California’s decarbonization plan could mean soaring gas prices

As California vigorously seeks to decarbonize the state’s economy, some in Sacramento fear the plan faces a looming threat: astronomical gas prices that could spark a massive public backlash.

A government mandate calls for phasing out sales of new internal combustion engine cars and light trucks by 2035. The retail price of gasoline is likely to rise as refiners and other industry players try to maximize profits before demand for the product wanes.

The California Energy Commission is investigating the issue and held a day-long hearing on the issue on November 29.

It’s about a lot. “If we screw this up, be it gas prices or an electrical load [from electric cars] that exceeds supply will put a black eye on the entire energy transition,” Severin Borenstein, a professor at UC Berkeley, told the commission.

Borenstein, who has studied energy prices for decades, recalled the 2000-01 debacle in which California famously botched its aggressive attempt at electricity deregulation. Widespread power outages caused economic disruption as companies like Enron gambled the system to their financial advantage. The end result: the state backtracked on electricity deregulation.

Borenstein suggested that gasoline refiners, distributors, and retailers could play market-making games, legal or otherwise, and that the state should investigate. It’s unclear if California politicians will do so.

Meanwhile, Gov. Gavin Newsom has called a special session beginning Monday to consider a “lost profit penalty” in response to gas price spikes.

The state faces a delicate balance as it effectively dismantles California’s gasoline refining industry.

This year, Californians will burn about 15 billion gallons of gasoline. The Energy Commission projects it will fall to 8 billion by 2030 and less than 2 billion by the 2040s.

The country predicts that there will still be 16 million petrol and diesel cars on the roads in 2035. No one is sure how much drivers will pay at the pump.

The issue was framed by Siva Gupta, the commission’s deputy chair, as he opened the gas price hearing with an observation and an admission: “Many of us will be driving petrol cars for a very long time, including me who drove in a petrol car this morning.”

His comments highlight an obvious reality: While high gas prices hurt the poor and working class most, all Californians – regardless of their political persuasion – do not like high gas prices. Research shows that expensive petrol tempts some people to buy electric cars.

The “California Premium”

The state’s gasoline prices have been at or near the top in the country for decades. The basic reasons are well known. Gasoline taxes in California are higher, and the state requires special grades of gasoline to reduce pollution. In addition, refineries pay additional costs in the market for CO2 certificates. The state’s isolation from most of the refining market, which is concentrated along the Gulf of Mexico, also creates additional costs.

Beginning in 2015, as the state legislature drafted its tough rules to reduce greenhouse gases, what is known as the California premium on gas prices began to rise dramatically.

The price gap widened significantly that year after a major fire at an oil refinery in Torrance sent prices sharply higher. Prices remained high even after the refinery restarted.

According to the AAA, average gas prices in California are currently about $5 per gallon, compared to about $3.50 across the states. As any California motorist knows, late summer gasoline prices topped the $6 mark — and $8 in some places — far higher than other states.

The refinery industry blames expensive regulation for the high costs. Oil industry critics, including Newsom, blame what they call windfall profits and price gouging.

There is truth on both sides. The question is what can be done about it.

Market prices or price gouging?

As electric vehicles are introduced between now and 2035, when sales of new gas- or diesel-powered cars are banned, demand for these fuels will shrink dramatically, severely cutting refiners’ profits and eventually stranding their heavy industrial assets.

They have every incentive to keep profit margins as high as the market and policies will allow in order to maximize the return on their investments before their business declines and eventually disappears. And corporate profits are not against the law.

The number of gas stations will also decrease with demand, providing another opportunity to increase profit margins. Already, forecourt owners are planning to go out of business and sell their properties when the electric vehicle economy takes hold. Los Angeles and other California cities have banned the construction of new gas stations, further restricting supply.

Faced with these realities, two camps emerged at last week’s Energy Commission hearing: those who want to limit refinery profits and those who want more information to see if antitrust or business fraud laws are being violated.

Jamie Court, President of Consumer Watchdog, called for a profit cap that he said would prevent price spikes like those suffered by motorists this summer. He has an ally in Newsom.

While price gouging is a legal term applicable to price increases specifically during a government-declared emergency, colloquially it has become a term translated as “unfairly expensive.” To date, Newsom has not provided details of his plan for a penalty for gouging, which would be subject to debate and a vote in the Legislature.

As for those who requested more data from the industry at the hearing, aside from announcing planned and unplanned refinery closures, the nature of the information requested was vague.

When asked by State Senator Monique Limon (D-Santa Barbara) what kind of data would be helpful, Quentin Gee, policy analyst for the California Energy Commission, said the commission is “keeping a little more on the general side at this point.”

However, Borenstein proposed an idea: He proposed a new government agency with the power to subpoena information to find out what’s happening in the “downstream” market, where gasoline gets loaded into trucks, delivered to underground tanks at gas stations, and then pumped in people’s vehicles.

He said his analysis showed that two-thirds of California’s premium, above state taxes and other known factors, came from downstream, and more information would show whether the system is being tricked.

Indeed, in 2020, the Attorney General filed business fraud charges against two major gasoline trading companies, accusing them of manipulating prices.

Borenstein made it clear he doesn’t know if that’s happening, but he said it’s important for the downstream market to become more transparent.

What about the refineries? Five companies control 97% of the state’s refining capacity – Chevron, Marathon, Valero, PBF and Phillips 66. All were invited to attend the hearing, and all declined.

Catherine Rehies-Boyd attended. She heads the Western States Petroleum Assn., an industrial group. She pledged to work with the Commission as it prepares its report on petrol prices, due to be finalized by the end of 2024 – with numerous hearings and public participation opportunities planned by then. California’s decarbonization plan could mean soaring gas prices

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