Back-of-the-Envelope Calculations on Gas Prices
Analysts are saying that gas prices should climb to between $3.50 and $4.00 a gallon in the wake of Hurricane Katrina. Here’s a quick-and-dirty calculation as to how that could happen (without any references or explanation– sorry, like I said before, I’m short on the time I can spend on these things this week):
Capacity utilization of refineries is usually at about 95%. Katrina knocked out about 10% of our capacity, giving us a 5% capacity shortfall. The elasticity of demand of gasoline is about -1/7. So for demand to fall by 5%, prices have to rise by about 7*5=35%. Given a range of prices from about $2.50 to $3.00 a gallon, that yields prices from $3.38 to $4.05 a gallon, with a median price of about $3.71 a gallon.
And there you go.