The Price at the Pump:
What Does Oil Really Cost?

By Mark Engler

To the teacher:

In many parts of the country, a gallon of gas now costs over four dollars - a major increase over the two or three dollars per gallon Americans have usually paid over the past decade. For many American families, this cost represents a considerable burden. Reuters reports, "the average U.S. household will spend $825 more for gasoline this year." Oil prices are likely to continue rising in the long-term.

Meanwhile, some environmentalists and public interest advocates argue that the price at the pump - even at its current historically high levels - dramatically understates the true cost of oil for our society.

The lesson below is designed to engage students in the public debate about rising gas prices and about what should be done to address them. It also invites students to think about the hidden costs of oil for society.

The lesson consists of two student readings, with questions for class discussion. The first reading focuses on the reasons for rising gas prices and on how various public officials have proposed responding to them. The second reading takes a deeper look at the social and environmental costs of oil.

Following the first lesson is an internet exercise aimed at encouraging further inquiry.

Student Reading 1:
Gas Prices on the Rise

Gasoline prices are on the rise. In many parts of the country, a gallon of gas now costs over four dollars-a major increase over the two or three dollars per gallon Americans have usually paid over the past decade. For many American families, especially those hit hard by the economic recession, this cost represents a considerable burden. Reuters reports, "the average U.S. household will spend $825 more for gasoline this year." (http://www.reuters.com/article/2011/04/13/uk-eia-monthly-summer-idUSLNE73C02O20110413)

Some economists have blamed temporary factors for the rising prices, pointing to recent political unrest in the Middle East and Northern Africa. Others cite a weak U.S. dollar and the rising price of gold (which has historically been connected to rising gas prices). Short-term factors such as these did contribute to a similar spike in gas prices in 2008. But none of these explanations can account for the long-term trend of increasing costs.

As recently as the mid-1990s, gasoline could be purchased for as little as 99 cents per gallon in some parts of the country. The price increase since then is part of a long-term phenomenon. The gas we put in our cars is a highly refined form of petroleum. Like other fossil fuels, petroleum (or crude oil) exists in underground deposits that must be drilled and pumped to obtain the substance. These deposits are in limited supply around the world. Even as the world population continues to grow and more and more people come to rely on petroleum for transportation and other energy needs, this supply will continue to dwindle. While it is possible that some new reserves will be found, it is unlikely that production will be able to keep up with swiftly increasing demand.

As an April 2011 report from the International Monetary Fund states, "The persistent increase in oil prices over the past decade suggests that global oil markets have entered a period of increased scarcity. Given the expected rapid growth in oil demand in emerging market economies and a downshift in the trend growth of oil supply, a return to abundance is unlikely in the near term." (http://www.imf.org/external/pubs/ft/weo/2011/01/pdf/c3.pdf)

Many conservatives say the U.S. should do more offshore drilling, which they argue would bring down the price of oil, at least in this country. Offshore drilling involves tapping underwater oil reserves off the U.S. coastline. Conservatives also argue for opening up the Arctic National Wildlife Reserve for drilling. The Heritage Foundation, an influential conservative thinktank, is a strong advocate of both of these options. In a recent report on "What to Do About High Oil Prices," two Heritage analysts, Nicolas Loris and John Ligon, write:

At least 19 billion barrels of easily recoverable oil lie off the currently restricted Pacific and Atlantic coasts and the eastern Gulf of Mexico. Another 19 billion barrels estimated to be in the Chukchi Sea off the Alaskan coast are inaccessible because of onerous regulations, such as acquiring air-quality permits…. Another obvious and senseless restriction is in the Arctic National Wildlife Refuge [ANWR], where an estimated 10 billion barrels of oil lie beneath a few thousand acres that can be accessed with minimal environmental impact. Those 10 billion barrels are equivalent to 16 years' worth of imports from Saudi Arabia at the current rate (http://www.heritage.org/research/reports/2011/03/what-to-do-about-high-oil-prices)

