California Fuel Supply At Risk | Here's Why

A number of California refineries are issuing warnings to the state, saying the new regulations with CARB to cap and invest could actually put them out of business. Our guest today is Jody Muller, who represents this industry. Today she's here to tell us what's going on with refineries. We also talked to Skip York to kind of get a feel for what's happening with the Middle East conflict and how it's impacting California as now we're importing more gasoline. I'm Siamak. Welcome to California Insider. Jody, it's great to have you on. Welcome. Oh, thank you so much for having me. You are the voice and representative for refineries in California, and recently a number of refineries are complaining that things might get tougher for them. Can you tell us what's happening with refineries right now and why they're complaining? There have been decades of policies layered on top of each other from really all levels of government. So local, regional, and state that have all come together to really create the situation that we're in right now. So I wouldn't say that it's necessarily one policy right now that we're battling. It's that this is just kind of the straw that broke the camel's back. And companies are really starting to see in this season of affordability, it's tough to make money and they're not seeing a return on their investment. So they're having to make some tough business choices because of policies that are out there, knowing huge costs will be involved, and deciding whether California is really a state where they can operate and continue to supply the market that still has a very strong demand. What are these policies and how much would they cost? What does it look like right now? Why is now such a critical time for your space? Right now the industry is facing a cap and invest policy that the legislature passed a bill last September and now it's going to the California Air Resources Board. So they're the ones who actually put the regulation together. So the details that everyone will have to comply with, that was put out, the regulation, proposed regulation, I should say, and they'll be hearing that in May. We had some analysis done and a very conservative analysis is it will cost the industry five to nine billion dollars over the next 10 years. So this is on top of all of the other regulatory programs, not only at the state and local level, like I said, but also even federally. There are programs that everyone complies with, you know, to clean up the environment, to have the cleanest burning gasoline in the world, and now they're asking them to take this extra step that really companies are saying, you know, California doesn't seem to be open for business anymore. As someone reporting on California's economy and policies every week, unfortunately I see the middle class shrinking in California. 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Make sure to text KALI to 65532. Beat the system and protect your wealth with something real today. What does this extra step look like? Is it $5 to $9 billion of projects to fix your refinery, or is it to pay into some programs, like how cap-and-trade used to work, where we're funding some other programs that are green initiatives? Right, so it is the same cap-and-trade program. This was an extension that was put forward and voted on in September. So they've renamed it cap-and-invest, but it's the same cap-and-trade program. So these companies will be paying in for the credits in order to operate their operations here. And then those dollars that come in through the auctions for what's called the GGRF, Greenhouse Gas Reduction Fund, go to fund a number of different programs across the state. One of them is a bullet train. 25% is going to the bullet train and some other projects, right? Yes, that's correct. That is one of them. Is this something new, or is it on top of what it was, or is it just a continuation of the same program? Right, so it is a continuation of the same program, but what it does is it decreases the number of credits that are available over a timeline. So you see, again, we did the analysis over a 10-year period, what that impact is at that point. So if you're upgrading your facility and you need to have these credits that you can purchase so that then you can make the upgrades that are needed, and typically those are environmental upgrades that everyone supports and wants to see happen. They have to buy the credits in order to get this accomplished. There will be less and less of those available over time. They will also, because there's less, it's an auction that takes place. The cost will go up. The cost will go up. So we've seen it, you know, there was some uncertainty over the last year or two because they weren't sure if they were going to extend the program. So the auctions weren't bringing in as much money. The state obviously would love to see a very robust program of bringing in that GGRF funding to fund all these programs that benefit from it. But over time, it is designed, that's where the cap comes in, it is designed to decreasingly go down. So essentially what you're saying is the five to nine billion will be on top of the previous cap and trade. Yes, that five to billion that was analyzed was this new proposal. So this new extension of the program. So that didn't even account for what we are already paying. Right, so we're already seeing in the marketplace in California about, I think it was $1.31 was the most recent that I've seen between taxes and that state and federal cap and trade