Expensive crude: controlling the controllables

Pricey imports of energy products expose millions to back-breaking inflation

KARACHI:

The persistently high crude oil prices will likely weigh heavily on Pakistan’s economy, and there’s little the country can do.

However, by lifting domestic production of petroleum products like diesel, it can avoid paying hefty premiums to foreign firms on the purchase of refined products.

The expensive imports of energy products, like crude oil, petrol, diesel and liquefied natural gas (LNG), have hollowed out the economy and exposed millions of Pakistanis to back-breaking inflation.

Imports of the petroleum group usually eat up more foreign exchange than any other commodity. This segment alone accounted for around 30% of total imports of goods in FY22.

The petroleum group imports came in at $23.3 billion in the previous financial year, including $12 billion that was spent on buying 18 million tons of petroleum products, according to data of the Pakistan Bureau of Statistics (PBS).

The value of these imports more than doubled last year owing to high oil and LNG prices that triggered massive trade and current account deficits and pushed inflation to levels not seen in several years.

In recent months, however, the demand for refined petroleum products dropped due to high pump prices, floods and the economic slowdown. A 31% decline in petroleum product imports was seen in the first three months (Jul-Sept) of current financial year (FY23) as compared to FY22.

Crude oil imports fell by 23%. But with high prices and devaluation of the currency, the petroleum group import bill still increased by 6%. And the bad news is that the future isn’t looking bright either.

Oil demand is weakening in many countries, not just in Pakistan. Petroleum product consumption could drop by 420,000 barrels per day (bpd) in China, which is the key driver of global demand, in 2022, according to the International Energy Agency’s (IEA) estimate.

However, the positive impact is being offset by power plants that are using greater quantities of petroleum products for electricity generation due to increase in natural gas prices.

IEA believes that in the fourth quarter of 2022 and early part of 2023, oil consumption for power generation could rise by around 100% to 700,000 bpd.

Moreover, the OPEC+ alliance of oil producers has clearly indicated that it intends to keep prices elevated by tightening supplies. If the demand outlook worsens in the coming months with the deteriorating economic environment, then the OPEC+ likely won’t hesitate to further reduce supplies to maintain high prices.

What makes this bad situation worse is that the market for refined petroleum products, especially diesel, is even tighter. Fuel exporters like India are curbing supplies to other nations.

At the same time, the demand for diesel in the commercial sector and for jet fuel in the aviation industry continues to rise.

What are the implications for Pakistan? High oil prices will pose a major challenge to all oil-importing countries, particularly Pakistan whose economy is already in a precarious situation.

Pakistan can’t do much, except buy the commodity at the prevailing price. The government, reportedly, is exploring the option of procuring oil at a discount from Russia.

But it remains unclear whether this is viable, given the financial sector’s understandable reluctance to become a party in a transaction that may expose it to US sanctions.

Fortunately, however, when it comes to product prices, there is a lot Pakistan can do. The country has the potential to substantially increase the production of fuels, like petrol and diesel, by ensuring that the oil refineries run at maximum capacity.

Local oil refiners have been facing numerous issues, including reduced access to credit and volatility in the furnace oil market, which have hampered their ability to fully utilise their plants.

In fact, Pakistan has witnessed a drop in petrol (motor spirit) and high-speed diesel production, the latest report of the Oil Companies Advisory Council (OCAC) shows.

Refineries produced an average of 181,500 tons of petrol and 300,900 tons of diesel per month in the first two months of current fiscal year, which is down from last year’s average of 206,900 tons (petrol) and 392,000 tons (diesel). As such, the refinery utilisation came in at a poor level of around 50%.

The government must devise a strategy that could lift the utilisation rate to a healthy range of 90% to 100%. For this, the policymakers must sit with the industry stakeholders and address their concerns.

The refiners, like other industries, have also experienced problems related to the opening of Letters of Credit (LCs) for import of crude oil.

Additionally, banks have been hesitant to enhance credit facilities for the refining industry whose working capital requirement has soared due to high oil prices. This has hampered the refiners’ ability to procure crude oil for producing petroleum products.

The government must find a workable solution that brings additional liquidity to the refining sector. By alleviating the financial constraints and giving easier access to credit, the policymakers can push refinery utilisation rates higher.

This will translate into increased levels of petrol and diesel production. These additional barrels will meaningfully reduce the country’s import requirements.

The writer focuses on subjects related to business and economics, specialising in the energy sector.

 

Published in The Express Tribune, October 31^st, 2022.

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