However, environmentalists counter that both these moves would have a devastating impact. The dangers of offshore drilling were dramatically demonstrated by the BP oil spill last year. The spill released over 200 million gallons of oil into the Gulf of Mexico between April and July 2010, causing extensive damage to gulf-region wildlife and crippling local industries such as fishing. Likewise, Time magazine reported in 2001, when debates about the Arctic National Wildlife Refuge also made headlines, "Environmentalists and most congressional Democrats have resisted drilling in the area because the required network of oil platforms, pipelines, roads and support facilities, not to mention the threat of foul spills, would play havoc on wildlife. The coastal plain, for example, is a calving home for some 129,000 caribou." (http://www.time.com/time/columnist/waller/article/0,9565,170983,00.html#ixzz1K5jhxVeM)

Environmentalists stress that our dwindling supply of fossil fuels will only become more difficult, expensive, and environmentally destructive to extract. And they'll always be dirty to burn and contribute to global warming. The only true solution is to conserve energy and to invest in developing cleaner, more renewable energy sources. As the National Resources Defense Council concludes: (http://www.nrdc.org/energy/gasprices/)

The United States consumes 19 million barrels of oil a day, 25 percent of the global supply, but we have less than 2 percent of the world's proved oil reserves. That means no amount of domestic drilling will reduce gas prices or provide enough to meet America's daily demand for oil. The only solution: develop better cars and cleaner, safer sources of fuel. By 2025, we can reduce our reliance on oil through increased efficiency, transit, and alternative fuels, saving more oil than we can drill.

For discussion

1. What questions do students have about the reading? How might they be answered?

2. How many of the students in the class have noticed increasing gas prices, either in the news or at a local gas station?

3. Have rising gas prices been a topic of discussion in your household? Do you think that this might be a significant financial burden for your family?

4. Are there any advantages to high gas prices?

5. What are some possible explanations for increasing gas prices? How are short-term explanations different from long-term explanations for rising prices?

6. What are some of the different responses to rising gas prices that have been proposed by conservatives or by environmentalists? Which do you think are the best options?

Internet exercise:
How much do you pay?

Ask students to visit the website gasbuddy.com (http://gasbuddy.com/gb_retail_price_chart.aspx), or a similar website. Ask them to generate charts of gas prices in their area over the past five years and compare them to the national average, as well as to prices in other parts of the United States.

Then ask students to answer the following questions:

1. What was the price of gas five years ago in your area?

2. If you used 40 gallons of gas per month, how much would you have spent five years ago compared to now?

3. Choose a city or state in another part of the country and compare gas prices in your area with prices there. Is gas more or less expensive in your area? What do you think might contribute to the difference?

Student Reading 2:
The Hidden Costs of Oil

Even as gas prices creep upwards, some environmentalists and public interest advocates argue that the prices we currently pay at the pump dramatically understate the true cost of oil to our society.

The use of gas has social and environmental costs that are not reflected in the prices at the gas station. Economists use the term "externalities" to describe these costs. If a factory has found a way to dump its waste into a local river without being fined, it has "externalized" the costs of waste disposal. While the cost of this dumping might not be reflected on the price tags of the factory's products, the public ends up paying for this externality in a different way - by having to live with polluted water and its effects, or paying for its cleanup with their tax dollars.

Some of the costs of oil have been externalized as well. How?

1) Military expenditures

The United States has long deployed military forces to the Middle East and has waged several wars in the region, at least in part to ensure stable oil imports into this country. These military costs are not included at the pump.

As long ago as 1987, when a gallon of gas could still be purchased for less than a dollar, a New York Times editorial raised this issue. The newspaper's editors argued that "in light of the administration's willingness to risk lives and dollars in the defense of oil from the Persian Gulf… the real cost of oil should include the cost of the military forces protecting supplies." The title of the editorial was "The Real Cost of Gas: $5 a Gallon." (http://www.nytimes.com/1987/08/13/opinion/the-real-cost-of-gas-5-a-gallon.html)

The New York Times estimate was made before both the Gulf War of 1990 and the current war in Iraq that started in 2003. In the spring of 2010, Anita Dancs, an economist with the Center for Popular Economics, attempted to provide a more recent estimate of how military costs might affect the true cost of oil. She argued that "energy security, according to national security documents, is a vital national interest and has been incorporated into military objectives and strategies for more than half a century." Carefully breaking down the U.S. military budget, she concluded that "we will pay $90 billion this year to secure oil. If spending on the Iraq War is included, the total rises to $166 billion." (http://www.globalresearch.ca/index.php?context=va&aid=19286)

Although we don't usually consider these costs when we fill up at the gas station, we must pay for them with taxes. That many troops have lost their lives in the Middle East adds another, incalculable, cost to the price of oil.

