What makes the price of petrol go up and down?

Most of the prehistoric gloop known as crude oil makes a long journey to Australian pumps. What affects its price? And does it really go up on public holidays?

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Visiting an oil refinery is nothing if not bewildering. It’s a cat’s cradle of dials and valves and spigots and pipes, fat and thin, some spewing steam; of towering columns and multi-storey cylinders, one topped with that iconic flickering plume of flame. Yet, despite its vast complexity, a refinery is a machine built to do one thing, essentially, and the purpose of this one, today, is straightforward: to pump oil from tankers berthed at a jetty on its seaward side and pass it through its web of hissing conduits to be boiled, sifted, blended and tested until what emerges are batches of diesel, jet fuel and various grades of unleaded petrol.

This is the Viva Energy (formerly Shell) refinery, just outside Geelong on Victoria’s Corio Bay. It’s one of just two such facilities still operating in Australia and a survivor from the 1950s, albeit updated with mission-control flat-screens and increasingly sophisticated processes. This other-worldly place is a major contributor to how we consume petrol in Australia, yet it is still just a tiny piece of the global picture. While Viva Energy refines some oil here, most of our fuel comes from overseas. And its famously volatile price is largely determined by forces out of our control – both economic and geopolitical – in Singapore, South Korea, Saudi Arabia and beyond.

Why does the price of petrol vary from day to day? What global factors wash over us in Australia? How do petrol stations decide what to charge? And when will oil-based fuel be no more?

Credit: Getty Images

Where does petrol come from?

The sticky brown or black goop created over millions of years from compressed, decomposed algae and plankton on seabeds is something humans have known about for most of our history. In many places, oil used to just bubble out of the ground, as author Ed Conway notes in his book Material World, in which he analyses the necessity to civilisation of six key resources (oil being one). The ancient Egyptians originally took bitumen from tar pits to help embalm their dead; elsewhere it was used to waterproof the bottoms of boats. But it wasn’t until 1853, writes Conway, that chemists figured out how to process oil into a liquid that would burn strongly: kerosene. Cue a worldwide rush to discover sources of “black gold” to light our world.

Today, of course, petrol, diesel and other products refined from oil continue to dominate everyday life, despite the trend towards renewables. Scots and Norwegians pump oil from the depths of the North Sea; Texans from the ancient Permian Basin; the Russians in western Siberia; and the Saudis from the largest single deposit in the world, the vast Ghawar field, which produces some 3.8 million barrels of oil a day – enough to fill 242 Olympic-sized swimming pools. Worldwide, in 2023 we are on track to consume just over 100 million barrels – about 6400 pools’ worth – daily. “How the world works right now,” Conway tells us from the UK, “is we’re still reliant on fossil fuels for about 80 per cent of all of our total primary energy”.

Saudi Aramco’s Shaybah oil field in 2018.Credit: Simon Dawson, Bloomberg

As it’s organic, oil is not a uniform product. It can be light or heavy, “sweet” or “sour”. Oil literally tastes more or less sweet depending on its sulphur content, a component of the algae and plankton that made it in the first place. Sulphur is a pollutant when burned in vehicles.

While one tanker-load of crude oil can vary greatly from the next, crude oil is still typically traded across just a handful of benchmarks that reflect its historical origins and consistency. The best known, Brent crude, takes its name from Scotland’s offshore Brent Oilfield, named after the brant or brent goose in line with Shell’s naming protocols when it was found in 1971. West Texas Intermediate, or Texas Sweet Light, is not a mid-strength ale but rather a benchmark priced at the crude oil trading hub of Cushing, Oklahoma – the self-proclaimed “pipeline crossroads of the world”. The prices of Dubai and Oman crudes, both medium and sour, are often averaged to create a benchmark for pricing crude oil shipped from the Middle East to Asia, says the US Energy Information Administration.

Who controls the world’s oil supply today?

While there are dozens of oil-producing countries – the US, Norway, the UK and Malaysia among them – the cartel now known as OPEC+ holds the most sway over supply. Originally, a group of just five oil-rich nations – Iran, Iraq, Kuwait, Saudi Arabia and Venezuela – the Organisation of the Petroleum Exporting Countries, collaborated to essentially seize control of production back from a cartel of British and US companies known as the Seven Sisters.

By 1975, OPEC had expanded to 13 nations including Nigeria and Algeria. In 2016, it was joined by an alliance of more oil-producing nations including the world’s third-biggest oil extractor, Russia, to create OPEC+, which produces an estimated 40 per cent of the world’s crude.

