Testimony 

Before the Committee on Government 

Reform, Subcommittee on Energy and 

Resources

United States Government Accountability Office

GAO

For Release on Delivery 

Expected at 1:00 p.m. EDT 

Monday, May 9, 2005 ENERGY MARKETS 

Understanding Current 

Gasoline Prices and 

Potential Future Trends 

Statement of Jim Wells, Director 

Natural Resources and Environment 

GAO-05-675T 
What GAO Found

United States Government Accountability Office

Why GAO Did This Study

Highlights

Accountability Integrity Reliability

www.gao.gov/cgi-bin/getrpt?GAO-05-675T.

To view the full product, including the scope 

and methodology, click on the link above. 

For more information, contact Jim Wells at 

(202) 512-3841 or wellsj@gao.gov. 

Highlights of GAO-05-675T, a report to

House Committee on Government 

Reform, Subcommittee on Energy and 

Resources 

May 9, 2005

ENERGY MARKETS

Understanding Current Gasoline Prices 

and Potential Future Trends 

Crude oil prices and gasoline prices are linked, because gasoline is derived 

from the refining of crude oil. As a result, crude oil prices and gasoline 

prices generally follow a similar, albeit not identical, pattern over time. For 

example, from January 2004 to the present, the price of West Texas 

Intermediate crude oil rose by almost $20 per barrel, an increase of almost 

60 percent, while over the same period, average gasoline prices rose 

nationally from $1.49 to $2.20 per gallon, an increase of 48 percent. 

Explanations for this large increase in crude oil and gasoline prices include 

rapid growth of world demand for crude oil and petroleum products, 

instability in the Persian Gulf region, and actions by the Organization of 

Petroleum Exporting Countries (OPEC) to restrict the production of crude 

oil and thereby increase its price on the world market. In addition to the 

cost of crude oil, gasoline prices are influenced by a variety of other factors, 

including refining capacity constraints, low inventories, unexpected refinery 

or pipeline outages, environmental and other regulations, and mergers and 

market power in the oil industry. 

Gasoline prices in California, and in other West Coast states, have 

consistently been among the highest in the nation and recent experience is 

no different. For the last week in April, the price of regular grade gasoline in 

California was $2.57 per gallon, about 37 cents above the national average. 

Explanations for California’s higher than average gasoline prices include (1) 

California’s unique gasoline blend, which is cleaner burning and more 

expensive to produce than any of the other commonly used gasoline blends; 

(2) a tight balance between supply and demand in the West Coast, and the 

long distance to any viable sources of replacement gasoline in the event of 

local supply disruptions; and (3) California’s higher level of gasoline taxes—

California currently taxes a gallon of gasoline at 30 cents per gallon more 

than the state with the lowest taxes, Alaska. Some sources have also 

attributed high gasoline prices, in part, to the fact that California’s refining 

sector is more concentrated in the hands of fewer companies than in other 

refining areas, such as the Gulf Coast. 

Future gasoline prices will, in large part, be determined by the supply and 

demand for crude oil and its price on the world market. World crude oil 

demand is projected to rise, so new sources will have to be developed or 

prices will rise. Technological innovations that reduce the cost of finding or 

extracting crude oil could reduce prices, other things remaining constant. 

Greater conservation, or improvements in energy efficient technologies 

could also mitigate rising demand and reduce upward pressure on prices. In 

addition, alternative fuel sources may become more economical, thereby 

supplanting some of the demand for crude oil and gasoline in the future. 

America faces daunting challenges in meeting future energy demands, and 

policy makers must choose wisely to ensure that the country can meet these 

demands, while balancing environmental and quality of life concerns. 

Gasoline prices have increased 

dramatically in recent weeks and 

currently, California has the 

highest gasoline prices in the 

nation. Consequently, consumers 

are expected to spend significantly 

more on gasoline this year than 

last. Specifically, EIA recently 

projected that, because of higher 

expected gasoline prices, the 

average American household will 

spend about $350 more on gasoline 

in 2005 than they did in 2004. 

Understandably, the public and the 

press have focused on these higher 

gasoline prices and some have 

questioned why this is happening. 

Moreover, people are concerned 

about the future, with some 

analysts projecting prices of crude 

oil—the primary raw material from 

which gasoline is produced—to 

remain at current high levels or 

even increase. Other analysts 

expect prices to fall as new oil 

supplies are developed and as 

consumers adjust to the current 

high prices and adopt more energyefficient practices. 

This testimony, as requested, 

address factors that help explain 

today’s high gasoline prices in the 

nation as a whole and specifically 

in California. In addition, potential 

trends that may impact future 

prices of crude oil and gasoline are 

addressed. 
Page 1 GAO-05-675T 

Mr. Chairman and Members of the Subcommittee: 

I am pleased to participate in the Subcommittee’s hearing to discuss 

today’s gasoline prices and the factors behind future trends in those 

prices. Soaring retail gasoline prices have garnered much media attention 

and generated much public anxiety, particularly in a state as dependent on 

gasoline as California. According to data published by the American 

Automobile Association, since a year ago, average national gasoline prices 

have increased 23 percent to $2.20, with average prices in California 

currently at $2.57 per gallon. In the Los Angeles area, prices have 

increased 19 percent to $2.60 in the same period. According to the 

Department of Energy’s Energy Information Administration (EIA), which 

compiles and analyzes energy statistics, higher expected gasoline prices in 

2005 will increase the average American household’s spending on gasoline 

by about $350 over 2004 expenditures. Nationally, each additional ten 

cents per gallon of gasoline adds about $14 billion to America’s annual 

gasoline bill. Still, when adjusted for inflation, gasoline prices are not at an 

all time high—the highest inflation adjusted prices occurred in 1981 and 

were equivalent to a price of about $3.00 today. In addition, U.S. 

consumers pay less for a gallon of gasoline than consumers in many other 

industrialized nations, in large part because the United States imposes 

much lower taxes on gasoline than these other countries. 

