WSPA Presentation to the Senate Select Committee on Bay Area Infrastructure on Factors impacting California Gasoline Market Volatility-December 8, 2003

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Good morning. Thank you Senator Torlakson for conducting this hearing, and thanks to the City of Hercules for allowing us to use your City Council Chamber.

My name is Joe Sparano. I represent the Western States Petroleum Association, or WSPA. WSPA includes 30 companies that explore for, produce, refine, transport and market petroleum products in six western US states. We appreciate the opportunity to share WSPA’s views with you today.

I’ll start with some brief background remarks about the petroleum industry, and provide some perspective on historical gasoline prices. From there, I’d like to tackle the question of why gasoline prices have generally been higher in California than the rest of the continental United States.

And finally, of most importance, I’d like to focus on what California government can do to help ensure consumers have reliable supplies of transportation fuels in the future. First some background information:

There is a multiplier effect - approx. 2.5 jobs created for each Petroleum Industry job.
We are a substantial driver of the state’s economy.

The Petroleum Industry’s injury rate is far below all other groups shown.

As you know Mr. Chairman, safety is the top priority of our companies, and they work hard to prevent accidents and injuries. These are the latest statistics we have, from the year 2000, that compare the safety record of our petroleum refiners to the records of all public and private employers. We are proud of our excellent safety record, and are always trying to do even better.

California has made incredible progress in its campaign for cleaner air. Statewide ozone smog levels have been cut in half. The state is in compliance with federal lead and carbon monoxide air quality standards and sulfur dioxide emissions are down 75% from 1975. Our industry has played a major role in this progress.

Since 1996:

• CA refiners produce the cleanest gasoline on the planet
  • Reduces emissions by 1 billion lbs/year
  • Equals taking 3.5 million cars off the road every day
• Clean diesel product for buses and trucks reduced emissions by 85%
• Northern Cal - emissions from refineries reduced over 50%
• Southern Cal - emissions from refineries reduced almost 75%, both between 1979-1999.

Helping to improve air and water quality is just one of the challenges our industry faces in California. WSPA’s individual refinery members have also had the challenge of reliably supplying the cleanest gasoline on the planet in the face of growing demand for the product, while providing such fuel at a cost that is competitive and gives consumers good value for their money.

So how have they done?

1981
The price of gasoline was $2.70/gallon after inflation is accounted for ($1.35 street price). Prices today are less than they were 20 years ago after adjusting for inflation.

Average increase for all items - 80%.

Many consumers are surprised to see how increases in gasoline prices over the years factually compare to those of other products and services that we use every day. This chart is based on data from the U.S. Bureau of Labor Statistics.

You can see that gasoline prices increased by 19% over the past 20 years compared to new cars up 40%, take out food up 80%, breakfast cereal and rent up 100%, and the average of all items which increased by 80% over the same time period.

On another subject:

Our members often get questions about oil industry profits. I would like to provide a few facts. This slide, using data published by BusinessWeek Magazine, compares profit margins for the third quarter of this year for oil and natural gas companies to all U.S. Industry and a few specific industry sectors.

Oil and gas – 5.3% > Oil & Gas profit margins are lower
All industry average – 6.5%

Business Week also found that, for the first nine months of 2003, profit margins for oil and natural gas companies were about the same as U.S. industry as a whole. (6.2% for oil and gas versus 6.4% for the average of all U.S. industries)

Over a five-year period, for the petroleum companies reporting, profit margins were about 4.7%. This is slightly below the 5.2% average for all U.S. companies during the same period, again according to Business Week.

Now let’s turn to another question the public wants answered:

The EIA and other agencies have reported that California gasoline prices have been generally higher here than the rest of the continental United States. These agencies have identified three main reasons for this historic trend.

California’s ultra-clean gasoline costs more to produce (approximately .10/gal) and because the formula is unique to California, few refineries outside of California choose to produce it. (CEC estimates $.05 - $.15/gal)

Gas taxes in California are the 4th highest in the country. At approximately $.51/gal., they are approximately $.10/gal above the average for all 50 states.

There are significant regulatory barriers to expanding California petroleum refineries and other gasoline-related facilities according to the California Energy Commission. This leaves supply and demand in very tight balance. Minor upsets can trigger market volatility.