program, cap and previous one, the low carbon fuel standard, as well as a few other environmental fee programs, about $1.31 every gallon goes to those programs and those taxes. How much will this increase the gas prices cost? Are there any studies? Yeah, we've seen and heard a lot of different numbers. It's hard to say because it really does impact kind of their operations internally. Some of that really doesn't get passed on. So that's something that these businesses absorb. Some of it through just these programs are just a natural extension of the cap and trade program that we've had previously and does add a cost to the bottom line. So I don't know, I think, you know, time will tell, but in an environment like we're in right now where gas prices are very high, consumers don't want to see even a penny more. Do you think this will lead some of your members to leave California? We already had two that left, one last year and one this year. Do you think more could leave if this program goes through? I am fearful that that's the situation we will be in. Like you mentioned, we, as of next week, I believe when Valero officially fully shuts down in the Bay Area, we will have six refineries in the state, four in Southern California, two in the Bay Area. And I do think that those companies that operate those six refineries will have to make some tough decisions and we could see more. What's the impact of that for us, for our gasoline? Would we get them from other countries? How would that work? You know, our companies are committed to supplying the marketplace and that's the piece of this that is frustrating because the demand is not going down demonstrably. So, you know, I saw some data recently from Professor Miche at USC over the last five years, it's gone down about one percent every year for the last five years. So really a strong demand that we're still seeing and that's for gasoline. Diesel remains strong as well. Jet fuel is actually, the demand is actually going up. So we're in this marketplace where you have this demand, where is that supply going to come from? So when you see a constrained market like we're in right now, where unfortunately worldwide we are in really a geopolitical situation that is leading to a more constrained supply situation, it impacts California who already has a constrained supply in state. When we used to produce 75 percent of the fuel that we demanded here as consumers in California, it's now down to about 25 percent. So it leaves us vulnerable to others to fill that gap. So we only produce 25 percent of our fuel? That's correct. Is that the gas, jet fuel? So that's actually the crude oil coming out of the ground, so the Central Valley where we're producing and getting the crude oil, drilling for oil. Many of the refineries in California were designed for that very specific Central Valley crude oil. So they need that to process or they have to find a crude oil in the marketplace that's similar. And there are different variations of crude oil across the world. So they have to look for something to make it up. So again, that's kind of where we've moved away from producing that in-house, which then means the refineries have to look for new supply. We are supplying the marketplace with 37 million gallons of gasoline. It's about seven million gallons of diesel and one to two million gallons of jet fuel daily in California. So we are doing that. But it isn't necessarily refined here. So there is refined product coming into California from other sources. So there is an element of this that's actually the crude side, the oil, the starting material, which we have stopped a lot of drilling here, right? Yes. And you're mentioning only 25 percent is coming from California. Why is that? There have been a lack of permits being put forward and approved again at the state level, at some local municipalities, at some of the regional governments that have really stopped the permitting from moving forward. Companies have made business decisions based on that availability and ability to go out and get active wells drilled. They've made business decisions to leave the state. There was recently a state change in the state reaction to this, and they're allowing 2,000 wells in Kern County. Is that going to change the equation or is that just going to replace what we have? Because I know that we need to keep putting new wells in to continue producing. Correct. It's a baby step. So very small step in the right direction. But it really only, from my understanding, puts us back up to kind of close to pre-COVID levels. So it really doesn't focus in on what level we would need to get to say to supply 50 percent of the market or even back up to that 75 percent from years ago. When was it that we were doing 75 percent? It was about 25 years ago. Do you think the state is looking to completely outsource this and just get the gas and finished products from other countries? There are people in our industry that are very concerned that that is kind of the route that the state is looking to become a fully import model here, where you are relying upon, whether that's other states or other countries, for your fuel. Can you paint a picture of that? So how would it look like if we're getting it from other countries? How would it look like if we're getting it from other states? Right now, California does not have any pipelines that bring fuel into California, refined fuel, so ready to go into the marketplace. There's conversations about potential pipelines and maybe changing that dynamic. But right now, we are what we call a fuel