The availability of relatively inexpensive gasoline has helped foster 

economic growth and permitted a quality of life not widely available 

across the globe. Large price increases, especially if sustained over a long 

period, pose long term challenges to consumers. In this regard, some 

recent analyses suggest that gasoline prices may stay at today’s relatively 

high level or even increase significantly in the future. For example, some 

analysts have projected that the price of crude oil—the primary raw 

material in the production of gasoline—while changing from day-to-day, 

may remain in the vicinity of current levels for some time. One analysts 

has even projected that oil may reach $105 per barrel in coming years—

almost double the current price. In contrast, others suggest that crude oil 

prices—and therefore, gasoline prices—will fall as oil companies invest in 

more crude oil producing capacity and as consumers respond to higher 

prices by adopting more energy-efficient practices. Regardless of what 

happens in the future, the impact of gasoline prices is felt in virtually every 

sector of the U.S. economy and when prices increase sharply, as they have 

in recent months, consumers feel it immediately and are reminded every 

time they fill up their tanks or read in the newspapers about high oil 

company profits. 
Page 2 GAO-05-675T 

It is therefore essential to understand the market for gasoline. In this 

context, you asked us to discuss (1) how gasoline prices are determined 

nationally, (2) what factors cause California’s prices to be consistently 

among the nation’s highest, and (3) some of the important factors that will 

determine gasoline prices in the long run. You also requested that we 

provide some graphical depiction of gasoline prices and other relevant 

data and we include these in appendix 1 of this document. 

To respond to your questions, we relied heavily on previous work on 

gasoline prices and other aspects of the petroleum products industry and 

collected updated data from a number of sources that we deemed reliable. 

This work was performed in accordance with generally accepted 

government auditing standards. 

In summary, our work has shown: 

• Crude oil prices and gasoline prices are inherently linked, because crude 

oil is the primary raw material from which gasoline and other petroleum 

products are produced—when crude oil prices fluctuate, gasoline prices 

generally follow a similar pattern. In recent months, crude oil prices have 

risen significantly—from January 2004 to the present, the price of West 

Texas Intermediate crude oil, a benchmark for international oil prices, has 

risen by almost $20 per barrel, an increase of almost 60 percent. Over the 

same period, average gasoline prices rose nationally from $1.49 to $2.20 

per gallon, an increase of 48 percent. Explanations for this large increase 

in crude oil and gasoline prices include rapid growth of world demand for 

crude oil and petroleum products, particularly in China and the rest of 

Asia, instability in the Persian Gulf region (the source of a large proportion 

of the world’s oil reserves), and actions by the Organization of Petroleum 

Exporting Countries (OPEC) to restrict the production of crude oil and 

thereby increase its price on the world market. Figure one illustrates the 

relationship between crude oil and gasoline prices over the past three 

decades. The figure shows that major upward and downward movements 

of crude oil prices are generally mirrored by movements in the same 

direction by gasoline prices. 
Page 3 GAO-05-675T 

Figure 1: Gasoline and Crude Oil Prices—1974-2004 (Not adjusted for inflation) 

• While crude oil is a fundamental determinant of gasoline prices, a number 

of other factors also play a role in determining how gasoline prices vary 

across different locations and over time. For example, refinery capacity in 

the United States has, in recent years, not expanded at the same pace as 

demand for gasoline and other petroleum products—during the same 

period we have imported larger and larger volumes of gasoline from 

Europe, Canada, and other countries. It is important to note that imports 

are not, in and of themselves a problem—frequently imported goods are 

available at lower prices than domestically produced goods. However, the 

American Petroleum Institute has recently reported that U.S. refinery 

capacity utilization has increased to 92 percent. As a result, domestic 

refineries have little room to expand production in the event of a 

temporary supply shortfall. Further, the fact that imported gasoline comes 

from farther away than domestically produced gasoline means that when 

supply disruptions occur in the United States, it might take longer to get 

replacement gasoline than if we had excess refining capacity in the United 

States, and this could cause gasoline prices to rise and stay high until these 

new supplies can reach the market. In addition, refinery accidents and 

Dollars per gallon

Source: GAO analysis of Energy Information Administration, Department of Energy, Monthly Energy Review, Monthly Refiner 

Acquisition Cost of Crude Oil, Composite and and Bureau of Labor Statistics, Monthly Motor Gasoline Prices, 

U.S. City Averages, Regular Gasoline.

