Wednesday, April 23, 2008

$4 Gasoline? Have You Looked At Food Prices Lately?

I get asked a lot about when gasoline will hit $4 a gallon. My current response is Memorial Day. For $5 gasoline, go to Los Angeles or San Francisco, and wait a few days. One of the biggest factors contributing to this cost of gasoline is that a barrel of oil costs $120 at the moment. You could hear this any night on the news. The news doesn't tell you that the "crack spread" (the process for breaking crude oil to various distilate parts including gasoline is called catalytic cracking and is done at high heat with catalysts. By shifting things around, heating oil is produced for the winter heating season) is slim to negative and that refiners are shutting down for maintenance at the moment. This does not make the evening news unless you live in a refinery town in West Texas or Western Wyoming, and then you really should be in the same town as the refinery. Or, you read the financial press where this is exciting stuff (yawn).

What does get the blood pumping is the heart thumping discussions as to the Congressional mandate to convert ethanol to gasoline. You see, Congress, in its infinite wisdom (they thought they were the Great State of Maryland, my traditional repository of infinite wisdom) decided that to ensure energy independence, that we should subsidize a quarter of the American corn crop and have it converted to ethanol and then have that added to gasoline to make even more gasoline. It's all a process thing.

And then the farmers love you too. No one thought of what would happen when you took a quarter of the corn supply off the market. I mean, corn is used as cattle feed. It's used as all kinds of animal feed. And here's the real shocker, the real mystery that no one thought of, real people eat corn as food too. Duh. Farmers rushed to plant corn, and cut back on planting other crops. Duh. Wheat went up in price. One of my favorites, rough rice has sky rocketed in price. I leave it to your imagination as to what rough rice is, but, that third World Country California has seen rice rationed at Sam's Club and Costco. In several emerging market countries, rice has been priced out of the markets and is no longer available, and I am being serious.

As countries such as China and India develop and industrialize, copper and steel prices have risen to record levels. We are experiencing a massive shift of human beings from poverty levels to a new middle class. Tata Motors of India is building a new $2500 car or the masses of China and India. These two countries actually subsidize the price of gasoline in their country, as well as copper and steel. The demand for commodities will continue to rise as more and more people move to cities and become part of the industrialized work force.

Food is becoming more and more expensive and we burn more and more of it for fuel, consuming more fuel to make less fuel from it. The counter argument claims it isn't so when we take the spent food that was converted to ethanol and use it for foodstock for livestock. It hasn't happened as a practical application yet, but this solution seems stupid to me. There are cheaper, more efficient sources of energy, and more common sense ways of using them, such as solar energy, wind energy, and even nuclear energy.

The other issue rarely discussed is the dollar itself. A few years ago, say before the Iraq War, the exchange rate was about $0.80 = 1 euro. Then, we had the first Republican President in the history of the country to fight a war and not raise taxes to pay for the war. The last American President that did this was Lyndon B. Johnson who made his famous guns and butter decision which was to invest in the country and the Viet Nam War. No new taxes. That produced the runaway inflation of the 70's. I have lived through this before. It is ugly; inflation taxes everyone, regardless. History repeats itself. Today, $1.60 = 1 euro. Since oil is priced in dollars, a lot of the change in price is because of the drop in value in the dollar. Ask any American who has recently traveled to Europe what the prices in London or Paris were like. My brother-in-law is going to Italy next month for three weeks. I had him move his money into a portfolio of euros last year so he had the euros for his trip. He also bought some Traveler's Cheques denominated in euros. It won't stay this way forever. One day, someone will short the pound, and it will be time to buy the dollar. I doubt that George W Bush will be in the White House....not that I have an opinion, naturally. Any questions?


Glamourpuss said...

God yes, fuel and food prices are so high here - as is the cost of housing, utilities and public trnasport. 50% of my salary goes on the mortgage and 25% on travel. That's a lot of percent.


AmyTree said...

I'm broker then broke, and have to constantly remind myself that everyone else is too... We're all just hanging on together!

That was a very well-organised post, by the way - helped clarify some of the supply-and demand chain....

WNG said...