island because we only have fuel that goes out. We don't have it that comes in. So coming in from another state would have to be by ship. If it comes from the Gulf, it would have to go through the Panama Canal. Alaska, maybe even the state of Washington, they have some refineries up there where they're bringing it down. So there are some states that can provide our very specific fuel blend. The majority of it, though, comes from my understanding from Asia. So they are taking, you know, right now, a 30-ish day journey across the Pacific to then provide the marketplace with the fuels they need. What about the pipeline? So if there is a pipeline, there's talks about a pipeline coming from Texas. How real is that? We hear the same headlines and I think we really welcome conversations and ideas. The problem is it's not immediate. And you have to get permits, again, which I think every industry feels are very difficult. And that's a large hill to climb in California to get permits for any project. So you have permits, you have just the whole construction of whatever is needed because from my understanding what they've been talking about, the entire pipeline, they would actually have to construct part of that. So it's not something that's going to be immediate solution. So you mentioned some people wouldn't mind if we import everything, but we're going to lose the cap and trade, all these programs, the funding. Yeah, I think, you know, the legislature and the state really enjoys that fund of dollar. I mean, it really helps them balance the budget. It helps put dollars into programs that they really have put support behind. So it's a concern if you don't have a viable cap and invest program, whether it's cap and trade, cap and invest, you will eventually run out of the DGRF. Is the concern with your industry, is it more pollution in California or is it the climate change? Like what are the concerning thoughts that people have when they come to regulate your industry? California has the burning gasoline in the world. And I always tell people, if you are a true environmentalist, you should want it refined here in the state of California, where we have the strictest standards. We also have very high labor standards. Our refineries are union workers, provide good jobs, support the community. There are so many reasons why you should want this refined here in state, beyond just being able to supply the marketplace right here, homegrown. Again, our companies have really made so many strides when it comes to environmental regulations, being good citizens and doing the right thing. So if you're importing from elsewhere where they don't have those standards, where a tanker is coming across the ocean for 30 days, you have to look at the pollution that is involved with that as opposed to refining it right here. And again, with great jobs. Let's talk to Skip York to see what he's seeing as an insider in the oil space and how the Middle East conflict is impacting California oil and gasoline. Can you tell us how you see us getting impacted in California? I think California will be impacted. There's really kind of four ways. One is, you know, Phillips 66 has closed its refinery in Los Angeles, but Valero is going through the process of closing its refinery in Venetia. So refinery capacity is contracting. That means California is going to become more dependent on foreign sources of gasoline. And most of those foreign sources of gasoline were coming from places like India and Korea, which were predominantly buying their crude oil out of the Middle East and the Persian Gulf in particular. So I think California gets impacted with less domestic local refining capacity to make gasoline, which makes them more dependent on sources of refiners that are getting or having their supply impinged on by this crisis. And also that 15% of crude oil supply coming into California is coming out of the Persian Gulf. So those are two impacts. Directly impacting on California's crude supply, while California production continues to decline, and closing refineries, that increases reliance on foreign sources of gasoline. And those foreign sources of gasoline are being negatively impacted by the crisis as well. The fourth factor that's out there is, in the time that we're in right now, is we're heading into the summer driving season. And so the blending composition of gasoline, not just in California, but everywhere in the U.S., is starting to change to a more expensive blend because we have to take butane. In the summertime, we take butane out of the gasoline pool. That makes gasoline manufacturing more expensive. And so all of these supply disruptions for California are happening at the same time that we're having to go to a more expensive blend because we're going to the summer blend. And California, like most states in the United States, consumes more gasoline between May and August than it does between September and April. So California is heading right into, you know, they're front and center on this crisis because they're being impacted directly. And then just sort of the way gasoline works is going to impact California even heavier than it's going to impact gasoline markets in other parts of the U.S. Do you think we could face shortages or do you think the price will go up, spike significant? I think we're going to see, you know, I think the beginning of, you know, that dollar increase we've seen in California, that dollar a gallon increase we've seen in California in the last three weeks, I think it's just the beginning of a trend. And it's just simply