Year

Crude oil price

Gasoline price

0.0

0.5

1.0

1.5

2.0

2.5

1974197619781980198219841986198819901992199419961998200020022004
Page 4 GAO-05-675T 

other localized supply disruptions have at times caused price spikes 

especially at the state or regional level. Recently, a tragic fire at a BP 

refinery in Houston killed 15 people and temporarily shut down about 3 

percent of the nation’s refining capacity—while this event has not been 

definitively linked to increased prices, such events in the past have, at 

times, had major effects on prices. 

• The volume of inventories of gasoline, maintained by refiners or marketers 

of gasoline, can also have an impact on prices. As with trends in a number 

of other industries, the petroleum products industry has seen a general 

downward trend in the level of gasoline inventories in the United States. 

Lower levels of inventories may cause prices to be more volatile because 

when a supply disruption occurs, there are fewer stocks of readily 

available gasoline to draw from, which puts upward pressure on prices. 

Regulatory factors also play a role. For example, in order to meet national 

air quality standards under the Clean Air Act and amendments, many 

states have adopted the use of special gasoline blends—so-called 

“Boutique Fuels.” Many experts have concluded that the proliferation of 

these special gasoline blends has caused gasoline prices to rise and/or 

become more volatile, especially in regions such as California that use 

unique blends of gasoline, because the fuels have increased the complexity 

and costs associated with supplying gasoline to all the different markets. 

Finally, the structure of the gasoline market can play a role in determining 

prices. For example, we recently reported that some mergers of oil 

companies during the 1990s led to reduced competition among gasoline 

suppliers and may have been responsible for an increase in gasoline prices 

by as much as 2 cents per gallon. 

• Gasoline prices in California, and in other West Coast states, have 

consistently been among the highest in the nation and recent experience is 

no different. For example, for the last week in April, when the national 

average price for regular grade gasoline was $2.20, the California price was 

$2.57. Explanations for why California’s prices have been higher than the 

national average include (1) California’s unique gasoline blend, which is 

cleaner burning and more expensive to produce than any of the other 

commonly used gasoline blends; (2) a tight balance between supply and 

demand in the West Coast, and the long distance to any viable sources of 

replacement gasoline in the event of local supply disruptions; and (3) 

California’s higher level of gasoline taxes—California currently taxes a 

gallon of gasoline at 30 cents per gallon more than the state with the 

lowest taxes, Alaska. 

• Future gasoline prices will reflect world supply and demand balance. If 

demand for oil and petroleum products continues to rise as it has in past 
Page 5 GAO-05-675T 

years—EIA projects that U.S. demand for crude oil will rise about 38 

percent by the year 2025—then oil supply will have to expand significantly 

to keep up. Currently, world surplus crude oil production capacity—the 

amount by which oil production can be increased in the short run without 

installing more drilling equipment or developing new oil fields—is very 

small. Moreover, many of the world’s known and easily accessible crude 

oil deposits have already been developed and many of these are 

experiencing declining volumes as the fields become depleted. As a result, 

new production facilities will have to be built, and perhaps new oil 

deposits will need to be developed, to meet rising demand for gasoline and 

other petroleum products. In so doing, entities may encounter higher costs 

of extracting and processing oil. For example, there are large stores of 

crude oil in tar sands and oil shale, or potentially beneath deep water in 

the ocean, but these sources are more costly to extract and process than 

many of the sources of oil that we have already tapped. To the extent that 

extraction and processing costs rise, the price of crude oil and the 

petroleum products made from it will have to rise to make supplying it 

economically viable. If, on the other hand, technological innovations 

improve our ability to extract and process oil, this will increase the 

available future supply and ease pressure on petroleum product prices. 

• Although demand for crude oil is projected to increase, it could fall below 

current expectations if consumers choose more energy efficient products 

or otherwise conserve more energy. Such a reduction in demand could 

lead to lower-than-expected future prices. For example, in response to 

high gasoline prices in the United States, in the 1980s many consumers 

chose to switch to smaller or more fuel-efficient vehicles, which reduced 

demand for gasoline. Environmental issues could also have an impact on 

world crude oil and petroleum product prices. For example, international 

efforts to reduce greenhouse emissions could cause reductions in demand 

for crude oil and petroleum products as more fuel-efficient processes are 

adopted or as cleaner sources of energy are developed. Additional factors 

that will likely influence future oil and gasoline prices include geopolitical 

issues, such as the stability of the Middle East; the valuation of the U.S. 

dollar in world currency markets; and the pace of development of 

alternative energy supplies, such as hydrogen fuel cell technology. 

In 2004, the United States consumed about 20.5 million barrels per day of 

crude oil accounting for roughly 25 percent of world oil production. A 

great deal of the crude oil consumed in this country goes into production 

of gasoline and, as a nation, we use about 45 percent of all gasoline 

Background 
Page 6 GAO-05-675T 

produced in the world.1 California alone presently consumes almost 44 

million gallons of gasoline per day. To put this in perspective, in 1997 (the 

last year for which we found available data for international comparisons), 

only the rest of the United States and Japan consumed more gasoline than 

California. 

