Diesel isn’t all that expensive in real terms – but where next for pump prices?


Ask anyone whether petrol and diesel are expensive and they may grimace and refer you to recent headlines about near-record pump prices.

It is true that pole prices at some stations have lately come close to the all-time nominal highs around £1.40 per litre seen in 2012 and 2013. But those figures don’t factor-in inflation.

When you take inflation into account, the ‘real’ cost of diesel today is about the same as it was in 2007.

The chart below tracks diesel prices since 1995 in nominal price at the pump (blue) and inflation-adjusted (red) terms. Both curves are indexed to 100 in 1995.

Nominal (blue) and inflation-adjusted (red) diesel prices since 1995

Nominal (blue) and inflation-adjusted (red) diesel prices since 1995

Diesel’s cash price today is two and a half times higher than 1995’s 54 pence per litre. It is now 25% above its most-recent low point in 2016, when it was £1.10 per litre.

When you deflate pump prices by RPI, however, you get the red line. What users pay today in real terms is roughly equivalent to what they were paying 20 years ago. The high point of the red line – what users paid in 2013 – is the equivalent of over £1.60 per litre in today’s money.

The question is whether the rising trend in the diesel price will continue. Tax and exchange rates play a part in the answer but by far the most important factor is the underlying global price of oil.

$100 oil. They tried it once

Those spikes in the UK diesel price trend in 2008 and 2011 coincide with surges in the price of oil. One driver of those surges was oil producers seeking a price level that covered the increasing costs of finding and producing crude after output from conventional onshore wells peaked in around 2005.

(The diesel spike in 2000 was primarily caused by the UK government’s fuel duty escalator. When duty was cut and then frozen after the Fuel Protest, domestic fuel prices subsided again though the oil price was climbing quickly.)

$100 per barrel is generally considered to be the minimum price most oil producers need to stay comfortably afloat in their new business of producing costlier, scarcer oil from deep water wells, oil sands and fracking. Oil did hold around $100 for three years from 2011.

But then users capitulated, and the price completely collapsed, as commodity prices tend to. It slumped all the way to 1990s levels, which led to deep cuts in oil companies’ spending on exploration and production (E&P) – i.e. there will be less oil to go around in the future.

Europe, Japan and other major oil consuming markets reacted strongly to the price surge, setting deadlines to phase out combustion cars in 15-20 years’ time, and supporting the development of alternative drivetrains and mobility infrastructure.

A new ceiling on oil price?

We’re not in Kansas any more. The oil producers’ oldest ally – inelastic demand – no longer applies to all their customers. Petrol and diesel are no longer the only game in town for car drivers, with plug-in cars and Skype just two potential alternatives (along with not learning to drive at all for many young people).

Since 2014, the inflation-adjusted price of oil has only managed to nudge past $70 once. It has mostly bumped around between $50 and $65 per barrel as demand growth slows or turns negative across the world.

That is reflected by today’s UK diesel price and the world oil price, which, adjusted for inflation, are where they were back in 2005. Barring a major shock to oil prices, say war with Iran, or a no-deal Brexit and/or a U-turn on fuel duty, it is probable that today’s diesel price is at or near the top of its curve and should remain in a range around £1.30 a litre for some time to come.

Trouble brewing

The idea that oil will gracefully retire itself as transport goes green is fanciful. For one thing, freight transport will remain almost 100% oil-based for the foreseeable future.

At the same time, today’s oil is expensive to obtain: selling it at yesterday’s prices is a recipe for trouble for both producers and customers. I’ll look at how that might work out, and what customers can do, in future posts.

[Main photo credit: Kārlis Dambrāns]