Europe’s refining sector is getting a break from its misery. But this spell of relief might not be good for its wellbeing in the long run.

Lower crude oil prices have given a fillip to those companies that process it into products like petrol. European refining margins more than quadrupled from the first to the last quarter in 2014, according to French oil major Total, hitting their highest levels in two years.

Product prices haven’t declined as rapidly as those of crude oil, and the latter also can ease another disadvantage faced by Europe’s refineries: namely, the cost of energy used to run them, versus US and Middle Eastern rivals.

This doesn’t look sustainable. Globally, surplus refining capacity is rising, according to the International Energy Agency, and could hit 5.4 million barrels a day in 2017, up from 3.2 million last year.

Oil refinery

Even though Europe has seen about 2 million barrels a day of capacity taken offline since 2008, Total thinks another 1.5 million to two million barrels a day, or more than 10 per cent of current capacity, needs to go.

If anything, refining’s new lease on life may hurt rather than help this process. Better profitability can induce refiners to crank up facilities, given utilisation rates of less than 80 per cent, notes Barclays. Italy’s Eni said recently that its volumes would be higher this year than last, as it seeks to “capture short-term opportunities”.

Higher margins also may ease the pain for struggling refiners who bought unwanted or bankrupt assets in recent years and might otherwise have considered exiting.

Refining’s reprieve could last longer if cheaper oil meaningfully stimulates demand. In the emerging world, huge projected increases in vehicle numbers portend rising consumption. But BP sees transport demand for oil in the industrialised world declining through 2035, thanks to tighter policy and rising competition from hybrid or electric cars.

As Europe’s refiners battle to restructure or close capacity, they are in all likelihood chasing regional demand that is in long-term structural decline. If temporarily improved fortunes obscure this reality, it will only delay the actions necessary to deal with it.

Extracted in full from The Australian.