Products made from crude oil—petroleum products, including gasoline—

have been instrumental in the development of our modern lifestyle. In 

particular, gasoline, diesel, and jet fuel have provided the nation with 

affordable fuel for automobiles, trucks, airplanes and other forms of 

public and goods transportation. Together, these fuels account for over 98 

percent of the U.S. transportation sector’s fuel consumption. In addition, 

petroleum products are used as raw materials in manufacturing and 

industry; for heating homes and businesses; and, in small amounts, for 

generating electric power. Gasoline use alone constitutes about 44 percent 

of our consumption of petroleum products in the United States, so when 

gasoline prices rise, as they have in recent months, the effects are felt 

throughout the country, increasing the costs of producing and delivering 

basic retail goods and making it more expensive to commute to work. It is 

often the case that prices of other petroleum products also increase at the 

same time and for the same reasons that gasoline prices rise. For example, 

today’s high gasoline prices are mirrored by high jet fuel prices, which 

have put pressure on airline companies, some of which are currently in the 

midst of financial difficulties. 

Gasoline prices vary a great deal over time. For example, in the 10-year 

period April 1995 through April 2005, the national average price for a 

gallon of regular grade gasoline has been as low as $0.89 and as high as 

$2.25 without adjusting for inflation. In addition, gasoline prices vary by 

location and, in recent years, California has consistently had among the 

highest prices in the nation. 

The future path of gasoline prices is difficult to predict, but it is clear that 

the use of petroleum products worldwide is going to increase for the near 

term and maybe beyond. Some analysts have predicted much higher crude 

oil prices—and as a result, higher prices of petroleum products—while 

 1

The large percentage of total world gasoline production that is consumed by the United 

States partly reflects the fact that diesel is a commonly used fuel for cars in Europe, while 

U.S. cars primarily run on gasoline. If all motor vehicle fuels were accounted for, the 

United States’ share of these fuels would be smaller than its share of gasoline. However, we 

do not have the data to present this more comprehensive measure. 
Page 7 GAO-05-675T 

others expect prices to moderate as producers respond to high prices by 

producing more crude oil and consumers respond by conserving more, 

and investing in more energy-efficient cars and other products. In either 

case, the price of gasoline will continue to be an important part of the 

household budgets of Americans for the foreseeable future and therefore, 

it is important to understand how prices are determined so that consumers 

can make wise choices. 

Crude oil prices feed directly into the price of gasoline, because crude oil 

is the primary raw material from which gasoline is produced. For example, 

according to our analysis of EIA data, crude oil accounted for about 48 

percent of the price of a gallon of gasoline on average in 2004 in the United 

States.2

 When crude oil prices rise, as they have in recent months, refiners 

find their cost of producing gasoline also rises, and in general, these higher 

costs are passed on to consumers in the form of higher gasoline prices at 

the pump. Figure 2 illustrates the importance of crude oil in the price of 

gasoline. The figure also shows that taxes, refining, and distribution and 

marketing also play important roles.3

 2

EIA also lists taxes; refining costs and profits; and distribution and retail marketing costs 

and profits as other components of gasoline prices. 

3

The latter two categories, refining, and distribution and marketing, includes costs 

associated with these activities as well as profits. The figure is a snapshot of how much 

each component contributes to the price of a gallon of gasoline, and the relative 

proportions attributable to each component vary over time as crude oil prices and other 

factors change. 

Gasoline Prices Are 

Determined by the 

Price of Crude Oil and 

a Number of Other 

Factors 
Page 8 GAO-05-675T 

Figure 2: Elements in the Price of a Gallon of Gasoline (Average for 2004) 

Because of the prominent role of crude oil as a raw material of gasoline 

production, in order to understand what determines gasoline prices it is 

necessary to examine how crude oil prices are set. Overall, the price of 

crude oil is determined by the balance between world demand and supply. 

A major cause of rising crude oil prices in recent months has been rapid 

growth in world demand, without a similar growth in available supplies. In 

particular, the economy of China has grown rapidly in recent years, 

leading to increases in their demand for crude oil. In contrast, oil 

production capacity has grown more slowly, leading to a reduction in the 

surplus capacity—the amount of crude oil that is left in the ground, but 

could be extracted on short notice in the event of a supply shortfall. EIA 

has stated that the world’s surplus crude oil production capacity has fallen 

to about one million barrels per day, or just over one percent of the 

world’s current daily consumption, making the balance between world 

demand and supply of crude oil very tight. This tight balance between 

world crude oil demand and supply means that any significant supply 

disruptions will likely cause prices to rise. For example, a workers’ strike 

in Nigeria’s oil sector in October 2004 forced world crude oil prices to 

record highs (Nigeria is the world’s seventh largest oil producer, supplying 

an average 2.5 million barrels per day in 2004). 

Another important factor affecting crude oil prices is the behavior of the 

Organization of Petroleum Exporting Countries (OPEC)—members of 

which include Algeria, Indonesia, Iran, Iraq, Kuwait, Libya, Nigeria, Qatar, 

23%

12%

17%

48%

Taxes

Source: GAO analysis based on EIA data.

Distribution and marketing

Refining

Crude oil
Page 9 GAO-05-675T 

Saudi Arabia, United Arab Emirates, and Venezuela. OPEC members 

produce almost 40 percent of the world’s crude oil and control almost 70 

percent of the world’s proven oil reserves. In the recent past and on 

numerous other occasions, OPEC members have collectively agreed to 

restrict production of crude oil in order to increase world prices for that 

commodity. 