You what's great? When I think I have things figured out and then some expert type person comes along and tells me I'm RIGHT!
Here's my question - if I could figure this out with a THEATRE DEGREE then what the hell is the government doing?!?!?!

People are rioting for rice. For RICE! ARGHH!!!

Open Grove Claudia said...

I think it's a cycle. We need this kind of correction to get back to basics. We've been through this before - yes in the 1970s and the early 1990s. We'll get through it this time.

The natural purpose of life is abundance - growth and withdrawal which creates more growth and abundance. To me? That's all that's happening.

Do not despair.

Alison said...

Crap. I lost my first comment.

Anyway, I just said that TIME magazine had a good article on the true cost of ethanol production. The effects are more far-reaching than the proponents ever imagined.

The CEO said...

Puss, well said, your housing percentages are a trifle out of line.

Amytree, you are the person I am thinking of in this post. You work multiple jobs and idiots make stupid decisions that have huge effects on the most basic parts of your life, in this case, they don't even live in the same country.

Wng, either we need you in the government, or the government is devoid of people who can think as well as you, or both. This mandate was passed by the 2007 Congress.

Claudia, normally I'd absolutely agree with you, but burning food for fuel when there are people starving is a new one. A better argument is to let in Brazilian sugar cane ethanol, which we embargo, so we can both use and subsidize Iowa corn. The Brazilians are only cutting down the rain forest to plant sugar cane which grows year round and is not a food that people need to eat. We can always worry about breathing at a later date.

Ali, it's always good to see you. I'll have to go take a look. I'm sure that Time pointed out that they failed to take into consideration the increasing number of Chinese and Indians who are now eating twice a day instead of once and have added protein to their diet. Which means an increase of grains and corn to feed animals for their proteins. Part of their problems come from the fact that as China and India industrialize, the roads, factories, and housing all cover what was farmland. If you look at the stock exchanges, fertilizer companies are soaring. You still need fertilizer to grow corn to make ethanol. So there is going to be a need to shift to what is called biomass and return the food to the masses and end the food rioting. Funny, I have written two more posts in comments.

GrizzBabe said...

I was reading an article on this week about Sam's and Costco rationing rice, and a reader asked in the comment section why was rice so scarce. You've answered the question quite nicely. Your post was very educational. Thank you.

heartinsanfrancisco said...

If everyone stopped eating animals and the vast middle of this country was used to grow more food crops, it would be a start.

Prioritizing gas is morally wrong when people are starving.

I don't have the financial sophistication to ask intelligent questions, but what do you see as the outcome, worldwide?

Claudia said...

Thanks Monty. The other day, as I passed a $4/gallon pump here in CA, I did wonder when we'd start lining up for gas like people did in the 70s. And I also wondered how car manufacturers can claim 30MPG Highway is good when my first car got about 40-45 (I tested it...regularly)

Echomouse said...

Thanks for this post and your further comments Monty. I've been fairly worried about the world lately, and my place in it. Being on disability is scary sometimes and this is getting increasingly worrisome.

Claudia reminded me of the gas wars in the 70's. I was little but remember sitting in the car while Mom or Dad waited in a long line to fill up. If I remember right, that's when OPEC wasn't it? So, where is OPEC now? Or is it defunct?

All I know is, my very restricted food list makes the rice no problem but the corn really scary. My SUV, even tho it mostly sits in the driveway, is scary. I see us heading into a repeat of the Great Depression but again, I'm worrying a lot. So my question is, do you think the gas prices will ever come down or is this going to be the new norm? And what about the food supply? Is this the new state of the world? Sorry for all the questions but I have nobody else to ask really who knows this stuff like you do.

Echomouse said...

ugh...should read "that's when OPEC was formed wasn't it?"

M@ said...

The price of sushi is going to skyrocket.

Say It said...

I spoke with a suburban-driving-oil-trader-Texan friend of mine who is suddenly complaining about the price of gas in Texas. That is NOT a good sign.

cmhl said...

ahhhhh, economics. as your know, your last paragraph made my eyes roll back in my head, because this is something I don't begin to try to wrap my brain around it. I rely on you to explain it to me!!!

gas is 3.57 here right now. crazy.

