The Economic Reasons for Price Fluctuations - Essay Example

Introduction The oil market has put a huge concern to most of the countries that produce and export oil. This is because there has been a going increase in the fluctuation of oil markets hence affecting the profit margins of the exporting countries while at the same time affecting the importing countries. You find that over the past ten years, the world prices for oil have been so unstable hence meaning that the importing countries will tend to import oil at a high price and hence at the same time pass these costs to the consumers as increased prices. So it was as a result of the instability in the market that OPEC in this case was established to see that the issue of price inflation has stopped plus the many market instabilities which affect the distribution of oil. (Mathew, 2000). Oil market basics can be so much useful to a potential of users since it is through oil market basics that one is in a position to know how oil markets usually function. You find that oil market basics can be useful since when surveying most of the petroleum markets and how these markets usually work, You will find that the oil market basics will start with the crude oil exploration, how the crude oil is produced and the various use of the petroleum, how its processed, distributed and the various pricing strategies which are applicable. So in this case the oil market basics is very much important since its through this that most of the producers can be in a position to set their prices and also try to differentiate their products from its competitors hence leading to the realization of their competitive advantage. (Mathew, 2000). The Organization of the petroleum exporting countries (OPEC) involves a large group of countries and it was established in the year 1965. It has a large group of countries and the members of the OPEC include the following, Nigeria, Saudi Arabia, Qatar, Iraq, Iran, Angola, Indonesia,, Kuwait, Algeria, Venezuela, The united Arabs emirates, Libya and Ecuador. The headquarter of OPEC is at Vienna and it is in Vienna where the member countries usually hold meetings with its member countries. The major goal of the organization was to ensure that there is the stabilization of oil prices in the market since you find that all these thirteen countries produce and also export oil in to other countries so the OPEC was formed to ensure that they have stabilized and also regulated the oil prices in the market so as to realize their competitive advantage in return. This is because when prices are not stabilized, you find that there are cases of fluctuations of prices so it was as a result of the experienced fluctuation of the market prices that OPEC in this case was established so that it could eliminate the unnecessary and harmful price fluctuation in the oil market. It was due to the stabilization of the oil prices that you could find that these oil producing countries could have increased economic growth with the regular supply of petroleum to the consuming countries like Kenya, Uganda and other countries who do not have oil deposits hence a fair return in their total capital to those countries who invest in the petroleum industry. (Mathew, 2000). History of oil market from 2000-2008 The trends of the oil price in the market are only going in tone direction only. Up. From the year 2000-2008, most of the consuming countries have experienced an increase at the oil prices. This shows the days when the price per barrel of oil will come to 100% in the near future. Most of the many reasons which are thought to be behind the current price hikes can be connected to various factors like the cases of wars, instability in most of the economies that is the inflation rates are so high among other related factors. But you will find that most of the market fundamentals are the most known factors which have led to the increase in the oil prices. Due to the increased economic growth in most of the countries in the past years say in the United States, you find that there is an increased demand of oil. China and India on the other hand due to the increased economic growth there energy appetite is growing at an exponential rate hence adding tote ever high consumption of oil in the western hemisphere. The market speculations are also pushing up the prices of oil since the expected future market fundamentals are translated in to the current physical market prices. (George, 2000). Oil prices increase and at the same time decrease and there are various reasons which are given concerning the oil market as why oil prices increase and decrease. One of the given reasons as to why oil prices increase during this period is the rise in demand of oil as well as the increase in energy in general. Here you find that during times of economic growth that is boom periods, this is the time when more factories and energy sectors are said to rise up plus the issue of shipping companies transporting their goods to other countries. It is also the time when the consumers of oil have increased demand for oil through the purchase of more automobiles. You tend to find that the economy is appreciating hence meaning that the people have a lot of incomes hence leading to the increased demand for oil since most customers tend to purchase more vehicles. A good example to explain this is the United States in the year 2007 whereby the economy appreciated so much hence leading to the increased demand of oil while at the same time oil prices declined. (George, 2000). Instability of the oil producing countries plus the so many conflicts which are found in the oil producing countries can cause the oil prices to go up since you will find that due to the insecurity and the conflicts which are happening in the producing countries, there will be less competitors hence meaning increased price. A good example to explain these phenomena was the going on wars in Iraq and Iran which led to the dramatic increase in the oil prices in the consuming countries like the United States. The oil delivery rose as much as from $2.05 up to $107.95 a barrel in the New York. This is because Iraq and Iran are major producing countries of oil but due to the