The average price of unleaded gasoline in the US has quietly climbed above $4 per gallon. Exxon Mobil Corp (XOM.US) and Chevron Corp (CVX.US) warned this week that global supplies of diesel and other refined products are likely to remain tight, pushing prices higher and keeping them elevated for months. Both companies reported a sharp surge in second-quarter refining profits on Friday.
Currently, global refining capacity is in a state of extreme shortage, driven by disruptions from war in the Middle East and Russia, coupled with depleting fuel inventories. According to Melius Research, nearly 10% of the world's crude refining capacity is effectively paralyzed due to the near-total closure of the Strait of Hormuz, ongoing Ukrainian attacks on Russian refineries, and export bans from China. Consequently, major refineries are operating at full capacity to meet demand, meaning they cannot produce more fuel even if crude oil is available for processing.
This situation has pushed refining margins to record highs, benefiting refinery owners while raising costs for consumers. Exxon Mobil's refinery on the US Gulf Coast operated at 95% capacity in the second quarter, while Chevron's US refineries ran at 97% during the same period. Exxon Mobil CEO Darren Woods stated on the company's earnings call, "I have never seen available capacity so low relative to demand as it is today. It will take the industry a considerable amount of time to get out of this situation."
Exxon Mobil CFO Neil Hansen noted that the biggest bottleneck in the oil market is not necessarily the blockage of oil transport through the Strait of Hormuz, but rather the global scarcity of refining capacity. "The available refining capacity is at the lowest level we have ever seen," Hansen said, mainly due to market dynamics outside the Strait of Hormuz. "This is truly driving record refining margins." Exxon Mobil reported its highest quarterly diesel production since 2014, with its refining division earning $5.5 billion, sharply up from $1.4 billion in the same period last year.
Chevron CEO Mike Wirth pointed out on the company's earnings call that markets for intermediate refined products, including diesel, jet fuel, and heating oil, could tighten further as Northern Hemisphere countries build heating oil inventories before winter. "I think we will see some upward pressure on refined product prices entering the third quarter and beyond," Wirth said.
Rob Thummel, senior portfolio manager at Tortoise Capital Advisors, wrote in a report that gasoline prices are beginning to decouple from crude oil prices and are instead trading based on inventory levels. Refined product inventories "are approaching historical lows," Thummel said. "Gasoline prices are less influenced by changes in crude oil prices and more by changes in inventory levels."
Where to start
In recent months of macroeconomic discussion, markets have been accustomed to using international crude oil prices as a "barometer" for judging US inflation trends. However, as global refining capacity enters a structurally tight phase, a more insidious and damaging mechanism is forming behind the record profits of refining giants like Exxon Mobil and Chevron: high refining margins are replacing crude oil prices as the dominant force pushing up US terminal inflation.
Traditional logic suggests that if crude oil supply remains stable, terminal gas station prices will follow suit. Yet, the current market fault line lies in the "refining bottleneck." Due to geopolitical conflicts blocking shipping lanes, Ukrainian attacks on refineries, and export bans from some countries, nearly 10% of global refining capacity is paralyzed. Even if crude oil prices remain stable or decline slightly, extremely high crack spreads still push the terminal retail prices of gasoline and diesel to elevated levels. This means that even if the government injects crude oil into the market by releasing the Strategic Petroleum Reserve (SPR), it cannot solve the physical bottleneck of "lacking enough refineries to process it into fuel." The disconnect between crude oil supply and refined product supply gives terminal fuel prices strong downward stickiness.
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For US inflation, gasoline prices directly affect consumer perception, but the high margins and extremely low inventories of diesel and intermediate refined products pose a more severe "secondary transmission" threat to the overall economy. Diesel is the "lifeblood" of heavy trucks, rail transport, and agricultural machinery. When refineries push diesel margins to historical highs, the fulfillment costs of transport companies surge, quickly transferring to retailers and agricultural suppliers in the form of "fuel surcharges," which then feed into terminal food and consumer goods prices. Jet fuel shortages drive up airfares, and heating oil continues to rise during the autumn and winter restocking period, directly pulling up service sector inflation. Even if some core goods prices decline due to supply chain repairs, high energy logistics costs continue to compress the room for decline.
The Fed's Decision Dilemma
The "fuel premium" brought by high refining margins significantly increases the difficulty for the Federal Reserve to achieve its 2% inflation target. High gasoline prices are the most easily perceived economic indicator for the public. Persistently high oil prices can easily raise residents' long-term inflation expectations, triggering the risk of a wage-price spiral. In the "last mile" of fighting inflation, the sustained positive pull of the energy component on the CPI will force the Fed to maintain a more hawkish stance, delaying the timing of rate cuts or slowing the pace of easing, thereby exacerbating the Fed's policy trade-off between "preventing inflation" and "stabilizing growth."
The current high profitability in the refining industry is not a simple short-term phenomenon; it reveals deep-seated contradictions between insufficient investment in refining infrastructure amidst the global energy transition and intertwined geopolitical shocks. As long as refining capacity supply cannot be quickly unleashed, high refining margins will persist as a form of "hidden tax," permeating every level of the US economy. This also means that US inflation management is no longer just about watching crude oil supply; it must also bear the test of long-term stickiness from the refining end.
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