Managerial Economics - Term Paper Example

Managerial Economics Introduction With every passing year, oil appears to play an even bigger role in the global economy. Initially, finding oil through a drill was considered somehow a nuisance since the intended treasures were usually water or salt. This wasn't until 1857 when the first kind of a commercial oil well got drilled in Romania. The UKpetroleum industry was born some years later (MCCORMICK, 1993). This paper will analyse the current oil prices and also explore how the price of oil, just as other commadities, is a complex mixture of demand and supply factors. How government policy might influence the price elasticity of oil will also form part of the discussion in this paper. Analysis of the current prices of oil The world oil markets have experienced significant fluctuations within the past year, with the demand being reduced by a weak world economy and increased after the natural disasters in Japan and India. It is anticipated that global oil demand growth will remain stable in 2014. However, weakness in the world economy is still occasioning a great degree of uncertainty for the oil industry professionals globally. Experts in Singapore, Houston, London, and across China offer market players with the current pricing information for the seven global regions and in-depth analysis on the factors affecting the price of oil as well as market reviews and outlooks. An insight of crude oil market deliver all the relevant information required to stay at the top of developments across world markets, for a more secure trading and forecasting(STENGEL, 2011). Annual reports by oil companies reveal that spending on the exploration and development activities enlarged by $18 billion (5% ) in 2013, whereas spending on the property acquisition continued to decrease by $17 billion. The total upstream spending was comparatively flat after the period of robust growth from 2000 to 2012. In the last three years, flat oil prices as well as the rising costs have added to the declining cash flow for these oil producing companies. The continued decrease in cash flow, especially in the face of the rising debt levels, could hinder future exploration and development. Nonetheless, lowered spending levels might be offset by theproduction efficiency and the rising drilling as evidenced in a review of data from 42 lately published financial statements for the public oil companies. The reports, needed by the UK Securities and Exchange Commission, reveal that the small increase in spending was propelled by the expenditures to develop fieldsobtianed in the previous years. The expenditures to purchase new property dropped in 2013, and the spending on production actions was flat(FROEB & MCCANN, 2014). Companies’ expenditures link oil production activities in the three groups: property acquisition, production, and exploration and development,jointly referred to as the upstream. Today, property acquisition consists of costs incurred to buy proved and unproved reserves while exploration and development consist of expenditures associated with searching for and developing facilities and infrastructure to generate reserves. In the contrary, production consists of costs linked to extracting oil from the ground the moment the field has been developed. These three categories jointly influence the current oil prices in the word(STENGEL, 2011). Composition of 0.4% increase in the upstream spending in 2013 consisted of the following: exploration and development expenditures increased by 5% (about $18 billion) in 2013 as shown in Figure 1.below Whereas production expenditures rose by just 0.6% (about $1.4 billion). The acquisition expenditures declined by 33% (about $17 billion). As oil companies engage in acquisition to stabilize oil prices, its expenditures may fluctuate, spiking whenever there are large acquisitions and mergers. After the huge increase in 2010, occasioned by acquisitions of a gas producer and independent oil producers, acquisition expenditures have decreased steadily since 2009 to 2013(FROEB & MCCANN, 2014). For this analysis considered oil companies which have reported data on the upstream expenditures from 2000. These companies range in the size of production and consist of publicly traded and state-owned enterprises, such asKnockbracken Fuels, ExxonMobil and Petrobras, Springhill Fuels, Encana Corporation and Talisman Energy. These 42 companies made up roughly 39% of non-OPEC production by 2013, and had a joint market capitalization of over $2.4 trillion(WILKINSON, 2005). In general, rising oil prices since 2000 through to 2011 contributed to the large increases in cash flow of companies from operations and provided funds needed to raise upstream expenditures. As the crude oil prices inflated, projects which had been unprofitable became feasible. Companies considerably expanded operations associated to tight oil production in UK. With most companies expanding oil production actions at the same time, the costs for equipment as well as for personnel also inflated, further pushing up the expenditures. The costs for raw materials was driven upward as most commodities saw a general price increase from 2002 through to 2008, even though commodity prices have reduced since 2012 (STENGEL, 2011). After the 2008 and 2009 economic downturn, the property acquisition expenditures has been rapidly going down, as spending shifted to the exploration and development besides production. This saw more oil companies operating in the global market and the consequence was abundant oil supply. Currently, oil prices hasremained comparatively flat. Nevertheless, cash spent on investing projects, which seems to lag opportunities in cash flow, increased a littlebit in 2013 as companies raised debt to maintain the investment, making use of the interest rates which have been low from 2009. The current trend is that companies have been increasing debt each year since 2006, with the long-term debt rising 9% and 11% in the last two years (2012 and 2013) respectively(GEETIKA, GHOSH & CHOUDHURY, 2008). Factors that determine demand and supply of oil in UK The UK has experienced tough energy security from a blend of its own liberalised energy markets, extensive North Sea resources, and firm regulation. According to the information at hand, the position for UK energy security continue to stay positive. Whereas the UK’s energy system is comparatively resilient to the energy security challenges, it still faces the ongoing risks from severe terrorist attacks, weather, technical failure as well as industrial action. These risks may be mitigated but it`s not possible to completely avoid them. The UK’s energy system, and in particular the oil industry faces a considerable deal of change as the existing infrastructure closes, system adapts to meet