many wars which happened in those countries, the supply of oil was less than the demand hence meaning the drastic increase in the oil prices. The diagram below shows an increasing rate of oil price increase. (George, 2000). Source: (George, 2000). Supply and demand in the oil market Most of the oil supply and demand will inmost cases depend on many factors in the producing and the exporting countries. You will find that the supply of oil in the market can sometimes be high while at the same time is low. This depends on so many factors which are said to affect the market. So in this case the world prices will determine the supply and the demand of oil in to the market. If the price for oil is high, you will find that most of the exporters will pump and export more so that they can get high revenues. But when the prices are low, the opposite holds true. You will find that the exporting countries will pump less oil since the prices are less. So it is due to the issue of the world prices which has led to a greater concern in most of the exporting countries to ensure that they have stabilized the economy since there are so many cases of price fluctuation hence affecting most of the economies. (George, 2000). Reasons why prices increase and decrease There are so many factors as to why oil prices increase and decrease hence affecting the economic growth of most of the countries today. One is the economic and the political tensions in most of the oil rich producing countries plus their immediate surroundings. You find that majority of the exporters of oil products come from the Middle East countries whereby in these grounds, negotiations for peace are still underground and their peace process is on the shaky grounds. For example the Turkish many incursions to the Northern part of Iraq led to the shooting up of the oil prices in Iraq. So due to these many oil conflicts, then it means that the oil prices in this case will be unstable hence leading to low supply of oil and at the same time an increase in the oil producing countries. (Kenneth, 1997). Reduced supply is also another factor which hassled to the increase in the price of oil in the consuming countries. For example, you find that cartels such as OPEC can decide to pump less oil with the intension of raising the market prices for oil. So you find that OPEC might decide to pump less of this oil so that the supply in this case can be low while at the same time the demand will be high leading to the increased market price. It is out of rationing of the oil that the exporting countries in this case will record high revenues. Terrorist’s attacks can also lead to the reduced supply of oil meaning increased market prices. You find that during times of wars or when a country has been invaded by terrorists, it will mean that there will be less production and exportation of oil. For example, the current passed US energy bill which was expected to cut off tax breaks for most of the big oil companies hence at the same tome sending the oil prices through the roof and this was as a result of the industries lobbying efforts. Currency fluctuation is another factor which affects the oil prices. For example, United States is a major importer of oil and you find that most of the transactions are done by the use of the U.S dollars. So you will find that the changing value of the dollar with the rest of the currencies in this case can have an impact on the price of oil in that for example if we have a stronger dollar, it will mean that the lower the price and the opposite holds true. (Kenneth, 1997). OPEC OPEC contributes to two thirds of the world oil reserves and this is the current report on the contribution of OPEC. In the year 2008, 37.6% of the total world’s oil production was produced globally. OPEC usually meets two to three times annually so that they can set the price for oil so as to avoid the issue of price fluctuations in the fourteen member countries. It also controls the oil price through the control of its oil production. For example you find that if OPEC was to cut its production say by 10%, this reduction in the oil production will sent an impact to the consuming countries in that the world price of oil will be far higher than it is now. (Kenneth, 1997). The power of price in this case lies in the flexibility to act in a million of different ways many of which are unexpected. You find that in moat cases, even when the price directly affects people, you find that they don’t even recognize the changes in the price increase. An example to explain this is the upset with the high gas prices which dates back in the year 1975 whereby the increase in the gas prices did not have an effect to the production of gas. So in this case, it shows that power of price in some of the commodities in that despite the fact that the price of oil in increasing, people will still have an increased demand for oil consumption. The OPEC influence in to the market has been called in to question. This is because most of the OPEC members have caused high price inflation in most of the developed and the developing countries hence affecting the stability of the oil market so much. This is during the time when they used the oil embargos in the year 1973 oil crisis. It is since the 1973 oil crisis that OPEC has not been in a position to control the oil prices. It was also since the oil crisis that there was a development of a large oil reserve in most of the countries like the Gulf of Mexico hence leading to a stiff competition to OPEC. It was due then that most of the market prices eventually rose due to the process of trying to compete for the largest share in the oil market. There was a big crisis during the discovery of the oil deposit hence making it a challenge to OPEC. (Kenneth, 1997). Most of the OPEC decisions are so much affected by the dollar. This is because you find that the worldwide oil sales have been dominated by the US dollar meaning that all the currencies are converted in to the dollar hence meaning that the OPECs decision is affected by the dollar currency. For example you will find that when the dollar falls relative to the other currencies, it will mean that the revenue which is got by OPEC will be