The Sunday Leader

Fuel Price Issue Ignites

by Hasitha Ayeshmantha

On the eve of the country keeping a ‘full stop’ to an eventful 2015, much debate has been hovering over the fuel prices in Sri Lanka being in a position to be further reduced and that the country has been in need of a proper fuel pricing formula which steps in line with the global fuel pricing mechanism. With the global crude oil price standing at Rs. 30 per litre it is in the grapevine that the fuel prices in Sri Lanka could be subjected to a further reduction.

Speaking to The Sunday Leader, Minister of Petroleum Resource Development Chandima Weerakkody said that the government provided oil at a lower rate even when the global oil price was at a growth spurt. He asserted that in doing so, the government had to face huge losses. According to Weerakkody, the government had to pay an amount around Rs. 12 million solely as the interest.

It was learnt that the Sri Lankan government was able to come up with flexible price changes as the petroleum corporation is a state-run establishment.

However, the Minister laid to rest any rumours put forward regarding a possible increment in oil prices in the near future, saying that the government is working towards introducing a standard pricing formula to determine the increasing and decreasing of oil prices. He stated that the basic groundwork necessary to draft a cabinet proposal regarding the fuel pricing formula is already underway.

When considering the global oil industry, lower fuel prices may seem great for the consumer, but we know that not all of the cost saving of lower crude oil and gas prices have been passed on to the general public. Oil and gas refiners prosper from lower oil prices. Like the rest of the oil industry, refiners’ revenues are down, but their profit margins are up significantly.

In this scenario, refiners are using lower crude prices to widen their cut of the pump price of oil. In other words, the lower price of oil is not entirely passed down to consumers at the pump; instead the difference is enabling refiners to increase their profits.

 

Variation in Sri Lanka

Statistics presented by the Central Bank of Sri Lanka (CBSL) clearly shows the percentage changes in oil imports to the country and the value fluctuations associated with the agenda.

In the case of Sri Lanka, the fuel prices saw a steady hike since the middle part of 2008 and after that along with the US moderation, the prices again slid down moderately. After the new government came to power in January 2015, as per the promises made on the common candidate’s elections manifesto, the new government declared a massive reduction in oil prices. However, at that time the global oil prices were also gradually decreasing.

 

Price falls

Crude oil prices have been plummeting since June 2014. The initial fall was rapid and unexpected. This was because production grew faster than projections and demand deteriorated faster than expected, resulting in an excess of oil for sale in the world. Periodic rumour-fuelled rallies in the market since June 2014 have proved to be the result of wishful thinking. Recent events, such as the fall in Chinese growth projections and the end of sanctions against Iran, have given economists reason to downgrade their expectations for crude oil prices.

However, in 2014 during the Rajapaksa regime, the oil prices kept to a particular spurt and even though there were quite visible fluctuations in the global oil market prices, the impact on the local oil prices was not on the same scale. Then opposition strongly alleged that the Rajapaksa government had the possibility to reduce the oil prices further as the global indices showed clear depreciation.

 

The future global market

The Brent Crude and WTI indices both display the average price for oil reported by the big buyers and sellers of crude oil. This is the “spot” price, which means the cash price for a barrel of oil where the transfer of ownership occurs now. The futures market deals with a forward price. When a buyer strikes a futures contract for crude oil with a producer, the contract contains an agreement that the sale will occur at a specified point in the future and at a specified price. The buyer does not pay then and there – that would be the spot price reported by Brent or the WTI. Instead, the contract is meant to be paid in three months time, or six months time, or one year ahead, for example.

Therefore, a buyer and a seller may sign a contract for the immediate transfer of ownership and an immediate payment, but with delayed delivery – that would be dealt with on a commodities exchange. If the contract specifies delayed transfer of ownership and a synchronised payment at a future date, that contract would be dealt with on the futures market. Given that the only difference between the spot price and the forward price is the date of transfer of ownership and payment, then you would expect that the two prices should be fairly well coordinated. They usually are, but at the moment, the two markets are out of synch. This situation presents opportunities for speculators and can artificially raise immediate demand for any commodity or service, which will increase the price.

 

What sets global oil prices

The price of oil as discussed in the news is the price of a commodity different from the gasoline you fill your car with; it is in fact crude oil. Crude oil is the base product that gets processed into gasoline at oil refineries. So, if the price of oil goes up, the price of gas goes up. However, there are a number of other factors affecting the price of gasoline and that’s why the gas price doesn’t always fall with the price of oil. Refining capacity can rise and fall. If a major refinery develops problems and has to shut down, then the amount of gasoline that can be produced falls. The price of gasoline rises because of shortages, but the price of crude oil will fall because of gluts. Transport costs can also affect both the price of crude oil and the price of gas as the oil needs to be taken to the refineries and then the gas needs to be distributed from the refineries to gas stations. So if the price of transport rises significantly on any stage of this supply chain, the pump price of gas will increase irrespective of what the price of crude is doing.As an example, the USA consumes much more oil than it produces, so if some major oil producing countries unexpectedly withdraw their oil from the market as happened during the 1973 oil crisis, the economies of the USA and the developed world can suffer long-term damage. For this reason, the Federal government created a vast oil storage facility called the Strategic Petroleum Reserve, or SPR. In this case, the President can take the decision to release oil from this reserve to balance out any sudden drop in the supply of reasonably priced oil. To limit consumption, state and Federal governments can increase the price of gas by imposing taxes and levies on oil companies, refineries and gas stations.

 

Possible price hike?

Following Minister Weerakkody’s statement on the government debt solely on interest surpassing Rs. 12 million, a question remains as to whether there will be a hike in oil prices as the government will somehow have to compensate the due amount.

The next concern is that the proposed Fuel Pricing Formula has been in the grapevine from some time now, extending from the time of the former regime. The proper methodology would be to hasten the cabinet approval procedure and take up the decision making procedure in Parliament. If this scenario plays out as expected, the people would be able to predict the fluctuations in fuel pricing.

4 Comments for “Fuel Price Issue Ignites”

  1. srilankan

    Local fuel prices should not be blindly brought down for the following reasons:

    (a) this will encouage all private vehicle owners to do more private

    travelling. Imagine the mess that would be created on the already

    congested roads.

    (b) the Petroleum Corp. is supposed to be in the red and running

    at a loss. This should first be cleared.

  2. razi

    reducing prices of LP gas cylinders and reduction of electricity will benefit the entire country reducing

  3. Isiirangeen Udarath Wanigasekara

    Sree Lanka must get crude oil

  4. Silva

    if the government not willing to reduce the fuel price for the reason of road congestion then instead of reducing fuel price can reduce electricity bill or food items to counter balance as a new formula until we expand our roadways and highways.

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