This is an email to my father about an article by Ed Wallace:
http://www.star-telegram.com/2012/02/27/3765797/oil-the-never-ending-story.html
First, he cherry-picked data, and second, he ignored the meaning of the data he picked. Higher supply in Chicago (and the Midwest, in general) means lower gas prices in Chicago - the effect you would expect in a market controlled by supply and demand, and exactly the effect he talked about. Now why is oil so much more expensive on the coasts? Because of supply and demand --> the oversupply in the Midwest is unable to (economically) reach either coasts because of hippie resistance to building pipelines. The reduction in refinery utilization he mentions is only on the east and west coast, and is because of hippie resistance to building/updating refineries in those states. The older refineries (on the coasts) can only refine light-sweet crude (low viscosity, low sulfur), which means their refineries can't use Canadian tar-sands oil for $65/barrel (heavy-sour). Instead, they have to buy light-sweet crude on the international market (Brent, currently priced about $122-ish). Because demand for gasoline has ebbed in the U.S., they can't afford to pay $125/barrel for Brent crude and sell at today's gasoline prices (because of demand).
The figures given by oil executives to Congress look out of context. The cost to produce a barrel of oil depends on a number of factors. The marginal cost of production (i.e., the cost of producing the next barrel of oil to satisfy demand) is not linear - e.g., Jed Clampet's oil come bubbling up the ground after he was shooting at some food, so producing from a well on his land would be easy, lets say $10/barrel. Further in this hypothetical, lets say Jed produces 10 million barrels a day, and demand is 12 million barrels a day. So hypo-US needs more oil. Lets say the US goes to the Canadian tar sands to get it, which hypothetically produces 10 million barrels/day. That oil is, as the name suggests, mixed in sand, rather than sitting in reservoirs; that makes it expensive to extract (roughly $40/barrel). Its also heavy and sour, meaning refining tar-sands oil is expensive. So at 12 million barrels/day demanded, the marginal cost to produce the next barrel of oil will be $40/barrel, not the cheaper $10 figure (because its cheap, its production is maxed out first by the producer, who can produce at 10 and sell at least the marginal cost of production). But why is oil at $125/barrel? Because China and other emerging markets are expanding their consumption of oil, and quickly. Which means that more oil is needed. Well, the easy stuff is all maxed out, and so is the oil mixed in sand. Are there enough oil reserves elsewhere in the world to go around? Yes! Peak oil is nonsense, at least in our lifetime. Its not that there's no more oil to extract, its that the marginal cost of producing the next barrel of oil to satisfy demand is higher (because its harder to produce, e.g., tar sands, deepwater drilling, oil shale, synthetic fuel).
Yes, normal supply and demand right now probably puts the oil price around $80-90-ish/barrel (WTI; $100 Brent). So why the difference? An Israeli attack on Iran has the potential to close off 25% of the world's daily supply of oil. Yes, there is no doubt the U.S. would succeed militarily against Iran should it try to close the Strait of Hormuz. The navigable waters of the Strait are only about 29 miles wide. Sounds like alot, but when you consider Iranian anti-aircraft missiles they just purchased from Russia, anti-ship missiles, mines, and scuttled ships, closure for a short to medium period of time is a real possibility. Even though we would be able to reopen it, we don't know how long 25% of the world's oil supply will be unavailable. And things are heating up in Iran. The only way we might keep the Strait open, I think, is if we do a preemptive strike on Iran's forces there (in cooperation with the Israeli strike on the nuclear facilities). Given this President, though, I don't think that's the likely scenario. The markets are a discounting mechanism - the higher the risk (risk = probability x severity), the more prices move in the direction of the risk being realized; this would be the case even if the only purchasers of oil futures contracts were users. If you see Iran come to the table for talks on its nuclear program, for example, watch the price of oil plummet.
