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Why gasoline follows oil up but not down

  • Story Highlights
  • Simple economics means gas prices fall more slowly than they rise
  • Gas stations typically make a gross of 15 cents a gallon, analysts say
  • Fees to credit card companies can eat up half of that profit
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By Steve Hargreaves
CNNMoney.com
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Editor's note: This story first appeared on CNNMoney.com in January 2007.

NEW YORK (CNNMoney.com) -- If it seems like gasoline prices are quick to skyrocket when the price of oil goes up, but then take their sweet 'ol time coming back down when crude prices sink, the answer is simple: They do.

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Prices begin going down when other nearby stations reduce their price, analysts say.

"There is a rocket and feather aspect," said Tom Kloza, chief oil analyst at the Oil Price Information Service.

And the reason seems to be simple economics.

The service stations are still selling the same amount of gasoline when wholesale prices fall, said Kloza, "so there's no reason to drop."

"Human nature being what it is, [service stations] typically react [to a spike in oil prices] by pushing prices higher, even before they replace their inventories," said Geoff Sundstrom, spokesman for the motorist organization AAA.

"And [again] human nature being what it is, unless other stations bring their prices down, he's going to be very reluctant to bring down his."

But before you boycott your local Qwickie Mart, Kloza said to remember that gas stations typically make very little money off the gas they sell, maybe a gross of 15 cents a gallon.

Out of that, they have to pay all their expenses, including fees to credit card companies that can eat up half of that profit.

"[People] think of every sector of the business as being run by John D. Rockefeller or J.R. Ewing," said Kloza. "People don't realize how little profit there is."

Service stations pay their bills on money made when people go inside to get things like coffee and Ring Dings, which are often sold at a decent mark-up.

The real money in oil, he said, is made at the production, refining, and, especially, the trading levels.

"All these exchanges are setting records," in terms of the number of contracts changing hands at places like the New York Mercantile Exchange, where brokerage houses will take a cut for each transaction. "That's where the big bucks are made."

Eventually, the free market steps in and prices begin going down when other nearby stations reduce their price.

And as opposed to government controls that would prevent stations from charging a little more when they can, AAA says that's just how things should work.

"The best way to assure a stable supply of fuel is to allow a free market to operate," said Sundstrom.

With oil prices sinking some 15 percent since the beginning of the year, Kloza said gasoline prices are sure to follow, although it will just take a few weeks for the cheaper product to work its way into the system.

But Sundstrom warns consumers to not get complacent.

"We anticipate high prices over time, regardless of what they see in the short term," he said. "We'd hate to see consumers think our energy problems have been solved and jump into a new car that gets the same fuel economy, or worse even less, than the one they have now." E-mail to a friend E-mail to a friend

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