Why do gas prices fluctuate?

Have you ever noticed that gas prices seem to change every time you fill up your tank?

If so, you’re not alone.

Fluctuating gas prices are a frustrating part of being a car owner. Some days, you can walk away from the pump feeling like you just got a great deal while other days, you might feel like you just spent your entire weekly budget filling up the tank.

So, what gives? Why do gas prices go up and down all the time?

The simple answer is supply and demand. But there’s a whole lot more that goes into determining gas prices than an increase in the number of people that want to take road trips.

In this article, we’ll take a look at the many factors that affect gas prices. We’ll discuss what factors have a short-term impact on the price of fuel in Canada and which ones dictate oil’s long-term cost. By the end, you’ll be an expert in all things petrol pricing.

Why do gas prices fluctuate: the basics

There are many reasons why the price of gas changes all the time. But, gas is a commodity, and like all other commodities, its price is ultimately dictated by one thing: supply and demand.

Simply put, when more people want to buy gas (an increase in demand), the price tends to go up—especially when supply is limited. If fewer people want to buy gas (a decrease in demand), the price tends to go down—especially when there’s an excess in the supply.

We saw a perfect example of this supply and demand at the start of the COVID-19 pandemic. All of sudden, millions of people across Canada and the US were told to stay home and not travel. This led to a sharp decrease in the overall demand for gas in North America, sending fuel prices plummeting.

However, gas is a very complex commodity and the simple laws of supply and demand, while very important, don’t tell the whole story.

In fact, supply and demand are ultimately what dictates the trend in gas prices or, in other words, whether they go up or down. But there are dozens of other factors that determine the price that you’ll pay at the pump.

We can roughly divide these up into short-term and long-term impacts on gas prices. Some of these factors certainly fall in between the short-term and long-term; but, for simplicity’s sake, we’ll use this framework to understand what impacts fuel prices. Let’s get to it.

Short-term impacts on gas prices

The first factors that we’ll look at are those that have a short-term impact on gas prices. Short-term here can mean anything from day-to-day to month-to-month, but we’re not talking about impacts that determine gas prices over the years. With that in mind, these are some of the most important factors that impact short-term gas prices in Canada:

Commodities trading

Oil is a commodity, just like gold and silver. As such, it’s a pretty popular thing for investors to trade using something called “oil futures.”

The idea here is that investors around the world can essentially bet on whether they think oil prices will rise or fall. This type of investment is called futures trading because you’re taking a position (a.k.a. making a bet) on what the price of some commodity or security will do.

If traders bet that the price of oil will increase within a certain timeframe and it does, they’ll make money. If they get their bet wrong, they’ll lose money.

It might sound absurd that the bets of people on Wall Street can affect the prices you pay at the pump, but that’s reality. The bets oil futures traders make often turn into a type of self-fulfilling prophecy; traders drive oil prices higher or lower based on the trades that they place.

This type of short-term price increase is particularly prevalent in the spring as many oil futures traders bet that oil costs will increase during the summer (which they normally do). This drives fuel prices up around the world.

OPEC decision making

While we’re on the topic of how other people’s decisions can impact your fuel costs, let’s talk about OPEC.

OPEC, or the Organization of Petroleum Exporting Countries, is a consortium of nations that produce large amounts of fuel. Most of these countries are in the Middle East and Africa and they include major oil producers such as the UAE and Saudi Arabia.

How OPEC influences global oil prices is simple. Multiple times a year, OPEC members meet and decide their crude oil production targets. These quotas help OPEC control the amount of oil supply, giving the organization an opportunity to make more money if demand changes. This process isn’t always streamlined, of course, as countries occasionally fail to meet their quotas.

Of course, in a country like Canada, which has its own major oil production industry, OPEC’s decisions aren’t as impactful as they might be in countries that don’t produce oil. However, much of eastern Canada relies on foreign oil, so OPEC’s decisions can have a huge impact on the price that you pay on the pump in the short term.

Seasonal consumer trends

Gas prices aren’t as well-connected to seasonal fluctuations as heating oil prices are. However, there are certain times of the year where Canadian fuel prices increase.

According to data from Statistics Canada, gas prices tend to increase in the spring and summer months only to fall again by wintertime. There are a number of reasons why this is the case, but it generally has to do with seasonal variations in crude oil prices.

Crude oil is used to make many things, including gas, diesel, and heating oil. Refining costs usually increase during the spring months. This is because refiners have to create a unique summertime blend of gasoline with a higher RVP (Reid Vapor Pressure) that costs more to create than the wintertime blend.

