancing environmental and quality of life concerns.