going to be an availability issue. The big uncertainty for California is if you're a refiner in India or South Korea that can make California gasoline, that can make carb gasoline, are you now going to choose to not make carb gasoline in favor of making more of other products? So do they re-optimize themselves because I'm limited on how much crude I, if I'm an Indian refiner, I'm limited on how much crude I can get, get my hands on, and I've got local demand issues to meet. Do I actually change the optimization of my refinery to make more of those local demand petroleum products, which means I have less availability to make California gasoline? We don't know the answer to that yet. I mean, the refiner, I am sure the refiners are working through that math right now and they're, they've got, you know, models that they can run, but that could be a real serious issue for California is that even if the Middle East resolves itself, if those refiners pivot away from making carb gasoline to making more conventional gasoline or more jet, more diesel for their local markets, there just isn't an alternative supply for, for California, California consumers, because the California refineries are, you know, we've closed two of the, two of the remaining eight refineries. So the supply is really going to be fairly fixed. And I think you get into that summer driving season, there's only one, the only relief I, you know, I can actually really see is through price. And that's just bad news for California consumers. Right now with the war that's going on in Middle East, getting oil out of there, it's become impossible. Some of those refineries we are getting our gasoline are probably getting their oil from that area. What are your thoughts on what's happening globally? Is this creating a new picture for California? I think this is the first big disruption that we have seen since we've had the cap and invest program was passed. We had two special sessions over the previous two years prior to that, that were very focused on refineries and very punitive towards refineries. We really didn't have any disruptions for quite some time. And I think that there were a lot of people who thought, okay, these policies are working. But those of us that are in the industry just were holding our breath, hoping there wasn't a big disruption that came along and this situation is it. And it shows how precarious our fuel situation is and how dependent we are on this global product and the marketplace. How are policymakers reacting to this? Are you in touch with them? Do they see this as a threat now or are they thinking this is going to get solved and it's not a big deal? We'll figure it out. I think there are a lot who are really concerned and especially when they're seeing gas prices that, again, California has the highest really in the nation before any of this even happened. So they're starting to see their constituents are hurting. They're paying more than they have, several dollars more in some instances. So they're getting very concerned. So they are open to the education that we've been providing about why this is happening and why we should be just even beyond the current geopolitical situation that we're in. It's really a marketplace concern for California going forward. The more and more we depend upon imports, the more we're going to see where if there is any type of disruption, it will impact us much greater than the rest of the country. Do you think it would be more of a shortage problem or do you think it will be more of a price problem? Do you think we could get to a point where we may not have enough or is there's always going to be enough but there is going to be the cost will go up significantly? Yeah, I think there could be a supply problem. Again, demand isn't going down you know by much. Supply, they've been able to really keep it flowing, keep it. But you know, the higher gas prices are a recognition of some supply constraints and it truly is a supply and demand basic economics market for our products. So the more you start relying on getting it from outside of the state, then to me, the bigger problem we're going to have because we are then fighting in the global marketplace for that product. The other piece of this is as you move more and more towards imports, again, we do not have right now, we don't have any pipelines coming into the state. So we are reliant upon basically marine infrastructure and we know our ports are constrained. We know that there are Jones Act issues right now that's been suspended, which is very helpful in getting fuel to the ports where it needs to go, especially in California. But that won't last forever. I mean, that's a temporary pause. So it really is a lot of infrastructure concerns too of how much can the ports handle and then what do we do when they're at max capacity and we can only get so much in through imports but our demand remains high. So you think the infrastructure is not good enough for importing all of our gas and we cannot get there with the current infrastructure? Is that or how much can we get with what we have? Yeah, it's a concern. We actually put a study together several years ago, kind of sounding the alarm about the infrastructure. As we saw this decades of policies layering on top of each other and became concerned even well before any of the situation we're in right now. And we started trying to educate and having conversations and showing why they should be concerned because California truly was self-supporting for so many years. And, you know, with the Central Valley providing