In addition to the cost of crude oil, gasoline prices are influenced by a 

variety of other factors, including refining capacity constraints, low 

inventories, unexpected refinery or pipeline outages, environmental and 

other regulations, and mergers and market power in the oil industry. 

First, domestic refining capacity, has not kept pace with growing demand 

for gasoline. As demand has grown faster than domestic refining capacity, 

the United States has imported larger and larger volumes of gasoline and 

other petroleum products from refiners in Europe, Canada, and other 

countries. EIA officials told us that, in general, this increase in imports has 

reflected the availability of gasoline from foreign sources at lower cost 

than building and operating additional refining capacity in the United 

States would entail. However, the American Petroleum Institute (API) has 

recently reported that capacity utilization has been high in the U.S. 

refinery sector. Capacity has typically averaged over 90 percent, and has 

recently increased to 92 percent—much higher than the rate in many other 

industries, which API reports are more typically operating at around 80 

percent of capacity. As a result, domestic refineries have little room to 

expand production in the event of a temporary supply shortfall. Further, 

the fact that imported gasoline comes from farther away than domestically 

produced gasoline means that when supply disruptions occur in the 

United States, it might take longer to get replacement gasoline than if we 

had excess refining capacity in the United States, and this could cause 

gasoline prices to rise and stay high until these new supplies can reach the 

market. 

Gasoline prices may also be affected by unexpected refinery outages or 

accidents that significantly disrupt the delivery of gasoline supply. For 

example, in a recent report, we found that unexpected refinery outages 

had been a factor in a number of prices spikes in California in the 1990s. 

More recently, the tragic explosion and subsequent fire at a BP refinery in 

Houston, that killed 15 people, temporarily shut down about 3 percent of 

the nation’s refining capacity. While we have not analyzed the potential 

impact on gasoline prices of this specific event, similar events in the past 

have caused temporary increases in prices until alternative sources of 

supply can be brought to market. Pipeline disruptions can have a similar 
Page 10 GAO-05-675T 

effect, as was seen when Arizona’s Kinder Morgan pipeline broke in July 

2003 and average gasoline prices jumped 56 cents in a month in Arizona. In 

addition, tanker spills, and other similar events can all have an impact on 

gasoline prices at various points in time because they cause interruption in 

the supply of crude oil or petroleum products, such as gasoline. 

The level of gasoline inventories can also play an important role in 

determining gasoline prices over time because inventories represent the 

most accessible and available source of supply in the event of a 

production shortfall or increase in demand. Similar to trends in other 

industries, the level of inventories of gasoline has been falling for a 

number of years. In part, this reflects a trend in business to more closely 

balance production with demand in order to reduce the cost of holding 

large inventories. However, reduced inventories may contribute to 

increased price volatility, because when unexpected supply disruptions or 

increases in demand occur, there are lower stocks of readily available 

gasoline to draw from. This puts upward pressure on gasoline prices until 

new supplies can be refined and delivered domestically, or imported from 

abroad. 

Regulatory steps to reduce air pollution have also influenced gasoline 

markets and consequently have influenced gasoline prices. For example, 

since the 1990 amendments to the Clean Air Act, the use of various blends 

of cleaner-burning gasoline—so-called “boutique fuels—has grown. A 

number of reports by government agencies, academics, and private 

entities have concluded that the proliferation of these special gasoline 

blends has put stress on the gasoline supply infrastructure and may have 

led to increased price volatility because areas that use special blends 

cannot as easily find suitable replacement gasoline in the event of a local 

supply disruption. However, these special gasoline blends provide 

environmental and health benefits because they reduce emissions of a 

number of pollutants. GAO is currently working on a report on special 

gasoline blends that will look at these issues and discuss the effects of 

these special blends on emissions and on the supply system. 

Finally, we recently reported that industry mergers increased market 

concentration and in some cases caused higher wholesale gasoline prices 

in the United States from the mid-1990s through 2000.4

 Overall, the report 

 4

Energy Markets: Effects of Mergers and Market Concentration in the U.S. Petroleum 

Industry (GAO-04-96, May 2004).
Page 11 GAO-05-675T 

found that the mergers led to price increases averaging about 2 cents per 

gallon on average. For conventional gasoline, the predominant type used 

in the country, the change in the wholesale price, due to specific mergers, 

ranged from a decrease of about 1 cent per gallon—due to efficiency gains 

associated with the merger—to an increase of about 5 cents per gallon—

attributed to increased market power after the merger. For special blends 

of gasoline, wholesale prices increased by from between 1 and 7 cents per 

gallon, depending on location. 

California, and the West Coast states more generally, have consistently 

had among the highest gasoline prices in the nation. For example, 

California’s gasoline prices averaged about 21 cents more per gallon than 

national gasoline prices over the last ten years. In addition, California has 

at times had more volatile gasoline prices than the rest of the country. For 

example, in an earlier report on California gasoline prices, we noted that, 

while gasoline prices did not spike more frequently than in the rest of the 

United States, California’s gasoline price spikes were generally higher.5

Many of the factors influencing gasoline prices nationwide have had an 

even more dramatic effect on California prices. For example, California’s 

high gasoline prices have been attributed, in part, to its cleaner burning 

gasoline. In response to air quality problems and in order to meet air 

quality standards resulting from the Clean Air Act and amendments, 

California adopted a unique blend of gasoline in 1996 that increased 

refining costs and likely caused prices of gasoline in the state to rise. 

