Diesel's Unintended Spillover

Its upward influence on oil prices is felt everywhere

Want to know why oil is hovering around $130 a barrel? A big but overlooked factor is the tight market for diesel fuel, now averaging $4.72 a gallon at pumps in the U.S.

Diesel is in strong demand partly because China is using more to run factories and generate power. Most recently, the Sichuan earthquake has increased the use of diesel generators. Meanwhile, more cars in Europe are running on diesel. And in both the U.S. and Europe, tighter sulfur standards have reduced the amount of diesel that can be produced from a barrel of crude.

The result: Refiners are fighting over crude supplies even at today's high prices because they can still make plenty of money by turning the crude into sought-after diesel. As of May 27, a barrel of diesel was going for about $32 more than a barrel of Light Louisiana Sweet crude oil, according to Platts, the energy and metals information unit of The McGraw-Hill Companies (MHP). In contrast, gasoline is plentiful, so the price spread for gasoline over crude was just $6. "The diesel is in control," says John Kingston, director of oil for Platts.

The ethanol boom is the strangest factor in the tight diesel market. Refiners don't need to produce as much gasoline now that they're blending lots of ethanol into it. Less gasoline makes for less hydrogen, which is a by-product of gasoline refining. So there's less hydrogen to use in producing low-sulfur diesel, says Phil Verleger, head of the PKVerleger consulting firm in Aspen, Colo. One more example of the law of unintended consequences.

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