Almost Somewhere

Quite a while back, the per-litre controlled price of petroleum in Malaysia was raised because the government wanted to reduce the petroleum subsidy. Someone circulated an email suggesting that instead of filling up your tank everytime you go to a gas station, you should fill up only a bit.

The email creator compared the situation with buying eggs saying that instead of buying ten eggs for the whole week, buy only two eggs a day and this should create a surplus that will help push the price of eggs down. In the email writer’s reasoning, this should also be applicable to gas.

To spice things up, one of the receivers of the email also suggested that we boycott even the gas stations and don’t buy anything else there except petrol. One of the replies suggested that all this won’t work because Uncle Sam is the one controlling petrol prices.

I couldn’t resist that email and wrote a lengthy answer back then. Just to share, here is the answer:

It won’t work for several reasons:

1. Petrol is not perishable. You can store them as long as you like.
2. There is no issue on storage. In fact, most of today’s storage reserve is depleting.
3. Unlike eggs, petrol is a high necessity item. Most nations depend on oil for energy especially electric power generation. There will never be excess because whenever price falls, nations will buy them and stock them. That’s the main reason prices go up, not because of consumer demand. The current price is going up mostly due to fear of future shortage due to war and natural disasters.
4. Unlike hens, petrol production can be stopped. In fact that is why OPEC was founded in the first place – to control production and maintain prices.
5. Buying $10 three times a week or $30 a week does not make any difference. If everyone buys only $10 a week, then everyone buys many more times. Whatever you didn’t buy today will be bought by someone else who bought only $10 two days ago. This is because whether you buy once or thrice, you still use up the same amount. So, you might not be buying today but someone else who bought yesterday might need to refill again today, making up for what you did not buy. In fact, it doesn’t even work so good for eggs because if you buy ten eggs, you consume them in five days. And if everyone does the same, also five days each. If you buy two a day, you buy two every day of the five days. So does everyone else. In the end, the total bought for the whole week will remain the same. It might have a very miniscule effect on eggs because eggs are perishable but whatever effects they have on petrol are totally negligible because petrol is not perishable.
6. Buying everything else at the gas station actually helps in reducing the oil price, not increase them. If, say, due to your boycott of other items at gas stations, a few of the stations have closed due to profits lower than their opportunity cost, the number of gas stations will be temporarily reduced. In any economic situation, less players in the market means more monopolistic power to players that survive. Monopoly is never good because it will give the suppliers more power to raise prices especially for high necessity goods such as petrol.
7. Oil producers will never cut price. OPEC is created specifically for the purpose to control price. Price will go down one day once the high demand due to future uncertainties are lessened but OPEC will still control production so that they will always command a price that is actually higher than if they do not control production.
8. Higher oil price is not necessarily a bad thing. We do not yet have political will to force biofuel usage. If price of oil drops too low, many nations will take the opportunity to use up more fuel or stock more of them. What happens when we run out of oil prematurely before other efficient energy sources are fully developed?
9. In most countries, such as Malaysia, oil price does not fluctuate on a daily basis. It may rise, but seldom falls. And that is very seldom (almost never). This is especially true in Malaysia. You know why? It’s because even the current price is a controlled price. If you take out the control, the price will skyrocket because the demand is very high – unless a huge number of us opt to use alternative power source or just take a bicycle to work. That, in itself, is very unlikely. 🙂
10. Price of oil, unlike eggs, are not based on local demand. Eggs are perishable and transboundary movement of eggs are limited by that fact. Oil, on the other hand, is a global commodity. Local prices will be dictated by the world price level. If the world price level increases, even for oil-producing nation like Malaysia, the local price will increase. At a glance, we can just question why do we have to increase price? We can just stop exporting oil and we’ll have enough for our own use without having to raise prices! But that is never the case with a global commodity. The reason is simple – the same reason that drives economies – greed (no, it’s not love that makes the world go round, sorry…). If export price is higher, why stop exporting? Just accept the world price and if folks back home can’t pay that, there’s still the whole world willing to pay for that price. Even if the oil company is owned by the government, the government can sure use the extra income – there’s a bunch of old loans that need paying, anyway.

By the way, Uncle Sam is not actively manipulating the petrol price since the US are actually net petroleum importers. Higher price means that they will have to pay more. However, they are highly dependent on oil for their energy needs (they consume 80% of the world resources for a population that make up less than 20% of the world). Whenever they sense the future of oil is not secure, they’ll start buying and stock up their reserves. In the process, they contribute to the artificial shortage and causes increase in prices. If they can manipulate petrol price, the world will be a safer place – the US will not need to invade Iraq or Afghanistan.

There. The economist in me just can’t resist.. He he. 🙂

Yup. See. There’s a reason the world goes round… and it’s not love.