The reasons behind this are beyond the scope of this article. But suffice it to say that gas prices usually go up in the summer, in part because of the additional cost of making summertime blend gasoline at the refinery. Plus, people often drive more during the summer, increasing the demand on the market.

Global & local events

Major global and local events can have a massive impact on short-term gasoline prices. They can also have a big effect on long-term prices, but those sorts of changes are usually reserved for federal laws that impact oil production.

There are many events that can impact oil prices, but the big ones are things that disrupt the production and refining of crude oil. These events include hurricanes that affect oil refineries in the Gulf of Mexico and political unrest in the Middle East.

For a country like Canada that produces and refines a lot of its own oil, certain events have less of an impact than others. But if Canadian oil companies can’t get their crude oil to refineries in the southeastern US for international exports because of a hurricane, this could impact their bottom line and cause them to raise prices within Canada.

Additionally, there are many other events that can impact gasoline prices without directly impacting oil production. For example, any major disruption to financial markets, such as a global pandemic, can cause gas prices to go a bit haywire until the global economy settles back down.

Gas station competition

Finally, gas station competition can have an interesting effect on the prices that you pay at the pump.

As you likely know, most gas stations advertise their prices on large signs for all to see. If there are two stations right next to each other and one offers a much lower price, we’d bet serious money that you’d opt to go there, instead.

Gas station owners know this, so they’ll often adjust their prices to make them more competitive. This is one of the few short-term impacts that can actually work in your favour because competition often causes gas prices to decrease—if only by a few cents.

Technically, there’s no law barring gas stations from changing their prices to match or beat those of nearby stations. So long as the stations aren’t working together to fix prices, they can compete with each other as much as they want.

Long-term impacts on gas prices

Thus far, we’ve spoken exclusively about factors that have short-term effects on gas prices. But, there are plenty of other factors that affect how much you’ll pay at the pump over the long term. Here’s what you need to know about long-term gas price trends.

Location, location, location

Of all the factors that can impact long-term gas prices, few have as much of an effect as your location.

It’s simply more expensive to transport gasoline to certain parts of Canada than it is to others. As you can imagine, it costs more to transport gas to more remote areas, such as Whitehorse or Yellowknife, than to places like Vancouver or Montreal.

Even then, Whitehorse and Yellowknife are major cities in their respective territories. So you can certainly expect fuel prices to be higher in smaller, more remote communities. At the same time, fuel prices are usually lower in provinces and territories, like Alberta and Saskatchewan, that produce more oil and, as such, have lower transportation costs.

There’s a lot that goes into determining gas prices, but location can have a big effect on your fuel costs.

Federal, provincial & territorial gas taxes

Gasoline is one of the most widely taxed commodities in the world. Since it’s a relatively inelastic product (meaning that people will still buy gas, even if prices rise), taxing gasoline is a great way for governments to raise revenue. Nowadays, many governments tax gas for carbon offset purposes, too, and these costs affect your bottom line in the same way.

All gasoline (and diesel, for that matter) is taxed in Canada. As of 2021, the federal excise tax on gas is $0.10 per litre. There’s also a 5% federal GST that you pay whenever you buy gas.

Additionally, all provinces and territories in Canada charge fuel taxes that range from a low of $0.06 per litre in Yukon to $0.27 per litre in the Vancouver area of British Columbia. Many also charge a “carbon levy” of anywhere from $0.011 to $0.0996 per litre.

When you add on provincial sales tax (PST or HST), too, all of these taxes cause a long-term increase in the price that you pay at the pump.

Long-term inflation

Finally, long-term inflation has a huge impact on the price of gas and, well, pretty much everything else.

Inflation is effectively a decrease in the purchasing power of the dollar over time. The reasons why inflation happens are too complex to discuss here, but it all results in the same thing: increased costs for goods and services.

Think about it: If the value of the dollar decreases, people will want you to pay them more for the same goods and services.

Inflation is a long-term trend, so it’s not something that’s necessarily going to impact gas prices overnight. But if you’ve ever wondered why fuel is so much more expensive now than it was when your grandparents were children, inflation is mostly to blame.

Why do gas prices change?

Gas prices are exceptionally complex and there are many short- and long-term factors that affect what you pay at the pump.

The biggest driver behind fuel prices is supply and demand. But fuel prices are also controlled by things like financial markets, taxes, regional transportation costs, and global events. Now you know!