Mirror Mirrow on the Wall, Who’s at Fault for California’s High Energy Costs?

Published January 25, 2023
gavin newsom california oil

California Governor Newsom is emphatically finger pointing, scapegoating, and complaining that oil companies are making outlandish profits, but he may be out of touch with the elephant in the room, the mirror on the wall.

While the governor is doing everything he can to shut down oil production in one of America’s most oil-rich states,  the governor is blindly pushing California energy policies ahead of our basic energy realities – leaving the state at the mercy of an unstable world for the vast majority of its energy supplies.

While the U.S. scrambles to protect its energy security, California oil production is down 25 percent under Newsom, costing the state and the country millions of barrels of badly needed supply that could help ease prices at the pump and protect against volatility.

Under Newsom’s watch in the last few years, two of California’s refineries have virtually shut down and are no longer manufacturing gasoline, aviation fuels, or any oil derivatives for all the products in our society. Those two, Phillips66 at Rodeo that represented 7 percent of petroleum production capacity, and Marathon at Martinez that represented about 6 percent of in-state capacity, are now only focusing on renewable diesel. Shuttered petroleum refinery capacity is gone for good.

More bad news on in-state refining capacity may occur under Newsom’s second term with the permanent closure of two more California refineries, the Chevron Refinery at Richmond and the PBF Refinery at Martinez. If the courts uphold the 2021 Bay Area Air Quality Management (BAAQMD) rule 6-5 for a further reduction in particulate emissions, both have stated that they will shut down before spending one billion dollars to retrofit their refineries to comply with further particulate emission reductions.

With refinery closures, a short West Coast gasoline market is the new normal. California gasoline demand is made up on in-state refinery gasoline production, movements from the Pacific Northwest, and imports from abroad. When gasoline production falls short, additional supply comes by tanker from around the globe, but it takes 5 to 6 weeks to get cargo into California from abroad.

Globally, excluding China, about 3 million barrels per day of refining capacity closed since January 2020. The future does not bode well as 20 percent of the 700 worldwide refineries are expected to close in the next 5 years. Further inflation and shortages in perpetuity are guaranteed, as refineries manufacture crude oil into the derivatives that account for more than 6,000 products for society, as well as manufacturing the fuels for 50,000 jets moving people and products, and more than 50,000 merchant ships for global trade flows, and the military and space program.

Gasoline imports were also lower than the previous year, caused by a near tripling of freight rates.

The cost of freight has skyrocketed, creating a barrier for imports and the reality that gasoline blending in Asian refineries were hard to find to meet the local and state regulations on the California oil industry.

A strong draw on inventories in California has led to record low inventory levels. As supplies dried up, retail prices went up. With shrinking refining capacity, operating refining costs have increased.

At the height of the pandemic, many experienced personnel retired and will not return to the refinery work force, resulting in continued problems with labor availability and productivity.

In the face of an already short supply cycle and a tight labor market, refiners pushed routine maintenance schedules until pandemic conditions eased, then Russia invaded Ukraine. To keep up with demand, refiners deferred maintenance through the summer of 2022. This led to a pileup of planned and unplanned outages in the fall of 2022. September 2022 saw five West Coast refineries down for maintenance.

The U.S. refining industry has been shaped by government regulation for the last 40 years. California refining industry has shrunk 18 percent from 1982 to 1992, and another 16 percent from 1993 to 2022.

California’s refining industry is unique in the U.S. because of state regulations. The California Air Resources Board (CARB) has set more restrictive standards for gasoline and diesel that national standards. Surviving refiners retooled to produce the CARB specification, but these boutique fuels create barriers to entry for outside suppliers.  Less visible to the public is the impact of the regional Air Districts which mandate significant capital expenditures in the refineries and distribution systems.

Due to expensive environmental mandates, including requirements for refiners to make specific gasoline blends only sold in California, refiners are reluctant to make long-term upgrade investments because state climate and air quality initiatives disincentivize petroleum production. Here are the California Climate and Air quality Initiatives:

Low Carbon Fuels Standard (LCFS)

  • Impact on refiners: Incentivizes renewable fuel production and disincentivizes petroleum product production
  • Result: Some refiners convert from petroleum to renewable fuel production leading to a short petroleum products market. LCFS compliance is an added cost to consumers.

Cap and Trade (C&T)

  • Impact on refiners: Incentivizes reduced emissions by requiring refiners to buy allowances to offset emissions above the declining cap.
  • Result: The application of C&T to gasoline and diesel is called Cap at the Rack (CAR). CAR is the calculated cost of C&T added to gasoline and diesel sold at the terminal.  C&T compliance is an added cost to consumers.

South Coast Air Quality Management District (SCAQMD) NOx Rule

  • Impact on refiners: Requires refiners and other fuels and chemicals facilities decrease NOx and CO emissions.
  • Result: Affected LA-area refineries will have to install pollution control equipment to reduce NOx with a cost estimated by AQMD of $2.3 to $2.9 billion. Cost of compliance may be passed on to consumers.

Bay Area Air Quality Management District (BAAQMD) Particulate Emissions Rule

  • Impact on refiners: Requires decreased allowed PM10emissions from refinery Fluid Catalytic Cracking Units (FCCUs).
  • Result: Affected Northern CA refineries, Chevron Richmond and PBF Martinez will have to install wet gas scrubbers to reduce FCCU PM10with estimated costs between $240M -$1.48B. Both companies are currently suing BAAQMD over the rule. Cost of compliance may be passed on to consumers.

California regulations have increased the cost of petroleum fuels and contributed to the decline in the refining industry in the state.

California has twice as many drivers per gas station than the rest of the country. There are several reasons that California has a shortage of gas stations. Real estate is expensive and often has a higher and better use that a gas station. Permitting in California is more difficult that other states.

Price spikes occur around unplanned refinery maintenance and are more dramatic than in the rest of the country because of the isolation from alternative supplies. Not discussed in this “mirror mirror” exercise, are the components of the higher fuel prices that include California’s higher excise, sales, and local taxes, plus the greenhouse gas fees that other states don’t have.

The elephant in the room that Governor Newsom does not see is the mirror that illustrates all the self-inflicted causes for the states’ exorbitant fuel costs.