WORLD OIL TRADE AND THE LIBYAN CRISIS By- Zenab Ahmed & Hamna SiddiquiINTRODUCTION Historically, oil has been cheaper and more abundant than any other energy source and this condition changed very soon. Oscillation in demand and price of oil was rather modest for the first hundred years of the o il age, when price was largely determined by the lo west-cost, large-scale produ cers until the mid- twentieth century. Through the 1960s, the transfer of wealth from oil trading was mostly insignificant to the global economy. Price and cost had a fair relationship due to competition and supply exceeded demand; the low cost producer was successful. To the general public, the prolific fields of the Middle East, United States, Venezuela, North Africa and the North Sea s eemed to provide an inexhaustibl e supply of cheap oil and modest prices encouraged extravagant con sumption. The price for oil can be detached from the cost to produce for limited periods of time. For example, a low cost producer may reduce competition by lowering the price below cost. In contrast, ifdemand exceeds supply, price is determined by the highest bidder. From a global viewpoint, the cost of production varies widely between the largest fields and the more modest sized.
INTRODUCTIONHistorically, oil has been cheaper and more abundant than any other energy source and this
condition changed very soon.
Oscillation in demand and price of oil was rather modest for the first hundred years of the oil
age, when price was largely determined by the lowest-cost, large-scale producers until the mid-
twentieth century.
Through the 1960s, the transfer of wealth from oil trading was mostly insignificant to the
global economy. Price and cost had a fair relationship due to competition and supply exceeded
demand; the low cost producer was successful. To the general public, the prolific fields of the
Middle East, United States, Venezuela, North Africa and the North Sea seemed to provide an
inexhaustible supply of cheap oil and modest prices encouraged extravagant consumption. Theprice for oil can be detached from the cost to produce for limited periods of time. For example,
a low cost producer may reduce competition by lowering the price below cost. In contrast, if
demand exceeds supply, price is determined by the highest bidder. From a global viewpoint,
the cost of production varies widely between the largest fields and the more modest sized.
The main oil producing areas are not the same as the main consuming areas. Hence, oil must
be moved from regions where supply is greater than demand -- exporting regions -- to regions
where demand is greater than supply - importing regions. The "have/have not" balance
results in oil flows from one international region to another, from one country to another, and
from one region within a country to another. These flows, dictated by economics, logistics, andtemporary imbalances in supply and demand, are central to the efficient operation of the oil
market.
Regional Importers and Exporters
As one might expect, the worlds three largest consuming regions -- North America, Europe,
and Asia-Pacific -- are all importers. All the other regions are exporters.
The Middle East still exports vastly more oil than any other region, despite the strong growth in
production in other areas in recent years. This global dependence on Middle East oil makes the
geo-political importance of the Middle East readily understandable.
USA tops the list of importers in the oil industry with a consumption of 9.6million barrels per
day followed by china (4.3 ) marginally exceeding japan (4-2) and India occupying the fifth
Oil prices remain an important determinant of global economic performance.Overall, an oil-price increase leads to a transfer of income from importing toexporting countries through a shift in the terms of trade. The magnitude of the directeffect of a given price increase depends on the share of the cost of oil in nationalincome, the degree of dependence on imported oil and the ability of end-users toreduce their consumption and switch away from oil.It also depends on the extent towhich gas prices rise in response to an oil-price increase, the gas-intensity of theeconomy and the impact of higher prices on other forms of energy that competewith or, in the case of electricity, are generated from oil and gas. Naturally, thebigger the oil-price increase and the longer higher prices are sustained, the bigger the macroeconomic impact. For net oil-exporting countries, a price increase directlyincreases real national income through higher export earnings, though part of thisgain would be later offset by losses from lower demand for exports generally due tothe economic recession suffered by trading partners. Adjustment effects, which result from real wage, price and structural rigidities in theeconomy, add to the direct income effect. Higher oil prices lead to inflation,increased input costs, reduced non-oil demand and lower investment in net oilimportingcountries. Tax revenues fall and the budget deficit increases, due torigidities in government expenditure, which drives interest rates up.
An oil-price increase also changes the balance of trade between countries andexchange rates.Net oil-importing countries normally experience a deterioration in
their balance of payments, putting downward pressure on exchange rates. As aresult, imports become more expensive and exports less valuable, leading to a dropin real national income. Without a change in central bank and government
monetary policies, the dollar may tend to rise as oil-producing countries¶ demandfor dollar-denominated international reserve assets grow.
Tensions in the Middle East plus transportation constraints:Where art thou going, oil
prices?
Unrest in Egypt mattered because of the Suez Canal and the Suez-Mediterranean Pipeline, which
together transport almost 2 million barrels of oil per day. Protests in Libya and Algeria ± with
Libya seemingly in a state of civil war ± matter because both are important oil producers and key
suppliers to Europe. Algeria produces some 1.4 million barrels of crude each day, while Libya
spits out 1.6 million barrels a day. Libya is Africa¶s third largest oil producer after Nigeria
andAngola and has the largest crude oil reserves on the continent, concentrated in the massive
SirteBasin.That production is now threatened. Global oil companies have pulled their employees
out of Libya, rebel forces seem to be in control of ports and pipelines, and Gaddafi is focusing
his eastern counter offensive on oil refinery towns like Marsa El Brega. During the first week of the Libyan crisis, estimates of how much oil production had been cutvaried widely. The facts seem to be clearer now: between 850,000 and 1 million barrels a dayof Libyan crude output has gone offline, meaning thecountry¶s production has been cut in half.The lost production amounts to 1% of global oil consumption..