California’s blend of gasoline is unique in the United States and, according 

to EPA models, is the cleanest burning of all the widely used special 

gasoline blends in the country. This gasoline blend is also very difficult to 

make, and those refineries that chose to make it had to install expensive 

new equipment and refining processes in order to meet the specifications 

of the gasoline. Some studies have suggested that the current blend of 

California gasoline costs between 5 and 15 cents more per gallon to make 

than conventional gasoline. It is likely that these costs are passed on, at 

least in part, to consumers. 

In addition, in recent years, California has developed a tight balance 

between supply and demand, which has at times led to sharper or longer 

price spikes when supply disruptions have occurred. Expansion of the 

 5

GAO, Motor Fuels: California Gasoline Price Behavior, GAO/RCED-00-121 (Washington, 

D.C.: April 28, 2000). 

California’s Unique 

Gasoline and Isolation 

from Other Markets 

Contribute to its 

Higher Gasoline 

Prices 
Page 12 GAO-05-675T 

gasoline supply infrastructure has not kept pace with growing demand, 

and as a result, the California refinery system has run at near capacity. For 

example, according to EIA testimony before the Congress, demand for 

gasoline in California has grown at roughly two to four times production 

capacity growth. California Energy Commission staff told us that the tight 

supply and demand balance has led to large price movements in response 

to even small supply disruptions, caused by refinery outages and other 

events. 

Moreover, supply disruptions may have a larger impact on California than 

on other states. First of all, only a few refineries outside of the state can 

produce California’s special blend of gasoline. In addition, there are no 

major pipelines connecting the state with other major refining areas. 

Therefore, if supply is disrupted in California, gasoline must be brought in 

from the few refineries outside the state that make California’s blend of 

gasoline—often from as far away as the Gulf Coast or beyond. And 

because of the lack of pipeline access to the state, tankers and other 

means must be used, and the process is slow. For example, we recently 

reported that gasoline shipped into California by tanker from such places 

as the Gulf Coast, the U.S. Virgin Islands, Europe, and Asia, can take 

between 11 and 40 days and added 3 to 12 cents per gallon to the retail 

price. 

Another factor contributing to the prices Californians pay at the gasoline 

pump is that residents of California pay comparatively higher gasoline 

taxes than residents in many other states. For example, at about 57 cents 

per gallon on average, California’s total gasoline tax rate is among the 

highest, behind only New York and Hawaii, and is 30 percent higher than 

the national average of 44 cents per gallon, according to a November 2004 

survey by the American Petroleum Institute. 

In our recent report on oil industry mergers discussed earlier in this 

testimony, we found that the highest price impact of mergers—over 7 

cents per gallon of gasoline—was in California. In addition, the California 

Attorney General recently reported that California’s gasoline industry is 

more concentrated than that of the rest of the United States, with 

California’s six largest refiners controlling more than 90 percent of 

refining capacity. The California Attorney General noted further, that these 

six refiners in California control a majority of the terminal facilities and 85 

percent of the retail locations in the state. To the extent that these factors 

lead to greater market power on the part of refiners or gasoline marketers, 

prices may be higher as a result. However, we have not analyzed this 

directly. 
Page 13 GAO-05-675T 

Looking into the future, daunting challenges lie ahead in finding, 

developing, and providing sufficient quantities of oil to meet projected 

global demand. For example, according to EIA, world oil demand is 

expected to grow to nearly 103 million barrels per day in 2025 under low 

growth assumptions, and may reach as high as 142 million barrels per day 

in 2025 —increases of between 25 and 71 percent, from the 2004 

consumption level of 83 million barrels per day. For the United States 

alone, EIA estimates that oil consumption will increase by between 1.2 and 

1.9 percent annually through 2025 depending on assumptions about 

economic growth and other factors. Looking further ahead, the rapid pace 

of economic growth in China and India, two of the world’s most populous 

and fastest growing countries, may lead to a similarly rapid increase in 

their demand for crude oil and petroleum products. While these countries 

currently consume only a small fraction of world crude oil, the pace of 

their demand growth could have far reaching implications if recent trends 

continue. For example, consumption of oil by China and India is currently 

far below that of the United States, but is projected to grow at a more 

rapid rate. EIA’s medium-growth projections estimate that oil 

consumption for China and India will each grow by about 4 percent 

annually through 2025, while consumption in the U.S. is projected to grow 

at an annual rate of 1.5 percent over the same period. 

