Oil, the black gold

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By Naveed Qazi | Editor, Globe Up Front

There has been a global surge in the world commodity prices which is increasing the national deficits and effecting the consumer behaviour all over the world. Crude oil prices have been indicating an increasing price rise trend in the first two quarters of this year. 

It is mainly due to increase in the cost of production and demand for oil especially in high populated countries like China and India. 

A weakening $USD is also contributing to surging oil prices, as the trade deficit is rising in the United States. The stabilisation of United States economy is vital to harmonise the imbalances in the global commodity market because dollar is the standard monopolised currency to trade. 

The mechanics of oil market can become clear when one applies the economic law of supply and demand into consideration - the price elasticity of demand for oil is very inelastic due to scarcity of oil reserves. On the demand side, it simply means that increasing oil prices don't have an immediate effect on consumer spending, because it is a crucial need in day to day life. The high price rise of oil doesn’t lower the spending habits of oil consumers. On the supply side, it means that the surplus supply for oil depends upon the periodic discoveries and timely development of oil fields, the amount of investments in the development of oil refineries, and the crude oil logistics. 

So in order to meet requirements, the suppliers will always charge high and the market will bear, if there are any irregularities in the supply for oil. However, the role of states and international enforcement agencies becomes important in these circumstances because they are responsible for setting the equilibrium price - which takes a fair consideration of demand and supply side of the commodity. 

The traditional law of economics isn't the only reason in understanding the implications of oil prices. There are other socio-political reasons too: the market structures and the controlling influence of corporates which play a pivotal role. The global commodity market in our world is dominated by oligopolistic traders for a market of consumers which is based on oligopsony – the few elite sellers sell to few elite buyers in a market of imperfect competition. 

Therefore, the price determination of oil is also vested in elite organisations, entities or even states – the producer cartels. Speculation in the futures market also has contributed to a rise in oil prices, as oil investors buy oil and go on bidding higher to gain profits. The recent Libyan unrest in the 2011 Arab Spring also surged the global oil price, from locally to internationally.

Countries across the world have also coupled in order to sustain a competitive oil market. One such example is The Organisation of Petroleum Exporting Countries (OPEC). It constitutes of about one third of the world oil market. It is largely a Middle Eastern organisation, containing twelve members, which also has African and Latin American countries as its members. Recently, Russia, Iran and Qatar are also seeking a similar alliance for gas production.

The price monopoly is also done through International Commodity Agreements which decide on price harmonisation, allocation of resources, supply levels and for equitable distribution of export earnings between exporting and importing countries. These policies give a firm competitiveness in the oil market. For example, OPEC countries meet regularly and decide on effective policies for ‘fair benefits’ because OPEC Crude Oil basket rivals with Brent Crude Oil which is generally regarded as the worldwide benchmark for crude oil. 

Organisations such as The World Trade Organisation (WTO) have to make sure that there are no illegal disputes arising in the commodity market. States and corporates have to make sure that there is a fair balance between supply and demand for oil, for a short term atleast, because there will always be a degree of difficulty in maintaining that process. 

Governments can also try to keep an inventory of buffer stock or stock piles of oil in order to maintain the price stabilisation for a shorter term in their respective countries. For longer terms, people need to think about substitutes like the hydrogen fuel for transportation and industrial use. Electric car technologies are also in development. Oil is a black gold because it is scarce yet precious, just like gold. We need to use it with all efficiency.


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