Europe will be the first to feel the impact of reduced Libyan production. Eighty-five percentofLibya¶s oil is exported to Europe, with Italy taking 32%, Germany receiving 14%, and France buying 10%. The International Energy Agency says Europe¶s refineries have enough crude tolast until at least the end of March, so the impact will be delayed. And Gulf countries, SaudiArabia in particular, have increased production to make up for Libya¶s lost barrels.
It is a treacherous situation for foreign companies. They are in a bind ± they have to deal withrebel groups in order to ensure their facilities are not damaged and receive essential care, butthey do not want to be seen supporting them in case Gaddafi returns to power. And for thosewith wells still producing, exportation suddenly became a lot more expensive: tanker traffic inLibya has been described as a free-for-all, as tanker owners jack up rates and port operatorsstruggle to load with few workers.Tankers loading at Libyan ports were demanding $50,000
a day, triple the normal rate.
It is clear that, whether Gaddafi stays or goes, disruptions will continue and uncertainty is thenew normal in Libya.The price of oil has been responding to Libya¶s instability since theinsurrection began. Brent crude on the ICE futures exchange closed at US$116.35 a barrel
Wednesday, its highest settlement since August 2008. The West Texas Intermediate (WTI) oil price, which reflects the American market, also hit a 2.5-year high, gaining 2.6% in a day tosettle at US$102.23.
There are several comments to make about all of this.
First, oil prices might run out of control again. High oil prices reduce the amount of money people have to spend on other things, shrinking demand in the wider economy. Eventually a
tipping point is reached where confidence collapses. Given the recent global recession, youmight expect OPEC to act quickly to prevent that cycle, but the wave of protests across theMiddle East and North Africa has OPEC leaders just a tad bit distracted. Many are nowwondering aloud if Saudi Arabia will be the next nation to see protests. In that context, whathappens to the world economy is not exactly a priority for OPEC leaders right now ± they are
focused on survival. This is not an environment conducive to the kind of quick decision-makingnecessary to control oil prices.
Second, remember that benchmark prices for oil do not have a strong relationship tosupply and demand. That is why prices could shoot up ± speculation and manipulation byhedge funds and hoarders have as much impact as an actual change in supply. And a final benchmark price stems from a complex summation of interlinked spot, physical forwards,futures, options, and derivatives markets, which means the paper market is almost as importantas the physical one.
Third, transportation infrastructure plays a key role in oil pricing. North African oil and gas
are especially important to Europe because the only other place with pipelines running intoEurope is Russia, and no one likes relying on Russia for energy. Russia already exports 7 million barrels of oil each day, which constitutes roughly 10% of global production.To get aroundreliance on Russia for both oil and gas, European countries have been working to build more pipelines from North Africa, including a new, US$1.4 billion Algeria-Spain gas pipeline set toopen in March. The desire to avoid increased reliance on Russia is another factor driving theBrent benchmark upwards; European prices for natural gas and liquefied natural gas are also onthe rise, for the same reason.
Libyas potential revolution poses a real threat to oil supplies as mentioned, we only have 4.5 million
barrels a day to spare, and Libya produces 1.6 million. On top of that, the fact is that oil prices are not
decided in the most rational ways, and speculation plays a major role.Upheaval in Libya also have a
major impact on the price of crude oil. In New York and London, the price of crude oil has a now
touched the level of U.S. $ 100 per barrel.
On the London Stock Exchange, crude oil prices soared even five per cent to U.S. $ 111.25 per barrel.Oil prices in London have exceeded U.S. $ 100 per barrel since 31 January. However, onthe New York, only this time the price touched $ 100 per barrel in the last two and a half years,or since October 2008.Skyrocketing crude oil prices also effect the price of gasoline. In the U.S.,gasoline prices to around U.S. $ 3.20 per gallon.This is the highest gasoline prices since earlyFebruary this year
According to the observers, the main causes of major jump in crude oil prices are anti-regimeupheaval Muammar Gaddafi in Libya. The country was believed to have the largest crude oilreserves in Africa, so that the crisis in the country greatly affect market sentiment.Libya is seenas the first oil-producing countries effected by the virus of revolution in the Middle East regionsince January. For the observer, Libya produces two percent of total world output of crude oil,thus increasing violence and unrest in the country could disrupt neighboring fellow producers.
³Investors middle monitor what was happening in the Middle East and see the possibility of adomino phenomena,´ said Ron Kiddoo, observers of Cozad Asset Management, was quotedCNNMoney news station.
The head of oil research at Barclays Capital, Paul Horsnell, described the current situation as
potentially worse for oil than the Iran crisis of 1979.³That was a revolution in one country, buthere there are so many countries at once. The world has only 4.5 million barrels per day of spare