the crude into the California refineries, I think there were over 30 refineries 40 years ago. So they had everything they needed. For so long, they were self-sufficient. So they didn't really set up infrastructure to be an import only state. Like there are states out there that don't refine their own fuel when they do rely on others, but they have built infrastructure to then support that. We never did because we didn't need to. With oil, we're only drilling for 25%. If we wanted to have 100%, could we do it? Do we have enough here? Do we have enough here? Absolutely. Could we do it? That's a great question. Because again, it's infrastructure, it's equipment, it is getting set up. It would take time. It would take a lot of effort. It would take the commitment from companies to want to do it. I think the price would have to be right. They have to see that this is going to be economically viable to their company to actually go into drilling. It's an expensive business. It's a dangerous business. They want to have safety top of mind. So there's so many factors that go into it. Is there enough oil in the ground? Absolutely. When that oil, you mentioned 25% of our oil comes from California and the rest is imported. When that 75% is here, how will it impact us? Does the money come here? The money we're paying to these countries, does it come to us? Or does it go to some companies that have operations across the world? It really supports the entire economy of the state of California. Again, there's tax bases that are paid by any operation, any company that's here and operating, they're paying taxes, they're supporting the community. Again, if we are producing and manufacturing our fuels in state, ostensibly, it's going to be cheaper for the marketplace. We will have lower gas prices. So then that benefits everyone. So there's kind of this cascading effect of benefits that everyone would see by producing it here in California. If we had the oil here and we were drilling here, in a situation like this right now with Middle East, the price will stay up, right? Because it's a global market. Would we guarantee that we have the gasoline? How would it look like? You would need more refineries. And, you know, let's be honest, like being left with six when at one point we had 30 and then we had 20. I mean, even five or six years ago, there were over 10. So you have to be able to refine it as well. So you could, yes, get all of the oil out of the ground in the state, but you have to send it somewhere. And the refineries are really moving at full capacity. They are running 24-7, 365. Some of it would displace some of this imported crude oil that's coming in, which is great. I think it's good for the economy. It's good for employees. It's good for workers. It's really a great economic message. But you only have six refineries now to refine that product. So you have to look at, are there any options to try and get some of those older refineries that were put out of service back up? But that's not an immediate thing. I always tell people it's not like flipping on a switch and just all of a sudden a refinery gets up and moving again. Some people are arguing this is a national security issue because our military is relying on this fuel that now we may have to import. Do you think the federal government could come in and make a change in California? Is it possible? I definitely think it's possible. There's a lot of talk out there. They are concerned. We have so many bases in California, and California really is kind of the first line of defense for the Pacific. So they don't want to see us put into a vulnerable position where someone could take advantage of us or know that by cutting off a certain oil supply or refined product supply into the state, would hamstring our very strong military. And what would that look like if the federal government got involved and called this a national security issue? Would it allow your industry to do drilling or would it allow your industry to actually put in more refineries and bypass the regulation? Is there a chance for that? Is it possible? I think anything's possible. I've heard a lot of exactly what you were saying put on the table. A lot of speculation. I haven't heard anything where they're saying, yes, we are going to do this. We're going to allow more drilling. We are going to suspend all the regulations so that the refineries can continue operating. But a great deal of speculation about what they could actually come in and do. On the policy side, I'm sure you guys are talking to CARB actively. And what does those conversations look like? As a trade association, we have gone in and just talked about really, as an industry, what we see is the impact and some of these concerns. When we did this infrastructure study I mentioned, we sat down with them to show them this is the constrained system that we have in California already. So a lot of it is education. Now our individual members are also going in and talking about their individual situation. Every company's configured differently. They're getting their crude from different places. So they're all in very slightly different places. So they're having those individual conversations too, to show the company numbers and to really dig down into their business operations and what that will look like with this new cap and invest program. Can these refineries stay here and raise the prices to just pay for the cap and trade? Or there's a chance for them to not be able to make it financially? And can you tell us more about that? How would it work? Yeah, I'm