Thu | Oct 18, 2018

Oil prices trending down

Published:Wednesday | December 17, 2014 | 12:00 AM
Dr Andre Haughton

OIL PRICES began the year at US$115 per barrel, subsequently falling to approximately US$98 per barrel by

the end of July. According to the Organization of the Petroleum Exporting Companies (OPEC) reference basket, which is used to measure changes in monthly oil price, the price of the commodity fell by 11 per cent in November. Prices have fallen further to US$55 per barrel currently.

Historically, oil prices sky rocketed to over US$140 per barrel during the asset bubble of mid-2008. When the bubble burst, prices fell to a little of over US$30 per barrel by mid-2009. Subsequently, the prices have been volatile but have now taken a gradual downward trend since the beginning

of 2014. This has been having a positive impact on the economies of oil-importing countries.

Consumer prices fell by 0.5 per cent for November, due mainly to reduction in the prices of vegetables and electricity on the consumer price index (CPI). The Jamaica Public Service reduced fuel prices on electricity bills in November after eight months of consecutive increases in response to falling global oil prices. According to the Fair Trading Commission, oil prices at the pump have fallen by 17 per cent recently, compared to 20 per cent in the US, although motorists claim they have only received marginal price decreases.

It appears the market is characterised by price asymmetry, where increases in oil prices are passed on to consumers quicker than decreases. Here, retailers pass on the costs associated with oil price increase quicker to consumers than benefits they receive from oil prices decreases. The Jamaican dollar exchange rate depreciated further against the benchmark US, falling approximately 7.5 per cent since the start of the year, closing at US$114.29 to US$1 at the end of the trading day on Monday.

Oil futures are contracts signed today for the delivery of a specific amount of oil from seller to the buyer at specific time in the future at a price determined today. For example, an oil futures purchaser can enter into a futures contract to purchase 100 barrels of oil at a current price of US$55 per barrel which will be delivered in the next three months. In this case, purchasers pay for the oil in advance. Even if prices fall, you are already contracted to pay US$55 per barrel originally, which cannot change.

To take advantage of further fall in prices, purchasers will have to enter new oil futures

contract. Crude oil futures are traded on the New York Mercantile Exchange NYMEX in dollars per barrel and on the Tokyo Commodity Exchange in yens per kilolitre. Crude oil futures can also be the underlying asset traded in crude oil options. Holders of crude oil option have the right but not necessarily the obligation to trade their options at strike price before the end of trading day on the maturity date. Trading of oil future and options are critical to global economic activity.

According to OPEC, by 2040 the world economy is expected to grow by 260 per cent of that in 2013. Energy demand will increase by 60 per cent and fossil fuel will remain the main source. The world supply of primary energy will gradually increase over the next 40 years; oil supply will increase the lowest by 0.7 per cent per annum, coal will increase at a steady rate of 1.4 per cent per annum, bio mass 1.5 per cent per annum, nuclear 1.6 per cent per annum, hydro energy 1.8 per cent, gas 2.4 and other renewables 7.7 per cent.

Commercial vehicle usage is also expected to grow significantly by 2040. These are necessary for transport and commerce in economic growth. There are expected to be more than 500 million commercial vehicles on the roads globally, 300 million more than that of 2011. Growth in commercial vehicle usage in developing countries is expected to increase beyond that of developed countries.

Currently, there are more commercial vehicles in the OECD. Notwithstanding this, average oil use per vehicle is expected to decrease by 2.2 per cent per annum. Any deviations from the global economy from forecast will disrupt oil price projections as well.

n Dr Andre Haughton is a lecturer in the Department of Economics on the Mona campus of the University of the West Indies. Follow him on twitter @DrAndreHaughton; or email: editorial@