The price of oil is rising. Gas prices at the pump keep reaching new highs as the world prices for crude oil keep rising. Every year sees a winter where gas and oil prices are higher than the year before. These events have brought significant economic pain for everyday Americans who suffer from the inflation due to rising crude prices. It is not just the US which is feeling this. In Europe, there have been protests from fishermen’s groups to trucking associations over the increasing costs of oil. These events have prompted politicians from both sides of the Atlantic to contemplate methods of lowering oil prices.
Gordon Brown is insisting for increased production from the North Sea.
Nicolas Sarkozy has called for the scrapping of EU taxes on fuel. In India and Germany, the government has taken action to put a stop to speculators who are partly blamed for the rising prices (“Double, double, oil and trouble”).
The rising costs of oil is a by product of supply and demand. Rising economies in China and India are becoming major drivers for demand. A rapidly expanding industrial base coupled with government subsidies for the price of oil do nothing to hold back the oil consumption of these countries. This is especially true for China where the price of oil is below the world market price (“Crude Measures”). Increasing demand tends to push the demand curve to the right.
On the supply side, world oil production has not kept pace with the growth in demand. Little margins in the global oil stocks leave the world supply vulnerable to the smallest disruptions, from hurricanes at the Gulf of Mexico to instability in the Middle East. The cost of developing new oilfields is increasing and companies are hesitant to build refineries due to cost, environmental and regulatory issues. Supply side contraction leads to a shift of the supply curve to the left. These two combine to elevate the market equilibrium price for oil in the world market (“Double, double, oil and trouble”).
Clearly, the current price levels are unsustainable.
Because of this, the developing world has already adopted steps to wean itself off the high prices of oil. In the US, car sales are already dropping due to the high gas prices. Hardest hit are gas-guzzling SUVs and trucks (“Crisis? What oil crisis?”). These indicate that the public itself is starting to wean itself off of oil which may help curtail demand.
Countries which subsidize oil are also starting to rethink their strategy. Government subsidies for oil are eating up funding for public spending on healthcare or education. To cope with high prices, governments which subsidize oil sales have already started to raise oil prices from 12% to 30% (“Crude Measures”). Increasing gas prices in these countries will also help to curtail oil consumption.
Globally, the growth in consumption is already slowing down, with the growth rate in decline since 2004.
One benefit from the high oil prices is that it is helping to speed up the development of renewable energy sources. With the surging crude costs, renewable energy is now starting to become cost competitive with fossil fuels. Sweden has taken the lead in this arena, aiming to phase out oil as an energy supply by 2020. In phasing out oil, it will have to provide a suitable energy alternative for the transport sector. Everything from waste materials to confiscated smuggled wines are being tapped for their potential as a transport energy source (Wiles). Should other nations follow suit, this will have the effect of increasing the price elasticity of demand due to the increasing number of substitute products for oil.
These are important steps as it appears that the price of oil will continue to increase indefinitely. A report by the Chatham House concludes that price stability is an unattainable goal. This grim conclusion is brought about by the disappearance of surplus oil production which is a key mechanism in regulating oil prices (Mitchell, 5). The Chatham House report recommends planning for long term price uncertainty in oil. One clear way of planning for such an event is to slowly reduce oil consumption and dependence. This is a task that countries should adopt immediately either through reduction in consumption or through development of technology.
Mitchell, J., “A New Era for Oil Prices”, Royal Institute of International Affairs, (August 2006).
The Economist, (2008). Crisis? What oil crisis?. Retrieved June 15, 2008, from The Economist Web site: http://www.economist.com/business/displaystory.cfm?story_id=11496858&CFID=9571852&CFTOKEN=49662103.
The Economist, (2008). Crude measures. Retrieved June 15, 2008, from The Economist Web site: http://www.economist.com/finance/displaystory.cfm?story_id=11453151.
The Economist, (2008). Double, double, oil and trouble. Retrieved June 15, 2008, from The Economist Web site: http://www.economist.com/finance/displaystory.cfm?story_id=11453090.
Wiles, D (2006). For a book: Tyler, S., Economics: Beat the Test, Toronto (Jones Press), 1992.. Retrieved June 15, 2008, from The Official Gateway to Sweden Web site: http://www.sweden.se/templates/cs/Article____14363.aspx.