To meet the rising demand for gasoline and other petroleum products, 

new oil deposits will likely be developed and new production facilities 

built. Currently, many of the world’s known and easily accessible crude oil 

deposits have already been developed, and many of these are experiencing 

declining volumes as fields become depleted. For example, the existing oil 

fields in California and Alaska have long since reached their peak 

production, necessitating an increasing volume of imported crude oil to 

West Coast refineries.6

 Developing new oil deposits may be more costly 

than in the past, which could put upward pressure on crude oil prices and 

the prices of petroleum products derived from it. For example, some large 

potential new sources, such as oil shales, tar sands, and deep-water oil 

wells, require different and more costly extraction methods than are 

typically needed to extract oil from existing fields.7

 In addition, the 

 6

Even if new oil fields are developed in the Arctic National Wildlife Refuge, by the time 

these fields reach their expected peak production of 876,000 barrels per day, according to 

EIA projections, U.S. demand at this time would have increased by far more than this 

amount. 

7

We are currently working on a report on global oil reserves that will address the 

constraints on global supply due to tapped oil reserves and the difficulty in extraction. 

Future Oil and 

Gasoline Prices Will 

Reflect 

Supply/Demand 

Balance, but 

Technological Change 

and Conservation Will 

Also Play a Role 
Page 14 GAO-05-675T 

remaining oil in the ground may be heavier and more difficult to refine, 

necessitating investment in additional refinery processes to make gasoline 

and other petroleum products out of this oil. If developing, extracting, and 

refining new sources of crude oil are more costly than extracting and 

refining oil from existing fields, crude oil and petroleum product prices 

will rise to make these activities economically feasible. 

On the other hand, technological advances in oil exploration, extraction, 

and refining could mitigate future price increases. In the past, advances in 

seismic technology significantly improved the ability of oil exploration 

companies to map oil deposits, which enabled them to ultimately extract 

the oil more efficiently, thereby getting more out of a given oil field. In 

addition, improvements in technology have enabled oil companies to drill 

in multiple directions from a single platform, and also to pin-point specific 

oil deposits more accurately, which has led to increases in the supply of 

crude oil. Further, refining advances over the years have also enabled U.S. 

refiners to increase the yield of gasoline from a given barrel of oil—while 

the total volume of petroleum products has remained relatively constant, 

refiners have been able to get more of the more valuable components, 

such as gasoline, out of each barrel, thereby increasing the supply of these 

components. Further technological improvements that lower costs or 

increase supply of crude oil or refined products would likely lead to lower 

prices for these commodities. 

Similarly, innovations that reduce the costs of alternative sources of 

energy could also reduce the demand for crude oil and petroleum 

products, and thereby ease price pressures. For example, hydrogen is the 

simplest element and most plentiful gas in the universe and its use in fuel 

cells produces almost no pollution. In addition, hydrogen fuel cell cars are 

expected to be roughly three times more fuel-efficient than cars powered 

by typical internal combustion engines. Currently, enormous technical 

problems stand in the way of converting America’s fleet of automobiles 

from gasoline to hydrogen, including how to produce, store, and distribute 

the flammable gas safely and efficiently, and how to build hydrogen cars 

that people can afford and will want to buy. However, there are federal 

and state initiatives under way as well as many private efforts to solve 

these technical problems, and if they can be solved in an economical way 

in the future, the implications for gasoline use could be profound. 

Greater conservation or improved fuel efficiency could also reduce future 

demand for crude oil and petroleum products, thereby leading to lower 

prices. The amount of oil and petroleum products we will consume in the 

future is, ultimately, a matter of choice. Reducing our consumption of 
Page 15 GAO-05-675T 

gasoline by driving smaller, more fuel-efficient cars—as occurred in the 

1980s in response to high gasoline prices—would reduce future demand 

for gasoline and put downward pressure on prices. For example, the 

National Academies of Science recently reported that if fuel-efficiency 

standards for cars and light trucks had been raised by an additional 15 

percent in 2000, consumption of gasoline in the year 2015 would be 10 

billion gallons lower than it is expected to be under current standards. The 

Congress established fuel economy standards for passenger cars and light 

trucks in 1975 with the passage of the Energy Policy and Conservation Act. 

While these standards have led to increased fuel efficiency for cars and 

light trucks, in recent years, the switch to light trucks has eroded gains in 

the overall fuel efficiency of the passenger fleet. Future reductions in 

demand for gasoline could be achieved if either by fuel efficiency 

standards for cars and light trucks are increased, or consumers switch to 

driving smaller or more fuel-efficient cars. 

The effect of future environmental regulations and international initiatives 

on oil and petroleum products prices is uncertain. On one hand, 

regulations that increase the cost or otherwise limit the building of 

refining and storage capacity may put pressure on prices in some 

localities. For example, the California Energy Commission told us the lack 

of storage capacity for imported crude oil and petroleum products may be 

a severe problem in the future, potentially leading to supply disruptions 

and price volatility. Alternatively, international efforts to reduce the 

generation of green house gas emissions could cause reductions in the 

demand for crude oil and petroleum products through the development 

and use of more fuel-efficient processes and as cleaner, lower-emissions 

fuels are developed and used. 

