How is the price of gasoline and diesel formed?

Many of the "solutions" to the problem of high fuel prices offered in the public space leave the feeling that the latter is either not understood or is being used as a convenient platform for populist declarations.

Many of the “solutions” to the problem of high fuel prices offered in the public space leave the feeling that the latter is either not understood or is being used as a convenient platform for populist declarations. The truth is that in the current economic situation, no one has any interest in the price of gasoline and diesel fuel remaining at these high levels, let alone hitting three leva. More and more consumers are deciding to keep the three leva in their pockets, the reduced demand is hitting producers, and the state, deprived of the opportunity to influence the price by reducing the excise tax, is trying to buy time, hoping that the problem will disappear by itself. Somewhat paradoxical, but this is also the only possible approach in this case.

How is the final price of fuel formed?

Fuel prices in (given as of May 25, 2012) are a function of many objective and subjective internal and external factors. As of May 25, 2012, things in Bulgaria look like this:

Chart 1: Components of the final price of gasoline and diesel fuel, %

Source: Europe's Energy Portal

Let's look at the components one by one:

• The price of the raw material is the leading objective factor. For gasoline, the price of the raw material forms 40% of the final price, and for diesel - 39%. At the moment, the main driver of the increase in the price of the raw material is the unstable geopolitical situation. Oil is traded extremely actively on the futures markets, and the peculiarities of its logistics, transport and storage suggest sensitivity to even the slightest suspicion of disruption in production, consumption and supply chains. At the same time, the slowdown in the already anemic growth of the world economy is exerting downward pressure. However, to date, the price of the raw material remains too high for the weakening economy of our country. With a price of A95 gasoline of 2.52 leva per liter as of May 25, 2012, the price of the raw material forms 1.01 leva of the final price for gasoline and diesel.

• Excise duties, VAT and environmental taxes– As part of the European Union, our state is obliged to comply with the established minimum excise duty thresholds on gasoline (710 leva per 1000 liters) and diesel (630 leva per 1000 liters, 645 leva since 2013). In total, excise duties, taxes and environmental taxes form 45% of the price of gasoline and 41% of the price of diesel. As of January 1, 2012, a mandatory 5% bio-component in diesel fuel was introduced, and its excise duty increased by 2.5%. Moreover, a new phased increase in the minimum excise duty thresholds at the European level is still being prepared, so that they correspond to the energy content and environmental damage of fuels. This increase will directly affect the price of fuel in our country, since, as we have already mentioned, the excise duty in Bulgaria is at the currently established minimum. With a price of A95 gasoline of 2.52 BGN per liter as of May 25, 2012, excise duties, environmental taxes and VAT form a total of 1.13 BGN of the final price of gasoline and 1.06 BGN of the final price of diesel.

• Costs of production, storage, transport, distribution and profit for producers and intermediaries– As of May 25, 2012, these costs form only 15% of the final price of gasoline and 20% of the final price of diesel at the pumps. This is in practice the price buffer through which producers can try to maintain consumer demand – by optimizing the costs related to the production process, storage and distribution or by reducing profits. With a price of A95 gasoline of 2.52 leva per liter as of May 25, 2012, the costs of production, storage, transport, distribution and pelabcha form a total of 38 cents. of the final price for gasoline and 52 cents. for gasoline.

Somewhere in these 38 and 52 cents for gasoline and diesel, respectively, along with all the other costs, is buried the "cartel" we've been hearing about since the beginning of the year.

Another important factor that influences the price of fuel in Bulgaria is the exchange rate of the euro to the US dollar. International oil prices are quoted in US dollars. Therefore, prices on our domestic market are influenced by the exchange rate of the euro to the dollar. During the previous increase in the price of the raw material in 2008, one euro was exchanged for nearly 1.60 dollars, and currently the exchange rate fluctuates around 1.25 dollars per euro. The increase in the price of oil in dollars over the past year, combined with the weak euro, raise prices for European (including Bulgarian) markets.

Comparison between Bulgaria and Europe.

The protests against high fuel prices in our country are justified to the extent that they are a logical and understandable reaction against the background of low incomes in the country, compared to those in the rest of the EU. As can be seen from the attached graphs, however, the final fuel prices in Bulgaria are significantly lower than those in the rest of the EU. Moreover, the only ones who pay less than us for gasoline are the Estonians, where gasoline is 1 euro cent cheaper.

Diesel fuel costs less in three countries – Estonia (5 euro cents), Luxembourg (8 euro cents) and Poland (1 euro cent). Prices in Spain, Slovenia and Romania are at our level. In all these countries, as well as in Bulgaria, fuel prices are significantly lower than the EU average.

Chart 2: Diesel and gasoline prices as of April 20, 2012

Source: Europe's Energy Portal

Is there really a solution?

The state can do very little to influence fuel prices, and it is good that this is understood by Bulgarian citizens. Otherwise, there is a danger that our public will become a victim of cheap populist slogans and campaigns.

Theoretically, the state could subsidize producers and traders in order to reduce prices, but this would be state aid for a specific sector, which is generally not permissible in the EU. Considering that we cannot raise excise duty, prices cannot fall without raising VAT on fuels, which is an extremely risky move given the budget in the red and the appetites of a number of industries to jump and in turn demand tax breaks.

The only adequate move that has already been taken is to guarantee free competition in the fuel market. The CPC has already issued its opinion on the existence of a cartel, and the resistance of producers at this stage seems minimal. Cartel or not, however, and no matter how we look at the ratio of the individual components of the fuel price, the pennies that make Bulgarians' pockets lighter due to the shortcomings of the domestic market are most likely yellow. The problem with fuel prices is simply bigger than us. As part of the European Union, the only thing we can do is to continue rolling our stone up the hill at the pace of others around us. Another question is why a poor country like Bulgaria should exercise a common excise policy with the countries of the previously carefree "club of the rich".

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The material is an expanded and updated version of the article “Gasoline is not expensive for us, our pockets are shallow”, written by Yavor Aleksiev for the weekly bulletin of the Institute for Market Economics (IME) on April 20, 2012. The original material is available on the IME website. The article was also published in the newspapers “Standart”, “Dnevnik” and “Republika”.

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