The hidden costs behind gas prices

By The Associated Press

You think you feel helpless at the gas pump?

Even the people who sell the gasoline have little control over what it costs.

How exactly are gas prices set? What determines the hair-pulling figure you see displayed in large electronic or plastic numbers? Why is a gallon of gas, say, $3.66, and not $3.65 or $3.67? Why is the price different across the street?

It all starts with oil.

The biggest factor in this year's soaring price of gasoline has been an unprecedented ascent of the price of crude oil, which surged from $45 per barrel in 2004 to top out at more than $145 in July, before falling back to the $110 range. Earlier this year, based on a retail price of gasoline that now seems like a steal -- $3.11 a gallon -- crude oil accounted for 70%, or all but about a dollar, of the cost, according to the federal government.

• Chart: Where does the money go?

The rest of the cost is a complex mix of factors, from the cost of turning oil into gasoline to taxes to marketing costs to, sometimes, nothing more than the competitive whims of local station owners.

Understanding the breakdown, of course, doesn't make it any less cringe-inducing to fill 'er up.

Several stops (and prices) along the way

First, a primer on how gas gets to your tank:

Once oil is pumped from the ground, it can be sold on the spot market, a last-minute trading arena where oil companies and distributors buy and sell to each other, or straight to refiners. After it's brewed into gasoline, the product can again be sold on the spot market or directly to wholesalers, who in turn can supply their own stations or sell it to other retailers.

Each step of the way, buyers and sellers negotiate a price until, finally, drivers pay the ultimate tab at the pump -- a current national average of more than $3.68 a gallon.

• Talk back: What should be done about gas prices?

At the starting point of all this is the price of oil -- which, like the oil itself, is nothing if not crude.

The knee-jerk villains are the oil companies, fat with multibillion-dollar profits and the frequent targets of populist anger. But wait: The oil companies don't set the price of oil or the cost of a gallon of gas.

Prices are a function of the open market, the result of futures contracts being traded on the New York Mercantile Exchange, or Nymex, and other exchanges around the world.

Buying the October crude oil futures contract means you'd be buying oil that will be delivered by the end of October. But most investors who trade futures have no intention of ever accepting the underlying oil: Like stock investors who frequently buy and sell their holdings, they're simply betting that prices will rise or fall.

Until recently, on the Nymex, oil futures were rising this year.

Why? Blame the dollar. Oil is priced in U.S. dollars, and the weaker the dollar gets, the more attractive dollar-denominated oil contracts are to foreign investors. Now that the dollar is growing stronger, crude-oil prices are falling back from this summer's records.

When a rush of buyers pushed oil futures to their July highs, the rest of the energy complex, including gasoline futures, followed. That pushed up the price of gas that goes into your car's tank.

Now that the dollar is stronger, oil futures buyers are backing off slightly, so the price of gas is being borne down as well.

"Crude is the driver," said Jim Ritterbusch, the president of energy consultancy Ritterbusch and Associates in Galena, Ill. "That's just the way it is."

• Chart: Where does the money go?

Americans curtailed their driving as gas price marched higher, increasing the supply of yet-to-be-pumped gasoline, and common sense suggests drivers would cut back even more if gas rose to $4.75 or $5 a gallon.

That lower demand has contributed to lower U.S. prices, but it takes time for such price U-turns to happen, given the enormous scale of refining operations that produce gasoline.

"Once demand begins to slow, that needs to translate into inventories. Then you get some price weakening," Ritterbusch said. "But it takes a while."

Oil prices also often fluctuate with production decisions from the Organization of Petroleum Exporting Countries, which supplies about 40% of the world's crude, or when conflict in the Middle East, Nigeria or other areas threatens supplies.

For example, oil prices rose $2.46 a barrel in one day last spring amid reports that a ship under contract to the Defense Department had fired warning shots at two boats in the Persian Gulf that may have been Iranian.

• Talk back: What should be done about gas prices?

A Navy spokesman later said the origin of the boats was unclear, but the news raised concerns that a conflict between U.S. and Iranian forces could curtail oil supplies from the region. That same day, gas prices rose an additional 2.1 cents to a then-record national average of $3.58 a gallon on other supply concerns.

As for gasoline prices: They're closely tied to demand from U.S. drivers and how efficiently refineries are operating. Falling production or inventories can send prices skyrocketing.

And prices can vary greatly depending on the region.

The Gulf Coast is the source of about half the gasoline produced in the United States, and areas farthest from there tend to have the highest prices because of the cost of shipping gas via pipeline and tanker truck all over the country.

Some of those places, such as California and New York, also have higher local taxes that push the price still higher.

Oil companies may not set the price of oil and gasoline, but not everyone is willing to sit back and let them claim to be innocent bystanders.