less since this is the same as devaluating the value of te US dollar. It is through this that the exchange rate for the US dollar with the rest of the currencies will be low hence less revenue will be got. So this is one of the areas whereby OPEC has not been in a position to stabilize the economy as a result of the devaluation of the US dollar. It was due to the introduction of euro when most of the exporting countries like Iraq opted to be paid inform of euro than just been paid inform of US dollars since the dollar led to less revenue to the exporting countries. Then the total exchange currency was changed in to the euro from the US dollar but later the Iraq government reversed the policy and remained again to the US dollar. (Duncan, 2003). Competition faced by OPEC OPEC is facing a stiff competition from other producers of oil. A good example to explain this is the discovery of large oil reserves in the Gulf of Mexico plus the North Sea plus ale the opening up of the Russia. These countries have given OPEC a stiff competition hence not in a position to control the oil prices. This has risen as a result of the issue of trying to conserve the environment hence it is due to this issue that other crude fuels which are said to be renewable have emerged. Another competitor to explain this is the Bio Diesel product. Bio diesel is a company that deals with alternative fuels for diesel engines and it is one of the companies which are getting a high attention from all over the world. It has received so much attention simply because it is renewable. You find that its products can be renewable hence it has participated a lot towards the protection of the environment since this is one of the basic factors which are needed by a company, the protection and the preservation of the environment. The bio diesel company in this case is also important in that it can be used either in blends with the diesel fuels mostly in unmodified engines or can be used in its pure form. It also reduces the exhaust pollutants hence not polluting the environment just like other diesel engines. Bio diesel can be defined as the mono alkyl esters of fatty acids which are got from the vegetable oils or even got from animal fats. These products are then chemically combined with other chemicals like the alcohol so that it can produce a chemical product which is known as fatty acids alkyl ester. In the production of this compound, it also requires a catalyst which can either be potassium or even sodium hydroxide. The by product of the reaction is glycerin which can be renewable in this case. The reaction in this case requires the following chemical reactions. Bio Diesel Company is increasing at an exponential rate as a result of the many processing plants which are coming online. It is as a result of the increased demand of Bio diesel fuel that it has led to the demand of highly qualified technicians, engineers, chemists so that they can help in the production of high quality products hence leading to an intensive growth of the company. It is giving a stiff competition to most of its competitors meaning that in future, it might take the largest share of the fuel market in the United States. (Duncan, 2003). Source: (Collin, 1997). Elasticity of demand and how elastic is the oil market. Elasticity of demand in this case means that there is a proportional increase of both price and demand in that, you will find if the price of oil increases, the demand for oil will also increase. For example you find that due to the 1973 Arab price embargo, the model that best fits this phenomenon is the monopoly whereby we have linear demand and at the same time we have demand elasticity at -1. This results shows that the world market for oil was highly influenced by OPEC. This shows that the real oil prices will fall in the ranges $57.87-60.54/barrel and this is expected in the years 2008-2020 respectively. You find that the oil prices are elasticity that you will find that if the market prices increase, the demand will not be affected in this case. This is because of the increased technology which has led to the growth of most of the economies meaning that people have increased incomes while at the same time purchasing their own cars. So you will find that due to the issue of increased economic growth in most of the countries say in the united states, this will mean that the demand in this case will be elastic to price. Also you find that there are few substitutes for oil hence meaning that the price for oil will be quite elastic.So it is due to the lack of more substitutes for oil that has made the demand for the oil products to be quite elastic meaning that people have to consume oil no matter whether the prices have gone high or not. It is due to this fact that most of the oil prices have remained so high simply because the producers of oil know that there is a high demand for oil. (Collin, 1997). Conclusion There are so many reasons which are associated with the price fluctuations in the market. You find that most of the prices tend to fluctuate when there is a high demand of oil meaning that the supply in this case is less. So with the oil market, this is one of the areas whereby most of the markets have had price fluctuations mostly. This is because you find that most of the exporting countries of oil are mostly the rich countries and hence would like to exploit the poor countries who do import oil products especially the developing countries. It is due to this fact that you find that the producing countries lead to the pumping of little oil meaning that there will be less production of oil and demand on the other hand will be high. So due to the high demand and the less supply, the market prices will then be high. Reference Mathew, S 2000, “The Saudi Arabian Oil Miracle”, New York Times, New York. George, J 2000, Forecasting of rising oil demand challenges Tired Saudi Fields, New York Times, New York. Kenneth, S 1997, The impending world oil shortage, Princeton University press. Collin, J 1997, The coming oil crisis, Multi- science publishing company and petro consultants. Duncan, R, 2003, The end of the oil age, Dale Allen Pfeiffer, Center for research on globalization. Read More