1(a) Explain the key demand side drivers of price for oil.
In recent years, the fluctuations of oil prices have gotten the attention of the whole world. From $20s in 2003, it hit a mid-term peak of $148 in mid 2008, then fell to $30 during early 2009, and now back to $70-$80. Economic principles have demonstrated that the rise of oil price is a function of lack of supply and greater demand. We know that oil is lack of supply since there’s no major oil field found in the last 40 years and oil can’t be made within decades. However, the following conundrum has not been resolved: What are the key demand side drivers of price for oil? The price of oil depends on a variety of factors which leads to the increase of price. In summary, there are five key demand side drivers, the rise of developing countries, especially China and India, the depreciation of US Dollar, the stimulation on world economy, the increase of global transport, and the rise of other raw material prices. First of all, the major key demand side driver of price for oil is the rise of developing countries1. The two largest ones are China and India. The population of China is 1.3 billion and that of India is 1.1 billion, combining the population of these two countries, it becomes 2.4 billions of population. It is more than one third of the whole world population. Combining all populations of United States, all developed countries in Europe, and Russia, there is only around 0.7 billion population. The population of China and India is more than triple all developed countries combined. Can you imagine how much the use of oil will be increased by just China and India? Furthermore, these two developing countries have just started to develop for about two decades. The average age of China is 37 and the average age of India is 25 only. That means, in the coming 20 to 40 years, the economy of these two countries will still be growing and developing. Thus, the demand of oil will keep increasing for the coming 20 to 40 years. Even though there maybe down turn cycles during this period of time, in long run, it must be rising greatly. However, the economy may not have to go up if the central banks make the wrong moves. That brings us to the second key demand side driver of price for oil, the depreciation of US Dollar.
Since we’re currently using a flat monetary system, money can be unlimitedly printed. The governments don’t have to pay anything but just turn on the money printers. Along with the election political system using by most developed countries, it makes an ultimate combo for depreciation of US Dollar in long run.1 Knowing that the central banks want the economy to grow but not too fast, and not fall at all. Thus, whenever there’s economy recession, the central banks will do whatever they can to save the banking system and the economy. Since 1987, their actions have been printing money and keeping low interest rates in order to stimulate the economy. This leads to the depreciation of US Dollar as well. Thus, it becomes a driver to the rise of oil price.2
The expanding monetary policy of the central bank of the major countries have also stimulated the economy, as they wished. Stimulation of economy must lead to an increase in demand of oil because of more usage of electricity, more usage of transportation, more demand in most products and services. Almost everything in our economy needs oil to operate. As we named it few decades ago, the oil economy.2. Therefore, the stimulation of economy must lead to an increase in oil demand.
Next, the increase of global transport. The globalization has led to a global manufacturing arbitrage which greatly increases the global transport. Almost 99% of all transport fuel is derived from crude oil, making the increase of global transport a key demand side driver of oil price. Even though the technology of electricity vehicles has been improving greatly and efficient enough to be in use, the...
References: 1) Roger, James(2004) Hot Commodities: how anyone can invest profitably in the world’s best market 1 st ed.Beeland Interests Inc.
2) Leeb, Stephen and Lee Donna(2004)The Oil Factor: Protect Yourself and Profit from the Coming Energy Crisis The Warner Book Group
3) Begg, David and Ward,Damian (2007) Economics for business 2nd ed. Mcgraw-Hill
4 ) Churchill, G. A., and Peter, J. P. (1998). Marketing: Creating Value for Customers, 2d ed. Boston: Irwin/Mcgraw-Hill1)
5 ) "How to Think About Pricing Strategies in a Downturn," Harvard Management Update, Vol. 7, No. 3, March 2002
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