Another question of interest is:

Although gasoline prices have declined twelve out of the last 13 weeks according to 11/24 CEC data, 2003 has been a year of ups and downs according to agency data.

The gasoline market is highly competitive. Gasoline prices reflect market fluctuations in supply and demand that occur internationally, regionally and locally.

The EIA has testified that the entire west coast gasoline market is interconnected with market pressures in one area often affecting the region as a whole.

That’s what happened in the spring and fall this year when several western states experienced a series of market conditions that caused gasoline prices to increase. According to the EIA, the California Energy Commission (CEC) and other public sources, several west coast refineries experienced equipment failures and other problems that temporarily reduced gasoline production and put upward pressure on gasoline prices.

A recent example: in early August, a major gasoline pipeline that ships fuel from Texas to Arizona broke down. When it was in operation, this pipeline from Texas supplied 30% of Arizona’s gasoline. The CEC reported that the loss of these supplies in Arizona forced companies to ship additional gasoline from California and elsewhere to provide replacement fuel. This, in turn, reduced CA gasoline supplies and hence increased prices through much of the western region.

The Energy Commission reports that these conditions have been resolved.

Against this backdrop, studies by the Energy Commission and others have raised governmental concern that continued growth in demand for gasoline coupled with the current significant constraints on expansion of in-state refining capacity, could lead to an imbalance of supply and demand in California.

So what options are available to meet this challenge? If you rule out reducing gasoline taxes or repealing the cleaner-burning gasoline regulations, which we have no intention of supporting - we want to continue the environmental quality progress that has already been made - that leaves the state with three main options for addressing this concern:

Reducing demand for transportation fuels would require draconian increases in gasoline taxes along the lines of fuel pricing options that the California Energy Commission outlined in a study last year. Those CEC options included a 50-cent per gallon increase in gasoline taxes, a new 2-cent per mile vehicle miles traveled tax and an increase in vehicle license fees for pickups, SUVs and minivans.

When it became evident such proposals were political dynamite, the Energy Commission put them back on the shelf, at least temporarily. Their latest proposal is to reduce gasoline demand by 15% from 2003 levels, by 2020, through increasing federal CAFÉ miles per gallon standards. Reducing demand is a very different goal than the original legislative direction AB 2076, which was for the CEC to recommend actions to reduce the growth rate of gasoline demand in California.

However, the state doesn’t have the power to set vehicle fuel efficiency standards and the federal government appears to be disinclined to do so.

Here’s the bottom line: To reduce demand would require new fuel taxes, which would likely generate strong public opposition. Using arbitrary mandates to reduce gasoline demand also sends a very negative message to anyone looking to invest in petroleum facilities in California.

And, why reduce the availability of the cleanest gasoline on the planet, when what we need are more supplies? So, we should maintain existing clean supplies, and increase alternative fuels.

California should encourage research and development of alternative fuels such as hydrogen fuel cells. In fact, many of our member companies are at the forefront of hydrogen fuel cell research and development. These groups are working to solve the difficult technical and logistical challenges that remain to make hydrogen fuel cells and other alternative fuels viable consumer options.

However, the state’s failed experiments with electric cars and methanol fueled vehicles, and government mandates have demonstrated that arbitrarily mandating and providing subsidies to alternative fuels can cost taxpayers billions of dollars, provide little or no environmental benefit, and can be counterproductive. By the time mandates reach the point of becoming public policy, they often result in quotas for obsolete technology due to the rapid pace of industry-driven technological advancements.

And finally, given even the rosiest of scenarios it appears unlikely that hydrogen fuel cells or other alternative fuels will provide a significant amount of transportation fuel in the near-term. So, what can we do?

We need to increase gasoline supplies – how can that be done working with government? We need flexibility and must have balance.

Over the past 20-years the California petroleum industry has met the challenge of reliably supplying our customers with products in the face of growing demand. We have done this while making the cleanest gasoline on the planet at the cleanest refineries anywhere, and while selling that product at competitive prices.

