Oil prices hit an all-time high in late June when the cost of a barrel climbed to $60. Though the price has dipped slightly since then, the cost of oil will likely remain high, according to Alfred Marcus, Carlson School of Management professor of strategic management and organization.

“We may be in for an era when we never again see a barrel of crude oil under $45,” Marcus says. As a result, he adds, consumers shouldn’t expect escalating energy costs to recede back to the more pocketbook-friendly levels they’ve enjoyed for most of the past three decades. “I don’t think we’re going to see gasoline prices much below $1.85 per gallon for the next 15 years, and I’m being really safe on the low end. It likely will fluctuate between $1.85 and what I imagine could be up to $3.50 or even more.” 

Marcus and Akshay Rao, Carlson School professor of marketing and logistics, agree that ascending oil prices are being fueled by two main sources: dramatically increased demand, especially from such developing nations as China, India, and Brazil, and constrained refining capacity. “If people think the reason why energy prices are high right now is because we’re running out of oil in the short term,” Marcus says, “that is a mistaken impression. Rather, the capacity to refine oil is extraordinarily low.”

Rao explains that developing nations, chiefly China and India, are developing at about twice the rate of the United States. To nourish this growth, these countries need petroleum products, such as gasoline to fuel cars and petrochemical products for industrial production. China consumed an average of one million additional barrels of oil a day in 2004, according to the Energy Information Administration, an independent agency within the U.S. Department of Energy. “Here’s the double-edged sword the United States faces from a geopolitical standpoint: we need those markets to purchase our products and to supply our economy,” Rao says. “But when that development starts, it creates increased competition in the world market for scarce resources, such as oil.”

So why not increase supply? Marcus reports, “There are still large supplies in the ground—existing reserves that we know about and probably a lot of undiscovered reserves.” However, extracting more oil from the earth won’t immediately boost supply. Once acquired, crude oil is refined, a process in which it’s converted into gasoline, diesel fuel, heating oil, jet fuel, and many other products. But the world’s refineries already are running at full capacity; additional refining capacity is nowhere in sight, Marcus explains.

“The price of oil is not fixed purely by supply and resources,” Rao says. “It’s also fixed by the supply chain—the entire process of converting raw crude to gasoline.”

Absorbing the shock

Compounding the problem for American consumers is the fact that increased oil costs translate into more than just higher prices at the pump. “Gasoline is inflationary,” Rao says. “If I raise the price of gas, this raises the price of the shipment of goods. It’s amazing how many industries that affects—railroads and trucking are the primary victims. And then everything they carry has a price increase, from nuts and bolts to clothing to food to tractors and cars.”

Marcus is optimistic about the American economy’s ability to withstand the current fuel shock. Similar energy-price spikes in the 1970s ignited inflation and an economic downturn. Today, conversely, “we’re much less dependent [on gasoline],” he says. “Cars are lighter. Buildings make less use of oil for heating purposes. Our industrial base is less manufacturing-intensive, so it makes less use of gasoline. We’re more of a service-based economy and we don’t use as much energy to make a unit of Gross Domestic Product as we did in the 1970s. So in that sense, we’re in much better shape.

“I think we’re also better off,” he continues, “because there have been extraordinary advances in technology that the higher prices will spur. A lot of those technologies are right there, right now—they’re not futuristic.”

Toward greater efficiency

The hybrid car, for example, combines a smaller gasoline engine with a battery-powered electric motor. Hybrid engines burn little fuel while idling, and they capture energy created during braking, which is otherwise lost in conventional engines. Consequently, Marcus says, “hybrid technology gets, on average, roughly 25 percent improvement on energy efficiency.”

Moving forward, Marcus says, hybrid technology could conceivably combine its electric component with ethanol, a fuel produced from a renewable resource such as corn, or diesel, which is prevalent in Europe and would provide an additional 25 percent boost in energy efficiency. Then there’s biodiesel, a vegetable oil-based fuel that runs in diesel engines. “We’re beginning to get to the point where this isn’t science fiction,” Marcus says. “These are technologies that can be combined and are being proven on a daily basis.”

Of course, the primary obstacle confronting these technologies is adoption. Though hybrid manufacturers are scurrying to meet growing demand, hybrids account for less than one percent of the new car market, according to the National Resources Defense Council, a New York-based environmental-action organization. “There seems to be very little political will to address the issue of developing alternative sources of energy,” Rao says.

Marcus concurs. “If we don’t have good public policies in place, technological advances by themselves are not going to lead us in the direction we want to go,” he says, noting that the federal government offered hybrid buyers a $2,000 tax deduction in 2004. “What the government should do instead is to penalize individuals for buying inefficient autos, which is done in Europe. Remember, the goal isn’t to see more people drive hybrids. It’s for people to drive more efficient automobiles. If we can get greater efficiency out of conventional engines, that’s fine. I’m not an engineer or a physicist, but if they could conceivably make conventional engines 50 percent more efficient, that would be just as exciting to me as everyone driving hybrids.

“I’m indifferent to what the technological solution is,” he adds. “I think good public policy has to be indifferent, too.”