What caused the fall in the price of petrol?

Saudi Arabia handed over all responsibility for oil prices to the market in November 2014

There was a time in Karachi when a gallon of petrol cost the same as the famous, succulent barbecued chicken tikka which was created and perfected by a chef at Hotel Farouk off Elphinstone Street and introduced at the New York’s World Fair in 1960. Not only was this exotic snack the main focus of culinary interest in the Pakistan stall, every morning the proprietors would laugh all the way to the bank. A tikka is still available for less than Rs200 but the price of petrol and diesel, sold by the litre, recently skyrocketed, at times provoking strikes by transporters. What is worse is that the price fixed by the government appeared to have little relevance to the prevailing international price and was often motivated by political considerations. In spite of all the conspiracy theories about the US and Saudi Arabia ganging up against Russia, Iran and Venezuela and manipulating oil prices to destroy their economies, there is a very simple explanation for why the price of oil, which for much of the last decade hovered around the $110 a barrel figure, dropped to under $70.



The international price of oil, as indeed for most items that are used globally, is partly determined by actual supply and demand and partly by prediction and expectation. Demand is also determined by economic activity. In the past, I remember reading horrific stories about Brazil destroying hundreds of tonnes of coffee in order to protect the world price; and Holland doing the same sort of thing with its butter. A donation to African and Asian economies was unthinkable. Left-wing writers in Calcutta and Trivandrum often used these examples in their indictment of the evils of capitalism. The US was once the world’s largest producer and exporter of oil and was referred to as its Swing Producer — increasing supply when necessary and reducing supply when required. That is, until 1970, when production had dropped and when the country started to import oil from Saudi Arabia which then became the world’s Swing Producer. There were a few conspiracy theories afloat at the time in Karachi. One went like this: America had plenty of gas tucked away underground in Texas and California but was saving it for purposes of defence. A few decades later on November 27, 2014 at the meeting of the Organisation of Petroleum Exporting Countries in Vienna, Saudi Arabia, the world’s largest oil producer, which headed the cartel that controlled 40 per cent of world production of petroleum, handed over all responsibility for oil prices to the market. The decision was not unanimous. Venezuela and Iran, among others, hotly contested the decision and wanted petroleum production to be curtailed. But they had little effect on the final decision. What this in effect meant was that the US, whose oil production in December 2014 had almost reached the pre-1970 production figure, once again became the Swing Producer.

So, why has this dramatic fall in the world price of oil taken place? Because in 2014 the supply of oil was much higher than demand. Weak economic activity, a fall in demand from China, increased efficiency and a growing switch from fossil fuels to other forms of energy were the main causes. The introduction of car batteries which are being employed for speeds of up to 50 miles an hour also cut demand. A fall in demand from the US helped to create a lot of spare supply. And then there are the Saudis and their Gulf allies which suddenly realised that if they started to play the curtailment game, they would lose their traditional market share. And so wiser counsel prevailed.

Published in The Express Tribune, March 22^nd, 2015.

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