Oil Refiners' Production Lows, Profit Highs

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The reports of rich profits alongside higher pump prices have some groups crying foul. "Oil companies that have refused to increase refinery capacity enough to meet population took refineries out of service for longer [and]…refused to import gasoline to make up the difference," says Judy Dugan, research director of the Foundation for Taxpayer & Consumer Rights in Santa Monica, Calif. "Then they have the gall to behave as though gasoline prices are an act of fate, not the shortage that they created."

But industry representatives and analysts dispute the notion that the problems are manufactured. "Saying it's a deliberate shortage is ridiculous," says Charlie Drevna, executive vice-president of the National Petrochemicals & Refiners Assn. "Especially considering the margins right now, the last thing a refiner wants is to have a planned outage. You may want the other guy to have one, but you sure as heck don't want one." Says Lynn Westfall, Tesoro's chief economist: "It's the working of Economics 101. Any time supply goes down, margins go up."

Environmental Issues

Refiners say they aren't building new facilities because of the soaring costs of steel and concrete and because of "not in my backyard" opposition from communities. Another issue hindering both new construction and output at existing facilities is a shrinking pool of skilled refinery workers, analysts say.

From geologists to engineers to skilled offshore workers, the oil industry is having trouble sourcing labor, and the problem is now becoming acute in the refining business. With excess capacity and falling oil prices in the 1980s and 1990s, refineries cut staff as a wave of consolidation swept the industry. The oil business was considered a volatile, if not dying, industry and has not been a popular career choice for college students.

"The oil industry doesn't have the glamour or allure of industries like tech; it's considered a smokestack industry," says Craig Pirrong, professor of energy at the University of Houston. "Then there's the uncertainty of the future of carbon-emitting energies. That puts oil companies and refiners at a disadvantage in recruiting."

Good-Bye to $3

New regulations and quotas to produce new gasoline blends also stress refining. It's also likely that many refiners have not yet achieved full efficiencies as they integrate new processes, say analysts. Under new rules that took effect in November, 2006, refiners are required to produce low-sulfur gasoline for the retail market nationwide; California law mandates another formulation of cleaner-burning fuel. Differing regional requirements also make it harder to substitute gasoline from one geographic area to another in the case of an outage.

With high costs and fierce civic and environmental opposition, oil companies and refineries like Valero and Marathon are opting to expand existing plants instead of building new ones. But quenching the ever-growing thirst of U.S. consumers will mean more gasoline imports from Western Europe, the Caribbean, and South Korea. The U.S. currently imports about 13% of its gasoline.

If the troubles persist, gasoline prices are likely to creep well beyond $3 nationally. And that will turn the issue toward demand—how much will consumers agree to pay to drive this summer?

Herbst is a reporter for BusinessWeek.com in New York.