For the average citizen, it is often not until you fill your tank, stock your fridge, or heat your home that you have a tangible interaction with the global economy. While it is hard to get animated about the Consumer Price Index, the national interest rate, or the performance of the S&P 500, paying twice as much at the pump is hard to swallow. Somewhere between the in-your-face nature of gasoline prices and the abstract financial indicators that talking heads on CNBC drone on about sits the price of diesel. While diesel is a more visible indicator of economic health than most, largely due to its being on the board outside each gas station, the importance of that price can often go overlooked by everyday consumers. Today, we are delving into the importance of diesel prices, and more specifically the importance of the diesel shortage we are currently facing.
What Is Diesel?
To begin with, let’s establish what diesel is. It is a middle distillate, meaning it is made during the middle part of the crude oil distillation process. That means it has a lower boiling range than light distillates such as gasoline but a higher boiling range than heavy distillates such as asphalt. Middle distillates are the primary fuel used in manufacturing, shipping, trucking, freight railroads, mining, and farming. So while gasoline may be the fuel that you follow most closely, it is diesel prices that will cause the cost of nearly all other commodities to go up. Just like the truckers who use it, diesel is one of the great unsung heroes of America’s economy.
Diesel has a greater energy density than other liquid fuels, meaning it produces more energy per unit of volume. That makes it the ideal fuel for larger vehicles traveling long distances or engaging in more energy-intensive work. It powers most farming and construction equipment in the United States and transports nearly all of the products that we consume. It is also used in diesel generators that are frequently used as a source of backup electricity for everything from hospitals to utilities.
Why Is There A Diesel Shortage?
Fears of a severe diesel shortage this summer are being driven by a combination of low inventories, rising demand, and a shortage of refining capacity. These fears are particularly stark in the northeast where inventories are at record lows and Biden is considering tapping an emergency stockpile of diesel. In an eye-opening piece for Bloomberg, Javier Blas highlighted how the number of refineries on the U.S. east coast had halved in the past 15 years, with several of the remaining refineries operating below their normal capacity.
To give you an idea of just how big the current diesel problem is, the price of diesel is currently higher than it was back in 2008 when oil prices hit $147 (compared to $110 today). So while the high price of oil is certainly a major contributing factor to today’s diesel shortage, it is far from the only one. In fact, the need for more diesel is so great that the refining margin to process crude into diesel has hit an all-time high. Thomas Nimbley, the chairman and chief executive of refiner PBF Energy, said that “Any refiner who knows anything about this business, and most of them do, is doing everything in their power to turn every drop of gasoline into a gallon of jet fuel or diesel”.
There are several reasons for this diesel-specific shortage. To begin with, diesel demand has climbed rapidly since the pandemic, with industry bouncing back as lockdowns were lifted. Refining capacity, especially on the east coast, has not been able to keep up. Since the beginning of the pandemic, at least 13 U.S. refineries have been shut down, had capacity reduced, or been repurposed. Meanwhile, demand for jet fuel (which is also a middle distillate) has increased, tightening the fuel market further. On top of all of this, sanctions on Russia have taken a significant portion of diesel out of the international market, with Gulf Coast exporters increasing their exports to Latin America to make up for the shortfall. That increase in exports has only worsened the supply issue within the U.S.
This is a truly global problem, with the threat of diesel shortages around the world. Europe, which traditionally imports around one million barrels per day of diesel from Russia, appears to be the most exposed to the problem as it races to find new sources of the vital oil product. Just this week, Brazil’s state oil major warned that the country would face a diesel shortage if the government doesn’t allow them to price the product at international levels. The UK, which has already sanctioned Russian diesel, is also facing a shortage and is relying on the EU to continue importing it in order to avoid a worldwide shortage.
Looking ahead, there is plenty to worry about in this space. A spike in demand for gasoline and jet fuel over the summer will only tighten the fuel market. Meanwhile, the European Union is considering a ban on Russian oil exports, which could significantly reduce the supply of diesel on international markets. Importantly, diesel demand is less elastic than demand for other products such as gasoline, and it would take a global economic slowdown to significantly reduce this demand.
So next time you pull up to the gas station, share a thought for that other number as well.
By Josh Owens for Oilprice.com
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