Crude Oil Pricing

Crude Oil or petroleum, the “black stuff” that comes out of the ground, is made up of a variety of elements such as carbon, hydrogen and sulfur, and originates from the remains of plants and animals that existed in prehistoric ages. Hence, it is commonly referred to as fossil fuel. However, crude oil must be refined to produce energy, whether in the form of gasoline, kerosene or diesel fuel; and though the process to convert crude oil to gasoline is fairly constant, the fluctuation in crude oil pricing, a commodity in every sense of the work, will impact the price of gasoline.

Commodity prices fluctuate based on worldwide supply and demand, and there are a number of fuel-related examples to illustrate the point:

• As ethanol fuel became a viable alternative fuel option for vehicles, the price of corn, from which ethanol is produced, increased,  and
• Oil refinery explosions, obvious impacts to the supply of crude oil, typically cause the price of oil to increase.

They also fluctuate based on speculation, where investors will hedge bets on projected increases and decreases in oil prices, thereby driving the price of oil up or down. To better understand how these and other factors affect crude oil pricing, this article will take a look at the market, provide some insights into its supply, how its priced and how these factors affect consumers at the gas pump.

What’s In a Barrel of Oil?

We are consistently barraged with the latest news on the price of oil, spiking at $145 a barrel in 2008 and lowering to $69 as recently as the fall of 2009. But, what exactly is a barrel of crude oil?

• A barrel of oil consists of 42 gallons.
• One gallon of crude oil will make within 47 and 67 gallons of gasoline depending on refinement process and quality of crude oil.

Why the Fluctuation in the Price of Oil?

Though the size of a barrel does not change and there are only marginal differences in actual quality, the fluctuation in pricing is driven by a confluence of other factors, namely:

• Supply – high supplies mean low prices and conversely, low supplies mean high prices. Groups like the Organization of the Petroleum Exporting Countries (OPEC) monitor the supply and price of crude oil and ration it out, thereby impacting the supply and price of oil. And the development of alternative fuels is necessary to slow down the rate crude oil depletion as it is a non-renewable source of energy, and maintain a counterpoint to unilateral manipulation of crude oil supply and subsequent pricing by OPEC.
• Consumption – levels of consumption will inevitably affect the supply of oil, increasing or decreasing inventories, which in turn, will impact the price of oil.
• Financial Markets – the extent to which speculators invest in oil futures, betting on how much oil will cost at a later date affects how people think crude oil should be priced and the amount of oil that will be released to the market.
• Government Policies – Regulation driving different types of crude oil, preventing climate change, taxes, and alternative sources inevitably impact the demand for and consequently the price of oil.