Root of High Oil Prices
By Arnold Padilla, IBON
Senior Researcher
Aug. 9, 2004
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A recent article by
Reuters tried to explain why oil prices are high. It gave five major
reasons: Rising demand driven in particular by Chinese and Indian markets,
lack of spare supply capacity, political tensions in the Middle East and
financial crisis of Russian oil giant Yukos, stricter environmental
regulations especially in the US, and scarcer oil.
While these factors
explain to a certain degree the latest surge in world oil prices--with New
York Mercantile Exchange (NYME) oil posting an all-time high US$44.24 per
barrel, London’s Brent crude with an unprecedented US$40.28 per barrel,
and Dubai crude with a 13-year high US$37.50 per barrel--they do not fully
explain why oil prices are high.
Global cartel
To understand global
oil prices, it is not enough to simply look at factors that affect supply
and demand. It is more important to closely scrutinize the structure of
the global petroleum industry to grasp the dynamics of the forces that
influence prices. Historically, the global oil market has never enjoyed
free competition. Since its birth in the late 1800s, the industry has been
dominated by a few giant American and European corporations. In fact,
US-based Exxon (now Exxon Mobil, the world’s largest oil company), once
boasted that it was already a transnational corporation (TNC) 50 years
before the term was invented.
Aside from Exxon
Mobil, the world’s top oil firms also include Royal Dutch Shell
(Britain-Netherlands), British Petroleum (Britain), Total (France),
Chevron Texaco (US), and Conoco Phillips (US). Based on Fortune magazine’s
2003 list of the biggest 500 corporations in the world, these oil giants
have combined revenues of US$788 billion, profits of US$34 billion, assets
of US$619 billion, and employ more than half a million workers.
Just how powerful are
they? Author Anthony Sampson, in his book the Seven Sisters, has offered
the most graphic description: “Their supranational expertise is way beyond
the ability of any government. Their incomes are greater than most
countries where they operate. Their fleet of tankers has more tonnage than
any navy. They own and administer whole cities in the desert. In dealing
with oil, they are self-sufficient, invulnerable to the law of supply and
demand and to the vagaries of the stock markets.”
Such unimaginable
wealth and power stem from the control that these TNCs have on all the
aspects of their business. The six largest oil companies can produce more
than 80 million barrels per day of crude and refine more than 112 million
barrels per day of various petroleum products.
Recent surge in prices
This commanding
position allows them to practically impose oil prices on the market
independent of any external factor that may affect prices. For example, it
is not true that stricter environmental regulations caused strains on
refining capacity, leading to shortages and price spikes in the US oil
market, as argued by the Reuters article. The US Federal Trade Commission
has found out that oil companies (as stated in internal memos and
documents of Exxon Mobil, British Petroleum, and Texaco that the
commission uncovered) intentionally withheld gasoline supply in the
American market and drive small refiners out of business to jack up prices
and maximize profits.
The Reuters article
claims that there is a lack of spare supply capacity, aggravated by rising
market demand, is also questionable. As estimated by the Energy
Intelligence Group, there are seven to eight billion barrels of oil tied
up worldwide at any given time. The question is who controls these stocks.
In its online primer Oil Market Basics, the US-based Energy Information
Administration said that most of the world’s storage capacity is owned by
the companies that produce, refine, or market the oil (read: the oil
giants) while a number of small independent operators rent it to third
parties. If oil companies that have their own storage capacity want to
keep their stocks untouched for a year, for instance, it would only cost
them US$1.50 per barrel--a measly sum compared to the profits they would
rake when prices shoot up due to “lack of spare supply.”
It is therefore no
longer news that the world’s two most dominant oil players—Exxon Mobil and
Royal Dutch Shell--are also posting record profits. In the first half of
2004, Exxon Mobil raked an all-time high US$5.79 billion in profits while
Royal Dutch Shell reported a 54% jump in its earnings. British Petroleum
and Conoco Phillips also showed ‘sterling earnings reports’ in the first
half.
Bursting the myth
The recent surge in
oil prices has actually burst the myth that it is OPEC that dictates world
oil prices. Remember that since late 2003, there has been pressure on
OPEC--which accounts for 55% of internationally traded crude oil--to
increase production to stabilize global oil prices. OPEC gave in,
expanding production to a 25-year high but still unable to prevent prices
from posting record highs. Oil giants control OPEC oil; Chevron Texaco
gets more than 40% of its crude from OPEC, while Exxon Mobil, 25 percent.
The other TNCs also have huge oil wells in OPEC member-countries.
In other words, even
if OPEC increases its crude output, the oil firms are still the ones that
decide the price. Apparently, there are a lot of factors that affect
prices of which OPEC has no control. If the oil TNCs, for example, do not
want to run their refineries (the six biggest oil companies have 186
refineries) at full capacity, prices will continue to rise. Or if they
simply want to keep their oil in storage to further push prices up before
releasing them to earn more profits, nothing prevents them from doing so.
Volatile commodity
Oil is a highly
volatile commodity--it is very vulnerable to price speculation, which is
also among the reasons cited by Reuters for the high oil prices. Traders’
confidence in the market is being weighed down by security concerns as the
resistance from Iraqi guerillas against the American invasion intensifies.
For the oil TNCs, wars and speculation mean more money. They welcome
speculation brought about by political tensions because it artificially
bloats oil prices and therefore fattens their pockets.
Speculation
artificially increases oil prices because most oil in the world are not
traded in spot markets or futures markets. Most of the oil is traded
through long-term supply contracts between buyers and sellers. In the case
of the big oil TNCs, they are both the buyers and the sellers (intra-TNC
transaction) and thus do not need a spot market. However, prices in spot
markets and futures markets provide a signal about supply-demand balance
(which TNCs can distort at will) that influences contract prices.
More profits
Under deregulation,
subsidiaries of oil TNCs operating in net oil importing countries like the
Philippines refer to the spot market price (Dubai for crude and MOPS for
refined petroleum products) to estimate and project domestic pump price
adjustment, even if their oil purchases are actually under contract
arrangements. This provides room for the local units of the oil TNCs to
squeeze more profits by increasing pump prices when the spot market price
go up even if their oil purchases have been negotiated long before and
with lower prices.
Spot market prices
are also used as a benchmark in computing local pump prices even if
companies like Pilipinas Shell, Caltex Philippines, and Petron Corporation
(which control 90% of the local market) have long-term supply arrangements
with their mother TNCs or affiliates and thus have much lower production
costs than what are reflected in the spot market. Besides, since these
contracts are actually transactions of units under the same TNC, the
production costs may even be lower than declared. Don’t we wonder why
Dubai crude costs almost US$38 a barrel when the actual cost of producing
a barrel of crude oil in the Gulf region is as low as US$2? Monopoly rule
allows oil TNCs to manipulate prices and to impose high prices at whim.
Without state control, no thanks to oil deregulation, we have seen what
these profit-hungry giants can do to us and our economy. TNC monopoly
control also explains why nationalization of our oil industry is the only
meaningful solution to exorbitant prices. IBON Features
Bulatlat
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