Management / Oil and petrol prices: why they don’t always match up

Oil and petrol prices: why they don’t always match up

To make petrol, we need oil. We assume that the cheaper oil gets the cheaper petrol will get – that’s just simple economics, right?

Close-up of a young woman refueling her car

Unfortunately, we often see the two failing to closely follow each other’s troughs and peaks, while sometimes they’ll go in different directions. What’s going on?

Looking at the graph below you can see that there is a correlation between oil and petrol prices – which is what you’d expect – but the strength of this correlation fluctuates quite a lot. In general, the petrol price is far more stable than the oil one. What we often see are oil prices decreasing far more than petrol ones.

oilprices

The global recession is illustrated quite sharply in the chart. In the middle of 2008 oil prices suddenly crashed, falling by 74 per cent in just six months. Petrol prices, on the other hand, fell by just 28 per cent over roughly the same period. Less than two years later, petrol cost just as much as it did pre-recession, whereas oil never got that high again and took nearly three years to recover significantly.

During 2014, we saw oil prices dramatically fall and again we saw petrol fail to match it. In fact, during the second half of June and the first half of July, petrol got more expensive while oil got cheaper. By the end of the year, oil had lost 45 per cent of its value, while petrol was 28 per cent cheaper.

So why is it that the consumer fails to see the full benefits of cheap oil? It’s simply a matter of the companies setting their price – they’re not always willing to pass on their own savings to their customers.

This seems pretty unfair, and the AA has attacked the oil companies for not lowering the price of petrol when they could. It also criticises them for being swift in hiking fuel costs when oil rises again. Is this just a matter of greed, or do the companies have a decent reason for all this?

George Osborne, the UK’s chancellor, doesn’t seem to think so. Along with petrol retailers, he also attacked airlines and energy suppliers for failing to adequately lower their prices in times of cheap oil. As far as he and many others are concerned, the public are being ripped off.

But that’s only one part of the picture. As with any industry that spans the entire planet, there are other factors at play that need to be considered. As oil is priced in dollars, the strength of the pound is very important. If the value of sterling falls then petrol companies will need to raise their prices to counteract that. So if we see a drop in oil prices coincide with a weakening pound, it’s harder for the companies to justify lowering their prices significantly.

This goes some way to explain why a big fall in oil value doesn’t mean one for petrol as well. The pound has generally been weakening against the dollar since the middle of 2014, and every day that continues, the more it drains the benefits of any crude oil price drops. However, petrol prices in the UK still fell year-on-year despite the falling GBP to USD exchange rate.

It’s also important to note the effect of the fuel duty in the UK, which makes up the majority of UK petrol prices. It isn’t linked to anything and is simply set by the government. This means that if the price of oil suddenly falls, a petrol supplier is still paying the same amount of fuel duty on its product. As suppliers’ profit margins can be quite slim to begin with, it means it can be hard for them to lower their prices as much as the fall in oil value.

This all means that while petrol and oil prices are linked, other issues need to be taken into account which weaken the correlation between the two. So the next time the papers are making a lot of noise about the value of oil falling, don’t get too excited. Any significant changes to petrol prices would be more likely to come from a major change in fuel duty than oil prices.

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  • NJ

    Its just because that the fuel tax / duty does not change in any way whether the cost of oil goes up or down. Then they add VAT on the cost of the fuel & the fuel duty, thats why fuel prices wont go down much in comparison to oil prices or other countries. We have the highest tax on fuel in europe