In particular, Big Oil's biggest executives were on Capitol Hill again in May -- their second time this year -- getting pummeled by many in Congress for their record profits as Americans struggled with record fuel prices.

"Where is the corporate conscience?" Sen. Dick Durbin, D-Ill., asked the top executives of the five largest U.S. oil companies.

Is Big Oil to blame?

Soaring gas prices have led to cries for a variety of answers, including calls from some politicians to open the Arctic National Wildlife Refuge in Alaska and some offshore waters that are now off-limits to oil development.

Others have suggested a windfall profits tax on oil companies, although some economists say that might actually hurt supply.

Oil companies maintain they're not to blame for spiking fuel prices and that their earnings, measured against revenue, are in line with other industries.

On top of that, rising oil prices sharply cut profit margins for refining, and that hits the major oil companies -- which both pump oil and refine it for use as gasoline.

A giant such as ExxonMobil (XOM, news, msgs) can handle the blow. Its refining and marketing profits for the first quarter were down 39% from a year ago, but the company still banked a nearly $11 billion profit because of the hefty prices earned on crude it had pumped out of the ground.

Smaller refiners aren't so fortunate. Sunoco's (SUN, news, msgs) refining and supply business, hurt by lower margins, lost $123 million in the first quarter. Tesoro (TSO, news, msgs) lost $82 million for the same period.

In any case, huge profits at big oil companies such as ExxonMobil and Chevron (CVX, news, msgs) aren't because of high prices at the pump. Their massive profits are tied to their exploration and production arms, which have benefited from recent record crude prices.

Higher crude costs also have squeezed profits at the refining arms of companies such as ConocoPhillips (COP, news, msgs), which don't produce enough crude themselves to refine at full capacity without buying more oil from other producers.

ConocoPhillips CEO Jim Mulva said the company, the second-largest U.S. refiner behind Valero Energy (VLO, news, msgs), buys about 2 million barrels of crude a day at market prices to refine into gasoline and other products.

"If oil costs us $30 a barrel or $40 a barrel or $120 a barrel, that's why the cost of gasoline is what it is," he said. "It's not because of taxes. It's not because of . . . refining and distribution. It's because of the cost of oil."

What else is involved

But it's not only about the price of oil. Other costs are a factor, though they've remained relatively stable.

For example, federal and state taxes added, on average, 40 cents to a gallon of gas in the first part of this year, roughly the same amount as they added four years ago.

Marketing and distribution costs -- the tab for delivering gasoline from refiner to retailer -- were 27 cents at the beginning of the year, only 6 cents above the cost four years ago.

The cost of refining added 27 cents to a gallon in the first quarter of this year, a nickel less than what it added in 2004, according to the Energy Information Administration.

That refining occurs at sprawling industrial complexes across the U.S., with most of the biggest along the Gulf Coast. Barrels of crude arrive each day by pipeline, ship and barge. The refineries, by heating, treating and blending the raw oil, turn out products like diesel and lubricating oil.

And, of course, gasoline.

Next stop: Station owners

What happens when that gasoline makes its way to your neighborhood gas station?

Major oil companies own fewer than 5% of gas stations, and many are getting out of the retail end altogether. Most stations are owned by small retailers, and many of them say they're struggling to turn a profit on gas. That's because wholesale gasoline prices have risen sharply this year -- again, blame it on crude -- but station owners have been unable to raise pump prices fast enough to keep pace.

And you can't keep jacking up the price when drivers are buying less.

Gas station owners face a balancing act: They must try to maintain a price that allows them to afford the next shipment of gasoline but not give the competition an edge.

Stations pay tens of thousands of dollars for each gas shipment before they see a penny in their cash registers. Eventually, many make only a few cents on a gallon of gasoline, a margin that can disappear altogether when credit card fees are added in.

Thank goodness for beef jerky and sodas.

Most gasoline retailers long ago got past any illusion they can make money by selling gas. They rely on gas sales to drive traffic to their shops, where they hope auto repairs or food and drink sales will help them turn a profit.

"You're always out there competing with the guy next door -- literally with the guy across the street -- and worried too about how you're going to pay for your next supply," said Rayola Dougher, a senior economic adviser at the American Petroleum Institute, the oil industry's trade association.

Of course, the plight of retailers is little consolation for drivers.

Mayra Perez, who works two fast-food jobs to help support her family, suggested that the government should step in to help ease the burden, possibly by placing price limits on gasoline.

She was filling the tank of her compact car in Miami recently to the tune of nearly $4 per gallon for regular gas.

"This is horrible," she said. "On the weekend, my husband and I use only one car to save on gas. But then there's the cost of food, milk, eggs, the rent."

This article was reported and written by John Porretto and John Wilen for The Associated Press. Adrian Sainz contributed to this article.