Historically, OPEC has had little hesitation in manipulating supply. “By acting in a cartel manner they’re able to exercise monopoly power [to] impact the price of oil on global markets,” says macroeconomist Robert Walker from international affairs think tank the Lowy Institute. Within OPEC, as the group’s single-biggest producer, the Saudis are the major player. Critically, says Ed Conway, “they still are able to actually get oil out of the ground and increase their output faster than pretty much any other country in the world, which can influence the global market”.

Then there’s the wildcard Prince Abdulaziz bin Salman (the brother of ruler Mohammed bin Salman, or MBS), who became the kingdom’s energy minister in 2019. “This is a Saudi lollipop,” he said in June on announcing Saudi oil production cuts on top of OPEC+ cuts that would extend into 2024. “We wanted to ice the cake. We always want to add suspense. We don’t want people to try to predict what we do … This market needs stabilisation.” The cuts prompted a surge in prices; Brent crude is now expected to rise above $US100 a barrel.

How has Russia’s war in Ukraine influenced prices?

For as long as we’ve known its importance, oil has not only fuelled wars but sparked them, as Daniel Yergin writes in his encyclopaedic analysis The Prize. Oil played a fundamental role in both world wars, he writes, not to mention the Suez Crisis of 1956 and Iraq’s 1990 invasion of Kuwait.

When Russia invaded Ukraine in 2022, the price of Brent crude spiked to $US139 – its highest level since 2008. Traders were concerned about threats to supply in the region, creating what Sushant Gupta, research director at energy research consultancy Wood Mackenzie in Singapore, succinctly describes as “fear in the market”. A feeling there would be shortages led to short-term panic which eventually subsided as Russian oil continued to flow out, including to China and India.

“In Australia, given that 90 per cent of our oil consumption – petrol and diesel and all sorts of things – come from overseas we are vulnerable to any international crisis that may affect us, directly or indirectly,” says associate professor Flavio Macau, a logistics expert at Perth’s Edith Cowan University. “At the end of the day, we’re an island. Everything must come by sea.” For while we do have our own limited oil reserves, mostly in Western Australia, and the two refineries – Viva Energy’s and Ampol’s Lytton plant in Brisbane – ultimately we have to compete with imports on price.

A petrochemical refinery on Jurong Island in Singapore. Credit: Getty Images

Australian prices today are more heavily influenced by three other factors: the strength of the US dollar, the margins that overseas refineries are making on their product and the wholesale benchmark in Singapore. The dollar matters because oil trades are made in US dollars. Australia’s dollar is currently about 64 cents to the US dollar.

Refinery margins matter as they are currently high and likely to remain that way thanks to refinery closures during COVID as well as increasing investor reluctance to finance future capacity because of the green energy transition (more on that below).

And Singapore matters as our dominant regional supplier, via three major refineries, including one of the largest plants owned by multinational giant ExxonMobil – one of many petrochemical companies that now sprawl over the city-state’s Jurong Island. Singapore imports all of the crude oil it refines – two-thirds of it from the United Arab Emirates, Qatar, Saudi Arabia and Kuwait, according to the US Energy Information Administration. Because of the volume coming out of Singapore, Australian wholesale prices for petrol are not so much pegged to the price of crude as they are to a Singapore benchmark known as Singapore Mogas 95 Unleaded, or Mogas 95 for short.

But there’s yet another factor that influences what we pay at the pump: the retail price cycle.

What’s the retail price cycle?

Glance at fuel prices leading into a long weekend and it can be tempting to think service stations hike up the prices when more motorists get on the road. This is not actually the case, says the Australian Competition and Consumer Commission, which has found that any price increases on public holidays are no larger than at other times of the year.

Instead, it is fierce competition among service stations that drives prices to fall then rise over an average of five weeks in most Australian capital cities, before the cycle starts again – a game of discount leapfrog. Economists call it an Edgeworth cycle. “I started high, I wanted to take volume off you so I dropped by a cent, and you saw what I was doing so you dropped by a cent,” explains Mark McKenzie, chief executive of the Australasian Convenience and Petroleum Markets Association.

The prices eventually fall low enough to be unsustainable, at least for some. “It’s a bit like looking at each other around the poker table and trying to work out who is going to move first,” McKenzie says. “They are all at a point of pain but no one wants to be the first.” Generally, it’s the larger-volume businesses potentially exposed to bigger losses that will increase prices first. Average prices can move by up to 45 cents from peak to trough.

“It’s not perfectly competitive but it’s not bad,” says behavioural economist Professor Ralph-Christopher Bayer of Adelaide University. “It’s not that they’re really able to have huge margins.”

