Fuel prices are falling while everyone’s at home

The price of a litre of fuel has fallen significantly in recent weeks. However, with personal movement restricted to within a two kilometre radius of everyone’s home, the benefit of the price reduction is not being felt by many, other than those who need to carry out essential work.

Why are prices falling and how much longer could motorists benefit from this situation?

A perfect storm

Price movements on forecourts are pretty much dictated by the vagaries of international oil markets.

Government taxation makes up a large portion of the price of a litre of fuel, but that element does not change significantly.

Taxes are pretty much baked into the equation. So when there’s a shock to the global oil supply, that is when we generally see prices moving upwards or downwards.

Oil prices globally started to taper off towards the latter part of last year, according to Job Langbroek, Resource Analyst with Davy Stockbrokers.

The effects of the US-China trade war shifted seamlessly into the Covid-19 crisis, which resulted in a sharp fall off in oil demand early this year, he points out.

That demand shock then spread to the rest of the world as air transport ground to a halt and the traffic of goods by sea and land gradually stopped.

On top of that, the oil producing nations of OPEC and Russia couldn’t agree on continuing a strategy of capping daily oil production in order to support the oil price.

The production caps, which had been in place since late 2016, had seen the price of a barrel of Brent crude – the international oil price benchmark – stabilising at between $50 and $70, having dipped as low as $30 dollars in the preceding years.

“OPEC asked for an additional cut to counteract an obvious forthcoming Covid-19-related fall in demand,” Job Langbroek explained.

“However, this was allegedly too much for Russian oil groups, resulting in the collapse of the three-year-long deal. Oil prices responded predictably and crashed.”

The price went as far south as $25 a barrel, then stabilised at around $30 on the conclusion of an agreement between the sides that’s promising a collective production cut of up to 10 million barrels of oil a day – amounting to about 10% of global demand prior to the pandemic.

In recent days, however, prices have fallen again with Brent sitting at around $28 a barrel at the time of writing.

How does that affect what I pay for my petrol?

There’s generally a lag in the time it takes for oil prices to fall and for that to make its way onto the forecourts.

The AA carries out a monthly study of fuel prices and it found that the cost per litre dropped dramatically here in the month of March.

According to the AA’s figures, the price of a litre of diesel fell by 16 cent during the month, bringing average prices to 116.9 cent per litre.

Petrol prices were 15 cent lower at 126.5 cent. That saw fuel prices falling to their lowest in four years.

The price of petrol increased slightly – by 0.4 cent – in early April, the AA reported in recent days, but diesel prices have remained static.

The striking of the agreement by OPEC and Russia may support prices in the longer term, but, as Conor Faughnan, Director of Public Affairs with the AA points out, price rises are likely to stay fairly muted while the uncertainty over the true economic effect of Covid-19 lingers.

“While a jump of $10 in crude oil prices could lead some to worry about a surge at the pumps, we need to remember that oil prices are still significantly below the levels of $60-$65 per barrel that we were seeing in 2019 and early 2020,” he said.

“The long-term future of where prices are heading remains unclear and really won’t start to reveal itself until we have a full understanding of the extent of the economic damage caused by COVID-19, but in the short-term we can expect prices not to deviate too much from where they currently are if all other things remain equal.”

That’s great. But why is fuel still so expensive if oil is so cheap?

In a word, tax! According to the AA, the bulk of what we pay at the pump goes directly to the Exchequer.

“Crude oil only accounts for about 20-25% of what we pay at the pump for a litre of fuel. The rest consists largely of taxation,” Conor Faughnan explains.

If you pay €1.25 for a litre of petrol, according to the AA’s calculations, about 85 cent goes to the government in the form of taxes with the remaining 40 cent being split between the exploration company that extracted the oil from the ground, the refinery, the wholesaler and the retailer, who sells the fuel to you.

In fact, the retailer ends up with about 4 cent per litre in the current pricing environment.

And it’s not a situation that’s unique to Ireland. According to the AA’s charts, we’re around average in the league tables in Europe when it comes to pricing per litre of fuel with Eastern European countries, as well as Spain and Luxembourg, generally coming in cheaper and central European economies, including France, Italy and the Netherlands, coming in significantly more expensive.

Why does it take so long for fuel prices to fall, but they appear to go up overnight?

Usually when we see a sharp increase in fuel prices, it is as a result of a taxation hike in a budget, for example. In that situation, the price rise generally takes effect at midnight following the unveiling of the budget.

As regards oil prices, fuel pricing follows the Brent crude benchmark pretty faithfully, according to the AA.

There is generally a lag between the Brent price falling and that saving making its way through to the forecourts, but there is little evidence to suggest that the retailers are profiting off price falls or price gains.

A major study of fuel prices here carried out by the National Consumer Agency over 10 years ago found that fuel retailers do not artificially inflate prices.

So how long can we expect the current low prices to last?

There does not appear to be much hope that the agreement to cap output by OPEC and its allies will drive the price of oil any higher, if at all. In fact, it’s fallen back again in recent days.

“This may be the largest ever cut, but we’re living through an unprecedented event and demand has fallen off a cliff,” Craig Erlam, Senior Market Analyst with Oanda said.

“It’s no surprise to see oil prices paring back the early April gains to sit not far from their lows.”

Job Langbroek of Davy believes it will be several months, at the earliest, before prices can start to get back on an even keel.

“Given the projected disease trajectory in main markets, it may well be mid-summer before oil demand begins to improve,” he said.

However, with the IMF now forecasting a severe recession of the magnitude of the 1930s Great Depression, the pickup in the demand for crude may be slower than many would have hoped, Oanda points out in a trading note.

So lower fuel prices might be with us for the medium term.

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