the low-carbon objectives, and domestic fossil fuel reserves decrease(FROEB & MCCANN, 2014). These changes together with some other global factors influences the demand and supply of oil in this country as explained below: Production Costs Producing oil is very expensive. Costs such as leases, equipment, royalties, materials, environmental, labor, regulatory costs and debt service have alwaysbeen steadily going up. They are even expected to go up more, particularly leases. The average finding and development cost is estimated at about $6 a barrel. This costsnearly quadrupled in a period of less than a decade to approximately $22.80 in 2011. High oil production cost definitely means there will be low supply of oil at high prices as the few companies who manage to produce it will find a way of compensating the cost incurred through increasing the prices of oil. are likewise higher. In 2004 crude oil was about $30. Currently, crude oil is about $100. The price gap is huge, but the proportions are the same(WILKINSON, 2005). Oil is a Global Commodity Serious oil analysts consider oil is theglobal commodity.Just as UK will high require oil to carry on it`s economic activities so do other nations in the global arena. As a fact, this will cause a considerable oil demand at any point in time worldwide. As global oil companies struggle to produce and supply oil to the ever present demand in the global market, UK oil supply is expected to depend on the domestic and foreign demand. The higher the oil supply in the global market the higher the supply will be to ordinary Brits. For example, oil production in 2012 was about 5.74 million barrels each day, and the demand was about 18.96 million. Oil prices inflated around this time and that implied the UK had to import close to 13 million barrels each day to meet the demand. That’s why UK need to consider global demand and supply data and not just on UK. Since oil is a global commodity, it`s prices are perfectly elastic, implying a small change in the global supply of oil will adversely affect the oil prices in UK(GEETIKA, GHOSH & CHOUDHURY, 2008). Rising Global Demand, Shrinking Global Surplus It`s worth noting also that oil is a crucial, depleting global commodity. Many commodities may be grown, refurbished, repaired, salvaged or replenished but when we burn the gallon of oil, it is gone forever. This table shows global oil consumption and demand by decade: World Oil Consumption (Thousand Barrels per day) 1980 1990 2000 2012 Other continents 36,739.20 40,000.39 45,253.24 4,8961.00 Europe 26,374.37 26,627.43 31,373.13 41,039.00 World Total 63,113.57 66,631.82 76,626.37 90,000.00 As the table reveals global oil demand has gone up by 50% since 1980. For decades, the world has had surplus capability. The supply of oil in UK stagnated, as illustrated in the graph, considerably from 2005 to 2007 as global oil producers fought to meet demand of the growing world population (FROEB & MCCANN, 2014). Leveraged Speculators There is a huge difference between investors and speculators. Investors consider the fundamentals. They consider a long-term view as well as hold their positions longer. Investors characteristically use minimal leverage. The risk-takersobserve the momentum and and price action. They possess very little holding periods and outlooks. However, the risk takers most particularly use more leverage. Studies show that there is an easy way to take measurement of whether or not a market is taken up by investors or speculators. In case a stock traded about eighty million shares, while the company only had 20 million outstanding shares, then the ownership of the company would change like four times in a day. This infers that the participants were not investing, but speculating. The exact same thing takes place in stocks of energy(WILKINSON, 2005). The U.S. Dollar It is vital to take note that the historical chart does not document the role of dollar in the prices of oil. A growing correlation has been witnessed in between the prices of commodity and the dollar, including that of oil. Oil is, like majority of other products, dominated in dollars. When dollar price reduces, then the investors from foreign land are able to invest on commodities at lower prices in their home currency. This increases commodity value and creates more demand theoretically. Investors across the globe seek hedges in order to protect their money’s power of purchasing due to the massive money printing by the global central banks. This is the major reason why such investors invest on silver, gold, or oil (GEETIKA, GHOSH& CHOUDHURY, 2008). Conclusion In conclusion, it is vital to note that supply and demand curve contributes significantly to the determination of the price equilibrium for any commodity. In order to master the market of oil demand and supply curve, we need to take consideration of certain exemptions. Oil demand and supply is inelastic in the short run regardless of the cost of petrol, and vehicles will not shift to other forms of fuel, neither will the distance shorten between two locations. Due to this, the oil consumption remains constant (WILKINSON, 2005). Oil appears to play an even bigger role in the global economy. Initially, finding oil through a drill was considered somehow a nuisance since the intended treasures were usually water or salt. It is anticipated that global oil demand growth will remain stable in 2014. However, weakness in the world economy is still occasioning a great degree of uncertainty for the oil industry professionals globally. The total upstream spending was comparatively flat after the period of robust growth from 2000 to 2012. In the last three years, flat oil prices as well as the rising costs have added to the declining cash flow for these oil producing companies. In general, rising oil prices since 2000 through to 2011 contributed to the large increases in cash flow of companies from operations and provided funds needed to raise upstream expenditures. The UK has experienced tough energy security from a blend of its own liberalised energy markets, extensive North Sea resources, and firm regulation. According to the information at hand, the position for UK energy security continue to stay positive. Bibliography FROEB, L. M., & MCCANN, B. T. (2014).Managerial economics: a problem solving approach. Australia, South-Western Cengage Learning. GEETIKA, GHOSH, P., & CHOUDHURY, P. R. (2008).Managerial economics. New Delhi, Tata McGraw-Hill Pub. MCCORMICK, R. E. (1993). Managerial economics. Englewood Cliffs, NJ, Prentice Hall. STENGEL, D. N. (2011).Managerial economics concepts and principles. [New York, N.Y.] (222 East 46th Street, New York, NY 10017), Business Expert Press. WILKINSON, N. (2005). Managerial economics a problem-solving approach. Cambridge, Cambridge University Press. Read More