Most Americans woke this Monday morning to news about spiking oil prices, which will inevitably lead to higher prices at the pump. In what we should consider an ancillary tax on the household balance sheet, all of us will be receiving news in a few days about the sudden pop in gas prices and the likelihood of a strain on discretionary incomes leading into the peak spending season known as the Holidays.
First, the reason for the increase in crude prices has to do with the drone attack on Saudi Arabia’s largest oil facility. According to FOX News, the weekend strikes that hit “Aramco’s main crude processing facility knocked out 5.7 million barrels of oil production for Saudi Arabia, or more than 5 percent of the world’s daily crude production.”
Considering oil is just as important as oxygen to humans, the Saturday morning attack impacts virtually every person on the planet. Crude oil isn’t only used for heating homes and electricity generation, it’s used for making chemicals, plastics and synthetic materials in nearly everything we use.
Second, some economists and television prognosticators are calling the price action in the pits a “knee-jerk reaction,” which is flat-out wrong. The saber-rattling by the Iranians (the likely culprits in this attack) isn’t expected to end anytime soon, thus pushing prices of oil futures further into the stratosphere.
The results on the recent geopolitical tension has every American asking: “How does this news impact me?”
To answer this question, it’s important to understand the relationship between oil prices and gas prices.
Currently, crude oil represents 53 percent of the total cost a driver pays for regular unleaded gasoline, according to the U.S. Energy Information Administration. The remaining 47 percent is broken down by excise taxes, refining costs, and transportation and retail. The early action in crude oil futures should—hence the word, should—impact just over half of the total cost for a gallon of gas.
Figuring out how much the 53 percent will cost you is basic math with division. Simply divide the current price for one barrel of crude by 42 (number of gallons of fuel in a barrel). It’s a linear equation and is a calculation that will be assessed on every American, no matter where they live in the USA.
Therefore, if you’re using the current price of oil as of noon, EST, at $61 per barrel, one gallon of unleaded fuel makes up roughly $1.45 of what is paid at the gas pump. Had you performed the same calculation on Friday afternoon ($55/barrel divided by 42 gallons), the price would have been $1.31.
In other words, the price for a gallon of gasoline should increase by a minimum of 14 cents per gallon with most filling stations making the adjustment by tomorrow morning.
So, if you need to fill-up, Wellington & Co. strongly recommends you drive your automobile to a nearby station sometime today.
If the hostility in the Middle East region boils over, all of us should be prepared for much higher gas prices, which will undoubtedly impact discretionary budgets and have a remarkable negative effect on the country’s GDP.
According to the Congressional Budget Office, a spike in crude prices results in lower consumer spending, higher consumer inflation, and much-lower savings rates. The CBO projects that a $70 barrel of oil likely results in a quarter-point reduction to GDP, per quarter, meaning if the price remains above this threshold for one full year, Gross Domestic Product will be reduced by a minimum of 1 percent.
Currently, oil is only 13 percent below the $70 price point, and climbing fast.
It’s not all about GDP, though, especially when it pertains to the household level. The CBO added:
“The U.S. standard of living will be depressed to a greater extent than will GDP. U.S. residents will have to exchange more of their production for a barrel of oil than would have been the case if energy prices had not risen, and that adverse change in the “terms of trade” will affect the standard of living in the United States for many years.”
If further attacks occur, and higher oil prices slow global growth, Americans should prepare themselves for challenging times in the short-term; particularly during the holiday shopping season. Longer term, however, could significantly impact the political and social landscape for all of us.
By: Todd M. Schoenberger of Wellington Insights