$200 Diesel puts Biden in a bad corner

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What do Joe Biden and Harry S. Truman have in common?

The two presidents led the United States when US stocks of distillate fuel were exceptionally low. Currently, the United States has only 106 million barrels of diesel and fuel oil in its commercial inventory; the last time stocks were this low in mid-October was in 1951, when Truman was in the White House. Typically, stocks are expected to be 30% higher at this time of year.

Such low levels are alarming because diesel is the workhorse of the global economy. It powers trucks and vans, excavators, freight trains and ships. A shortage would mean higher costs for everything from trucking to farming to construction.

The diesel crisis leaves the Biden administration facing very difficult choices. If he leaves the market alone, prices are likely to rise further before falling; if it intervenes, either by setting minimum inventory levels or by restricting exports, the price increases are likely to be felt elsewhere in the world. Either path will have big implications for inflation in the country and for energy security in Latin America and Europe.

Wholesale diesel prices in the New York Harbor spot market, a key price point, jumped this week to more than $200 a barrel. Excluding a three-week period from late April to mid-May, that would be a record. As a result, U.S. refiners are enjoying the best margins on diesel, with the profit from turning a barrel of crude into a barrel of diesel hitting a record $86.5 a barrel, up about 450% from to the 2000-2020 average of $15.7 per barrel. barrel.

It’s fine for refiners, but bad for everyone depending on the fuel. Retail prices have risen nearly half a dollar in just two weeks.

All this is not surprising. The U.S. diesel market has been in crisis mode for most of 2022, and the warning lights have been flashing for months.

The reasons for collapsing stocks and soaring prices are fourfold. First, local demand for diesel recovered faster than gasoline and jet fuel after the impact of the pandemic, depleting supplies. Second, foreign demand is also strong, with US diesel exports hitting an unusually high level. Third, the United States also has lower refining capacity than before, which reduces its ability to manufacture fuels.

And then there’s Russia’s invasion of Ukraine. The United States imported a significant amount of Russian heating oil before the war, which its refiners based in the Gulf of Mexico processed into diesel. The trade ended after the White House sanctioned Russian oil exports.

Last spring, wholesale diesel prices hit a record high as inventories plunged in April and May, pushing retail prices to a record high. Now a new crisis is brewing. America typically uses the low demand seasons of spring and summer to replenish its stocks of distillate fuels before winter. But it hasn’t this year, and inventories are now almost as low as they were in April, when the last heating season ended.

If inventories fall between October and April from their 20-year average of about 25 million barrels, the United States will emerge from winter with just over 80 million barrels in inventory. This is an unlikely scenario, however: the oil market would try to keep inventories from falling so much, with prices rising enough to slow the economy, thereby reducing demand. In the past 40 years, US diesel inventories have never fallen below 85 million barrels, even at the end of the heating season.

Biden now faces some unpleasant choices.

The White House can let the market continue to do its job, with soaring prices likely affecting consumption and boosting supply. With refineries enjoying exorbitant margins, more diesel is expected to arrive. But the cost of the laissez-faire approach is higher inflation. Since diesel drives up trucking costs, this is a particularly pernicious type of inflation because it quickly feeds into anything that needs to be hauled, lifting core inflation measures.

If the White House chooses to intervene, the least harmful measure would be to release a small reserve of diesel that the government keeps for emergencies. The northeast heating oil reserve is only a million barrels, so it would be a band-aid at best. But it’s better than nothing, and Biden should order him out. Releasing more crude from the strategic petroleum reserve would not solve the problem, since the bottleneck is refining.

Other interventions would have important consequences, being able to harm the American allies. In Washington, officials are considering restricting or even banning diesel exports. If approved, the measure would leave neighbors like Mexico, Brazil and Chile running out of diesel. In July, the last month for which full data is available, U.S. diesel exports to Latin America hit a record high of 1.2 million barrels, double from a decade ago.

Another option is to force oil companies to build up stocks quickly before winter by setting a minimum inventory level, similar to what the European Union has done for natural gas stocks. US authorities are particularly concerned about the northern part of the US East Coast, where stocks are low both seasonally and in absolute terms. The region, known in industry jargon as PADD1A, is where the greatest demand is: of the approximately 5.3 million homes that use fuel oil in America, more than 80% are in the North-east.

The problem with a mandatory minimum inventory level is that it would force U.S. refiners to import more or cut back on exports – or both. The impact in Latin America would be noticeable. Prices in the United States could fall, but they will soar elsewhere.

The timing of today’s diesel crisis couldn’t be worse. The EU, which still depends on Russian diesel exports, will ban imports from February. Europe will run out of diesel then, and Biden needs to take that into account as well. Ultimately, the fast-coming recession will rebalance the market, reducing demand, particularly as the housing market cools and construction slows, and consumer demand for goods declines, reducing the need for trucking. But it is a heavy price to pay to solve the problem.

This column does not necessarily reflect the opinion of the Editorial Board or of Bloomberg LP and its owners.

Javier Blas is a Bloomberg Opinion columnist covering energy and commodities. A former Bloomberg News reporter and commodities editor at the Financial Times, he is co-author of “The World for Sale: Money, Power and the Traders Who Barter the Earth’s Resources.”

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