We believe our members can continue to meet this challenge, but we need your help to reduce the barriers that state and local governments have erected. These barriers stop or slow down construction of new petroleum facilities and upgrades to existing equipment, that together would allow our member companies to produce more finished gasoline here or import it and gasoline components from other areas. Of course, projects must also meet shareholders’ and Boards’ economic criteria in order for implementation to proceed.

So, here are five specific suggestions:

Avoid Counterproductive Policies. State government has been sending very negative signals to the business community in general and our industry in particular that it does not want companies to invest in new facilities and new jobs in California. The state’s high-energy costs, sky- rocketing workers compensation costs and the high costs of complying with environmental regulations are driving investments and companies away from California.

In addition, our industry must constantly fight back legislative proposals that would dramatically increase the cost of doing business here. Those proposals include a billion dollar per year refinery gate tax that so far has been defeated, but looms as a potential future cost.

Permit Reviews Must Be Streamlined. Permit streamlining and establishing policies to ensure timely processing of permits by state agencies, local air districts and regional water boards are critical components of improving the state’s business competitiveness.

The Energy Commission’s Integrated Energy Policy Report (IEPR) contains specific recommendations for permit system streamlining. Another of the critical areas for permitting is new source review (NSR). Rather than react hostilely to the federal NSR reforms, as the Legislature did earlier this year by passing SB 288 (Sher), we urge the Legislature instead to provide authority to ARB and the local districts to adopt those federal NSR reforms that would promote permitting of critical energy projects without increasing emissions.

Here are a few examples of situations we have encountered in the existing permitting process:

• It has sometimes taken from 20 months to almost 5 years to obtain permits to install equipment or projects that are either required by regulation, reduce emissions to the environment, or improve cost-recovery. This is not unusual, as permits are typically backlogged.
• Throughput limits are applied to restrict production and storage of product, even when emission impacts are minimal or non-existent.
• Contra Costa County’s Industrial Safety Ordinance requires Management of Change whenever reorganization effects operations, safety or environmental staffing, whether for maintenance or operations. (Complicates, lengthens makes process more costly)
• Companies are discouraged by BAAQMD from using flares for start-up and shutdown efficiency, keeping production off-line longer, regardless of the emissions impact. (22 tons alleged vs. 2 or less actual)
• The State lands Commission promulgated “fail-safe” regulations to prevent oil spills from marine oil terminals that already are adequately controlled or could otherwise be reasonably controlled. (adds complexity and cost without additional benefits)
• CEQA challenges to CBG2, MTBE phase out and ULSD projects, creating repetitive delays on projects specifically required to meet regulations.
• South Coast AQMD required New Source Review simply to change a catalyst to raise octane and expand volume of product available to consumers, which caused the refiner to abandon the project. (reduces possible supplies)

Create Consolidated Permitting for Energy Projects. We strongly urge the development of a voluntary, consolidated, one-stop permitting agency whose intervention could be requested by project proponents when duplicative or counterproductive regulatory requirements endanger the life of a project.

This agency (perhaps the CEC) could manage the permitting of major energy facilities such as: additional electrical generation; significant oil and natural gas production increases; new LNG terminals and facilities; additional pipelines; and, refinery capacity additions or facility expansions.

Utilize an Expediter. The state should also consider a Wilson Administration-type Red Team (expediter) approach enabling the governor to bring state resources to bear quickly to facilitate permits addressing any critical energy infrastructure needs. We also support the CEC’s recommendation to study product flows and bottlenecks in the system and to recommend solutions.

Eliminate Duplicative, Overlapping and Conflicting Regulations. (state vs. local, agency vs. agency, state vs. feds) The state should pursue opportunities to eliminate overlapping, conflicting and duplicative regulatory processes that simply add cost without adding value to environmental protection. This can be done without sacrificing environmental standards, or diminishing local control over land use decisions that affect community values.

In Conclusion, I want to emphasize our industry’s core position. Reasonable energy costs and a supportive political atmosphere for business growth and manufacturing investments will drive California’s future economic success. Our state needs an integrated, market-based approach to its transportation energy future, not a government-driven, mandated and subsidized scheme that eats private and public resources and ultimately results in higher consumer costs. We want to work with you to eliminate the barriers to success.

WSPA
As Delivered
Dec. 10, 2003

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