2) Environmental and health impact

Oil spills and leaks can have a drastic effect on the environment and on those who depend on the environmental stability of a given region (such as the Gulf of Mexico) for their livelihoods. Moreover, burning oil is a leading source of greenhouse gas emissions and is contributing to long-term climate change, which has huge costs.

Burning gas also has costly health effects. For instance, fuel-burning contributes to smog, which causes respiratory illnesses like asthma. This creates a financial burden on the healthcare system.

In a June 2010 article in Newsweek, journalist Ezra Klein wrote:

Gasoline has so many hidden costs that there's a cottage industry devoted to tallying them up. At least the ones that can be tallied up.

Topping that list is air pollution, which we breathe whether or not we drive. Then there's climate change, which is difficult to give a price tag because it involves calculations like how much your great-grandchild's climate is worth; traffic congestion and accidents, which harm drivers and nondrivers alike; and the cost of basing our transportation economy atop a resource that undergoes wild price swings.

Some of the best work on this subject has been done by Ian Parry, a senior fellow at Resources for the Future. His calculations suggest that adding all the quantifiable costs into the price of oil would increase the cost of each gallon by about $1.23. If you're very worried about global warming, kick that up to $1.88.
(http://www.newsweek.com/2010/06/13/how-much-does-a-gallon-of-gas-cost.html)

If Perry's calculation is correct, it would raise the current average price of a gallon of gas in the U.S. to $5.84. However, other efforts to calculate the true cost of oil to society have come up with even higher estimates. One report, produced by the International Center for Technology Assessment back in 1998, suggests that, if all hidden costs were factored in, a gallon of gas could be priced as high as $15. (http://www.icta.org/press/release.cfm?news_id=12)

Most people depend on gas or oil to keep their homes warm - and on their gas-fueled cars to get them to work. High oil prices are already forcing some hard-pressed families into a budget crisis.

On the other hand, public policies - such as building inexpensive or free public transit systems allowing people to commute without cars - could help us drastically cut our fuel consumption with a minimum of pain. "Internalizing" the costs of oil might also lead to demands for more gas-efficient cars and for increased investment in renewable forms of energy.

What's more, Americans waste huge amounts of fuel. With such high prices at the gas station, we would expect people to think more carefully about their decisions to consume oil. If oil prices reflected the true cost of oil, many people might change their habits in a positive way, such as walking instead of driving short distances or taking public transit if it's available.

For discussion

1. What questions do students have about the readings? How might they be answered?

2. What do economists mean when they talk about "externalities"?

3. Do you think that military costs should be factored into price of a gallon of gasoline?

4. What are some of the other hidden costs of oil that are mentioned in the article?

5. Can you think of some other externalities not mentioned in the reading?

6. Some argue that oil has positive externalities as well as negative ones-that it has not only hidden costs, but also hidden benefits. Can you think of any benefits of oil that are not factored into its cost?

7. If some of the hidden costs of oil were included in the price we pay at the gas station, do you think it would change how people behave? Do you think that it would result in different public policies? How? How do you think oil companies might respond?

8. Some have argued for a "gas tax" that would begin to bring the cost of gas closer to its real cost. The aim of the tax would be to encourage people to conserve or buy more fuel-efficient cars, and also to generate revenue. Would you support such a tax? If so, would you argue for mitigating the effects of such a tax on people with low incomes or whose jobs or businesses require high fuel use? How?

This lesson was written for TeachableMoment.Org by Mark Engler with research assistance by Eric Augenbraun.

We welcome your comments. Please email them to: lmcclure@morningsidecenter.org.

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