Moreover, geopolitical factors will likely continue to have an impact on 

crude oil and petroleum product prices in the future. Because crude oil is 

a global commodity, the price we pay for it can be affected by any events 

that affect world demand or supply. For example, Venezuela—which 

produces around 2.6 million barrels of crude oil per day, and which 

supplies about 12 percent of total U.S. imports for oil—is currently 

experiencing considerable social, economic, and political difficulties that 

have, in the past, impacted oil production. In April 2002, the oil flow from 

Venezuela was stemmed during 3 consecutive days of general strikes, 

affecting oil production, refining, and exports. Finally, instability in the 

Middle East, and particularly the Persian Gulf, has in the past, caused 

major disruptions in oil supplies, such as occurred toward the end of the 

first Gulf War, when Kuwaiti oil wells were destroyed by Iraq. 
Page 16 GAO-05-675T 

Finally, the value of the U.S. dollar on open currency markets could also 

affect crude oil prices in the future. For example, because crude oil is 

typically denominated in U.S. dollars, the payments that oil-producing 

countries receive for their oil are also denominated in U.S. dollars. As a 

result, a weak U.S. dollar decreases the value of the oil sold at a given 

price. Some analysts have recently reported in the popular press that this 

devaluation can influence long-term prices in two ways. First, oilproducing countries may wish to increase prices for their crude oil in 

order to maintain their purchasing power in the face of a weakening 

dollar. Secondly, because the dollars that these countries have 

accumulated, and that they use, in part, to finance additional oil 

exploration and extraction, are worth less, the costs these countries pay to 

purchase technology and equipment from other countries whose 

currencies have gained relative to the dollar will increase. These higher 

costs may deter further expansion of oil production, leading to even higher 

oil prices.8

In closing, clearly none of the options for meeting the nation’s energy 

needs are without tradeoffs. Current U.S. energy supplies remain highly 

dependent on fossil energy sources that are costly, imported, potentially 

harmful to the environment, or some combination of these three, while 

many renewable energy options are currently more costly than traditional 

options. Striking a balance between efforts to boost supplies from 

alternative energy sources and policies and technologies focused on 

improved efficiency of petroleum burning vehicles or on overall energy 

conservation present challenges as well as opportunities. How we choose 

to meet the challenges and seize the opportunities will help determine our 

quality of life and economic prosperity in the future. 

What is true for the nation as a whole is even more dramatically so in 

California. California is one of the most populous and steadily growing 

states in the nation, and its need for gasoline, as well as other energy 

sources, will grow. However, California’s unique problems with respect to 

developing the right amount and type of infrastructure necessary to ensure 

a sufficient supply of gasoline, other petroleum products, or alternative 

 8

Higher oil prices, because they increase the U.S. trade deficit, may also contribute to the 

further devaluation of the dollar. Hence, analysts have called this process a vicious cycle in 

which a weak dollar drives up oil prices, which then feeds back into the trade deficit and 

cause the dollar to weaken further. 

Conclusions 
Page 17 GAO-05-675T 

fuels must be resolved or viable alternatives developed if California is to 

continue to enjoy the prosperity and high quality of life it is known for. 

We are currently studying the gasoline prices in particular, and the 

petroleum industry more generally, including a primer on gasoline prices, 

a forthcoming report on special gasoline blends, an analysis of the viability 

of the Strategic Petroleum Reserve, an evaluation of world oil reserves, 

and an assessment of U.S. contingency plans should oil imports from a 

major oil producing country, such as Venezuela, be disrupted. With this 

body of work, we will continue to provide Congress and the American 

people the information needed to make informed decisions on energy that 

will have far-reaching effects on our economy and our way of life. 

Mr. Chairman, this completes my prepared statement. I would be happy to 

respond to any questions you or the other Members of the Subcommittee 

may have at this time. 

For further information about this testimony, please contact me at (202) 

512-3841 (or at wellsj@gao.gov ). Godwin Agbara, Nancy Crothers, Randy 

Jones, Mary Denigan-Macauley, Samantha Gross, Mark Metcalfe, Michelle 

Munn, Melissa Arzaga Roye, and Frank Rusco made key contributions to 

this testimony. 

GAO Contacts and 

Staff 

Acknowledgments 
Page 18 GAO-05-675T 

U.S. Retail Price of Gasoline (Not adjusted for inflation) 

U.S. Gasoline Consumption (1970-2004) 

Appendix: Selected Charts and Figures 

Dollars per gallon

Source: GAO analysis of monthly data from the Bureau of Labor Statistics, U.S. City Averages, Regular Gasoline.

Year

0.0

0.5

1.0

1.5

2.0

2.5

1974

1975

1976

1977

1978

1979

1980

1981

1982

1983

1984

1985

1986

1987

1988

1989

1990

1991

1992

1993

1994

1995199619971998199920002001200220032004

5.5

6.0

6.5

7.0

7.5

8.0

8.5

9.0

9.5

197019721974197619781980198219841986198819901992199419961998200020022004

Source: GAO analysis of Annual data from the Energy Information Administration, U.S. Department of Energy.

Barrels per day in millions

Year

0
Page 19 GAO-05-675T 

Refining Capacity and Number of Refineries (1970-2004) 

(360579) 

0

50

100

150

200

250

300

350

0

2

4

6

8

10

12

14

16

18

20

Source: GAO analysis of Annual data from the Energy Information Administration, U.S. Department of Energy.

Number of refineries Barrels in millions per day

1970

1971 197219731974 19751976197719781979 1980 1981 198219831984 198519861987198819891990 19911992 1993 1994199519961997 1998 1999

2000 2001 2002 2003

2004

Year

Number of refineries

Refining capacity
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