hearing from some of our members that it really doesn't pencil out for them the math of staying here with what's been proposed. Even some of the proposals that have been made on potential solutions don't work for everyone. So there are companies that are saying at a certain point we have to just stop and look at, do we continue to operate here? They all make improvements to their facilities, usually on like a five-year schedule. They call them turnarounds. So most of them are looking at, okay, what's the next big turnaround that we have and the investment? And those can be hundreds of millions of dollars. So does it make sense for their company to make that investment? Because there is no really return outside of them being able to operate here, if they put that investment in the ground. So they will start looking at that. So when it comes to doing that investment to change the refinery, they might not do it and just shut down. What about other states? Arizona and Nevada are heavily relying on us, California, to provide them with the fuel. What are their thoughts in this situation? We've heard a lot from Arizona and Nevada and we've talked to them over the last several years as well. We also represent Arizona and Nevada. So they're two of our five states. Nevada receives about 90% of their oil refined product from California and Arizona is about 40%. So they're very concerned and they've seen it when there have been disruptions. There was a disruption along a pipeline several years ago that Arizona felt very deeply and it raised the prices. So they have seen where if one thing happens, again because it's a very integrated system that is tied together from upstream to downstream, that when one potential disruption happens, it really constrains the supply, which the demand is staying even, so then ultimately prices go up. Do you have any thoughts for Californians that have been seeing the prices are going up and they might not know much about your industry, how it works, and it's complicated? It's very complicated. The one thing I would say is we have to protect what's left. We absolutely need to protect our in-state production, which is getting the crude oil out of the ground. We have to protect the in-state refining so that we even have a chance to continue to supply the marketplace at a level where gas prices don't increase dramatically. And it really, as Californians, we should support the environmental gains that our companies have made here. Again, cleanest burning gasoline in the world. We should want it made here and we should support these good union jobs. We should support the communities that have grown up around these refineries that really have a sense of community around what these refineries provide because it's not only the jobs at the refinery that go away, it's the coffee shop down the street on the corner, it's the grocery store because people are moving away, it's the schools and the Boys and Girls Club and the YMCA that depended upon the contributions that these companies did to support the communities in which they operate. So it's such a big story and operation that those of us who really love the state and want it to be golden again should absolutely 100% support continuing to refine here, continuing to have the production here and keep these good jobs and strong environmental standards here. Your industry, for whatever reason, maybe there was oil spills in the past, is not well liked in California. What are your thoughts on that? Yeah, there's been a pretty negative narrative about our industry for years. And for a long time, I think our companies really felt like they would take the higher ground, not fight back, but just keep doing what they did, which was providing good jobs, providing benefits, supporting their communities, and really being good corporate citizens, even though this evil was being painted about them. I think now our companies grow weary of that and they know this benefit that we provide. Has this industry been perfect? No. Has any industry been perfect? No. But they have come so far. And we all depend on these products. We are the first 8% of the GDP in California. But the other 92%, almost exclusively, depends on that first 8%. So we are a fossil fuel based economy, not only in California, but our entire country, and really truly the world. We have to recognize that. We need to stop demonizing, especially the men and women that work in this industry, that work day in and day out to provide fuels and to really provide a better life for every single human being. Jody Muller, President of Western States Petroleum Association, it was great to have you on California Insider. Thank you so much for having me today. We're going to keep following your industry's progress in this because it's a very important issue for Californians, especially the gas prices and the security that we have this gas. Well, I thank you for doing that. I think the message needs to get out. We want to make sure every Californian, everyone in the United States really understands the situation we're in, why it's so important and how our products impact their daily lives and why we should support this industry day in and day out. Tell us what you think about this conversation with Jody and Skip. Do you think refineries are getting overregulated in California? Or do you think this is a path to electrification in California? You can always email us at siamakacaliforniansider.com or comment. We read all of your emails and comments. I'm Siamak Khorrami. This is California Insider. We'll see you next time.