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The Hidden Cause of Rising Gas Prices

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The 2005 Clean Air Act required refiners to blend a certain amount of ethanol into their produced gasoline. Surprisingly, this has played a large part in rising gas prices.

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By now, you have probably noticed that prices at the pump have been anything but kind. Gasoline prices have been steadily rising in the US as the summer months continue to heat up. While it is true that gasoline prices are typically higher during the warmer months as demand also rises, the current spike is also due to some behind the scenes issues that many consumers may not be aware of.

The Ethanol Impact

Believe it or not, ethanol has been one of the main culprits behind the higher cost of filling your tank. It started with the 2005 Clean Air Act, which mandated that refiners needed to blend a certain amount of ethanol with gasoline that was being produced. The law also states that the amount of ethanol used will steadily increase as time goes on, forcing refiners to rely more and more on this alternative fuel source. Unfortunately, the price of ethanol has been jostling back and forth, mostly trending higher, since the year began, putting pressure on gasoline prices.

To make matters worse, the demand for gasoline has been steadily dropping in the US, as it currently sits at a 13-year low. When consumers were quick to use the fossil fuel, refiners had little to worry about as the costs of blending were covered by the hefty demand. But now that people seem to be avoiding the pump at all costs, refiners are having to push prices higher to keep profits in line. The final piece of the puzzle is what big oil companies are calling the "10% blend wall," and it could have the biggest impact of all.

The Blend Wall

From 2005 until now, the amount of ethanol blended into each gallon of gas had been steadily rising; the level is now 10% ethanol for each gallon produced. While that may be a good from an environmental standpoint, a number of cars on the road are unable to handle blends of more than 10%.

By 2015, refiners are supposed to use 15% of ethanol in their blends; at those levels, 95% of the current automobile fleet will not be able to handle the fuel and many filling stations will have the same problem. Obviously refiners are not going to produce gas that cannot be consumed, so they have resorted to two different alternatives.

First, they purchase ethanol credits to offset the fact that they cannot blend such an amount of ethanol that it is unusable. The price of these credits has been skyrocketing all year, jumping from "pennies on the dollar at the beginning of this year to almost $1.40 today, including a massive spike up in the last couple of weeks," according to David Lutz of Stifel Nicolaus. The cost of this process is being passed along to consumers, hence the current spike in prices at the pump.

Second, a number of firms are simply selling their product overseas where ethanol standards are not nearly as strict or simply non-existent. Valero (NYSE:VLO) and Marathon Oil (NYSE:MRO) are just two firms that have resorted to moving product abroad in order to avoid the impossible situation. For now, big oil firms are attempting to revisit a law that looked sound on paper, but fails to work in practice. No significant progress has been made as of right now, forcing consumers to take the brunt of the blow with their wallets.

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Editor's note: This article by Jared Cummans was originally published on Commodity HQ.
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