In Western Australia, regulation requires fuel prices to be locked in for 24 hours from 6am each day which has contributed to a seven-day fuel cycle in Perth, where prices are typically lowest on a Tuesday. In Canberra, prices tend to be less dynamic as competition is not as intense.

McKenzie says a common misconception is that service stations collude over when to put up prices. The 8025 service stations in Australia are managed by around 3500 different businesses. “Individual businesses are making decisions about when they go up,” he says.

The margin in regular unleaded fuel is wafer thin. More than half of pump prices come from production costs, another 31 per cent is government tax, and 11 per cent is industry operating costs and margins, according to the Australian Institute of Petroleum. McKenzie says service stations on average make about 2.8 cents a litre on regular unleaded fuel. “They get a better margin on the premium graded product,” he says, with margins up to four cents per litre higher.

It’s no industry secret that service stations make a bigger margin on non-fuel items – chocolate bars, drinks – but fuel remains their main profit source given they sell it in greater volumes. “If I lose you because I’ve made a silly decision on pricing,” says McKenzie, “and I’m not staying competitive, it’s a double banger because I don’t just lose the fuel; I lose the opportunity to sell the non-fuel products.”

Credit: Getty Images

How will the shift to renewables affect petrol prices?

Ground has already been broken at the Viva Energy plant for an extension that will enable the refinery to produce ultra-low sulphur fuel, to facilitate new lower emission vehicle technology by December next year. They are equally proud, however, of a multi-storey metal tower they call the “cracker”, a machine (using a process called residual catalytic cracking) that, in layman’s terms, allows them to smash oil-based products into ever tinier molecules, making what could otherwise be wasted useful. Soft plastics, currently not able to be recycled, are on the radar to be co-processed alongside crude oil. So, too, hydrogen, which will likely become a major fuel for heavy transportation.

Oil’s heyday is not over yet. World demand hit a record 103 million barrels a day in June, according to the International Energy Agency. Wood Mackenzie’s Gupta says that longer term, estimates are for demand to peak in 2032-33, with prices easing to $US65-$70 per barrel by 2050. Hardly a collapse.

Viva Energy’s Geelong oil refinery in 2020.

This week, the British government approved the development of a huge oil and gas field in the North Sea, majority-owned by Norwegian state-owned energy company Equinor, with the potential to produce 300 million barrels of oil in its lifetime. Indeed, the notion of “peak oil” supply, which once implied a plunge into Middle Ages darkness, has become more complicated with the discovery of new deposits and technologies.

Then there’s ambition. “We’re trying to compress a kind of period of innovation that when you look back at previous energy transitions would have taken probably a century if not longer,” says Conway. Indeed, global goals to phase out petrol vehicles stumbled in September when UK Prime Minister Rishi Sunak pushed back plans to ban the sale of new electric vehicles from 2030 to 2035. The EU has a 2035 timeline too, but this year added concessions for sales of vehicles running on sustainable fuels.

In the year to July, 8.4 per cent of new car sales in Australia were electric. The International Energy Agency predicts EVs will make up 60 per cent of new car sales worldwide by 2030. Australia’s Electric Vehicle Council says this will play out here. “It could be north of that,” says the council’s chief executive, Behyad Jafari.

Meanwhile, the volume of fuel sold in Australia in the June quarter of this year was about 9 per cent lower than the same quarter in 2019. The consumer watchdog says there are several reasons for this, including the uptake of hybrid and electric vehicles, people working from home and a longer-term trend of vehicles becoming more fuel efficient.

Tony Wood, energy director at the Grattan Institute, predicts EV uptake will eventually lead to the price of petrol rising. This scenario relies on a so-called “death spiral” where the production costs currently spread across huge markets of consumers are borne by fewer motorists. “[Petrol] won’t be illegal but, boy, it’ll be expensive. And I think it will be economics rather than regulation that phases [it] out.”

Exactly when petrol sales drop depends on how fast the EV transition happens. “If governments want to be net zero by 2050 with their vehicles, then more or less they’ve got to make sure you’re not selling any more internal combustion engine vehicles by 2035,” Wood says.

For now, McKenzie says service stations are gearing up for gradual change. “We’re diversifying the forecourt; so instead of ripping out petrol pumps and putting EV chargers in, we’re supplementing our petrol and diesel dispensers with a small amount of EV charging,” he says. “It’s not simplistically any more about, ‘Will EVs replace petrol?’ They will, ultimately, but it’s probably more likely to occur at a 20 or 30 year timeframe … We see it happening progressively.”

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