California's governor looks to regulate gasoline price shocks during the energy transition period

California governor Gavin Newsom put forth a proposal authorizing the California Energy Commission (CEC) to require the state's nine refineries to maintain a minimum fuel reserve to avoid supply shortages and prevent the gasoline pump price spikes seen in 2023, providing a supply cushion during the state's energy transition period toward electric vehicles.

"Price spikes at the pump are profit spikes for Big Oil. Refiners should be required to plan ahead and backfill supplies to keep prices stable, instead of playing games to earn even more profits. By making refiners act responsibly and maintain a gas reserve, Californians would save money at the pump every year," Newsom said in his Aug. 15 statement.

Under Newsom's proposal, California refiners would have to share resupply plans with the CEC to show they have ample supplies to counter production loss during times of refinery maintenance. It would give the CEC authorization to force refiners to maintain enough fuel inventory to keep supplies stable, and impose penalties on refiners who do not follow these requirements.

Earlier this year, the state's Division of Petroleum Market Insight sent the Governor a letter outlining the role low inventories played in price spikes, but did not provide any storage volume requirement guidance.

Newsom's proposal comes on the heels of a very comprehensive state transportation fuel assessment study by the CEC which took a deep dive into California's refined product markets and supply.

The Transportation Fuels Assessment report, released earlier in August is a leading component of SB X1-2, the California Gas Price Gouging and Transparency Act which took effect in June 2023.

The study came up with several possible solutions to address the state's continued gasoline demand drop as the use of ZEV (zero emission vehicles) increases, which, under the most radical scenario for gasoline production from the state's refineries, could leave the state with one or no refineries by 2044.

The proposed solutions ranged from state-takeovers of refineries and securing Jones Act Tankers to storage options, including requiring refiners and terminals to maintain contingency reserves of gasoline in order to release minimum requirements to supply the market during supply shortages.

A second storage-related option outlined in the report was to establish state-owned product reserves in the North and South Regions to allow rapid deployment of fuel when needed by leasing tankage at closed refineries to hold gasoline in reserve in the event of supply shortages. However, the report noted that current possibilities at two Northern California refineries recently converted to renewables production in Martinez and Rodeo plan to use their tankage for renewables storage.

Refiners find California challenging and expensive

Refiners operating in California universally agree that the state is a hard place for them to operate because the cost of business is high and the refining economics marginal.

"When you think about our portfolio, the West Coast clearly is the highest cost region we operate in...just by virtue of everything that goes on in the West Coast," said Lane Riggs, Valero's CEO on the company's Q2 results call on Aug. 1.

One of the reasons California's gasoline supplies are limited is that the state is considered an "island" in terms of importing gasoline from other parts of the US. California uses a cleaner burning gasoline grade called CARBOB, which is not widely available in other parts of the US, although that is changing.

"Referring to CARBOB as such a unique and difficult-to-produce fuel is a bit anachronistic," said Robert Auers, manager of refined fuels at RBN Energy and analyst with Refined Fuel Analytics in an Aug. 14 email.

He said that new cleaner federal gasoline regulations like MSAT2 (Mobile Source Air Toxics), which restricts benzene concentrations, and Tier 3, which reduces sulfur, brings the CARBOB spec closer to other fuels including some RBOB and CBOB formulations with strict RVP requirements, including East Texas CBOB and Arizona's AZRBOB, although the CARBOB reporting and certification remains unique.

However, Auers said that a California refinery "that now barely breaks even (or even loses money) during 'normal' conditions, but still makes money due to the occasional price spike may close if these price spikes are removed or mitigated."

Auers said that the stock minimums for refineries and terminals are likely to be ineffective. If the minimum is set too low it would have minimal impact on actual inventories and could be incredibly costly, leading to increased consumer costs and possibly accelerated refinery closures.

"Also, refineries generally do not have significant excess terminal capacity. The capacity they have is necessary for their operations, so there's limited ability to effectively set minimum gasoline storage levels that provide an actual supply cushion at refineries without negatively impacting their operations," he said, adding that California's terminaling capacity is also tight.