The CEO said...

Hi Grizzbabe, I'm glad you got something out of the post. I hope you enjoyed it.

Susan, there are books to be written on the morality and ethics dealing with animals as food, and I'd prefer to avoid the issue. Economically speaking, you would lose enormous industries, and employment by stopping the use of animals as food. No more cattle ranching, turkey farms, chicken farms, slaughter houses, no more need for farms that grow hay, no more meat packing factories, etc. and all of the employment that goes with them. The same for pigs, and so on and so forth. The people who build equipment to support all of the endeavors, from rail cars to the fabricators who make pens, will no longer have business, or employment. The transportation, trucking and rail services, etc. will no longer be required.

There will be some gains made in some areas, but it typically isn't offsetting. Grains aren't grown in the same areas where livestock is raised, hay is typically grown nearby.

I mention this here because the rise in the price of oil has actually been gradual since it was $10 a barrel. In the last three years, it has slowly accelerated. Please notice that this has coincided with the peak, and subsequent fall of housing prices. It will take years to demonstrate that Iraq War caused the huge acceleration in the price of oil. It is not the war per se, but the attendant inflation that I think will have caused it. This is speculative on my part, and not yet demonstrative fact.

Hi Claudia, the real reason Californians pay so much more for gasoline is because you are the furthest away from the refineries, therefore you pay the highest transportation charges on top of the gasoline. No one wants a refinery in their back yard. So refineries are in Texas, Louisiana, New Jersey. There won't be gas lines, there shouldn't have been any in 1973 or 1979 because there was never a single ship that didn't sail on time. There was no embargo, there was a public relations war of words, and the price of oil went from $3 a barrel to $10 and the Organization of Petroleum Exporting Countries was formed.

Carrie, we won't have a Depression. No matter what happens, you're covered, and safe. You have your three brothers, Mike, Allan, and me. Now, for some facts. The U.S. economy just reported a lower unemployment number than the month before. We're running about 4.3% unemployment. In the Great Depression, we ran closer to 25-26% unemployment. Depressions are highly deflationary. You hold high quality government bonds, stocks are worthless, cash is good. Right now, cash is trash (interest rates are so low that you can get a good dividend paying stock and pay only 15% tax on the dividend), bonds don't pay much and the interest is fully taxable unless it's a municipal (free of Federal tax) or Fed govt. bond (free of state tax); so the conditions are exactly the opposite of what you'd expect for a Depression, and as of this last week, a recession seems doubtful. Stay tuned for recession data.

Food prices will remain interesting. That is another post altogether.

Hi M@, yes sushi prices are climbing, and it REALLY is pissing me off.

Hi Sayit, doesn't it seem strange to think dreamily about gas prices back at $2.50? I could buy a lot of sushi with the difference when I fill up. By the way, isn't this the same trader that doesn't think we have global warming.

Hi CMHL, I hope you realize that the last paragraph is actually something that a Republican told me about Bush. He blamed the drop in the dollar on Iraq, I supplied the exchange rates on the euro. He works for The Standard. shhhhhh

skinnylittleblonde said...

I know I am going to sound super-ignorant, but why does everyone say the economy sucks because of Bush & The War? Isn't it a natural cycle of global growth & doesn't Congress ultimately pass the laws?
I don't know where to lay the blame or if there is even a single direction to point. We all have to deal with it though.

I can't imagine the corn remedy is going to fix a thing.

Crankster said...

There's also converting trash to ethanol, or raw cellulose (wood chips, etc.). You ever get the feeling that Congress is deliberately creating crises?

Ariel said...

USD 4 a gallon? And you're thinking of complaining? Pfft... that's CHEAP by European standards. In the UK, gas is GBP 1.37 a liter... so yes, 8 bucks a gallon, welcome to England. With reference to Puss's comment here, I cannot afford to breathe in this country when I am not on the road [ie working]. As for a mortgage, I cannot even entertain the thought, and I haven't learnt to drive yet because I know I cannot afford to run a car. Oh, and I am 32, with a good degree, trilingual, lots of work experience in several fields etc... The mind does indeed boggle.