OIL PRICE HIKE

PAKISTAN FACING THE MUSIC

FOZIA ISHAQUE (fozia.ishaque@hotmail.com)
Mar 31 - Apr 06, 2008

Oil prices remained unchanged for over 18 months and have increased on March 1st and 15th. It is said that the recent increase in fuel prices will help reduce oil subsidy by over Rs 5 billion. It is also said that the recent increase in oil prices in addition to the hike in electricity tariff by 9 percent would have an impact on inflation to the extent of 1.5 percent. Finance Ministry claims that increase in oil prices was inevitable especially when the prices of crude oil crossed the barrier of $100 per barrel in the international market. Previous Finance Minister, Dr. Salman Shah gave free advice to the new government that if they opt not to make further fuel adjustments, then they have to increase revenue in order to meet the subsidy and maintain budget deficit at a reasonable level.

Caretakers claimed that the oil and electricity price increase was a regional phenomenon; all the countries in the region have made the price adjustments. India increased its electricity tariff on February 15 while other regional countries would follow this trend. However, increase in rates of both petrol and electricity would not hurt the competitiveness of local industry because this has impacted all economies equally that depend on imported crude oil.

The increase in oil prices had a three-fold economic impact on Pakistan's economies. First, oil import bills have increased because in the short run the price elasticity of demand for petroleum products is very low. Secondly, the higher international oil prices have not been passed on domestically earlier and this tended to fuel inflation. Thirdly, the rate of economic growth is also affected, either by the direct impact of the crisis, or by the adjustment policies, or both.

In the backdrop of grim scenario, economy of Pakistan is experiencing a bad patch of time due to worsening current account deficit triggered by many factors and aggravated by sudden oil price hike. It is being feared that current fiscal year may close with a deficit of over $ 9 billion destabilizing the entire financial structure. The global instability and situation in Iran might destabilize Pakistan's economy by increasing the international price of oil to unknown heights, and by disrupting Pakistan's prospects of enhanced economic and commercial ties with its western neighbours.

IMPACTS FOR PAKISTAN ECONOMY:

Pakistan's economy grew at an average of more than 7 percent over the last few years. Most countries in South Asia felt inflationary pressures on the back of high oil prices. Pakistan is also a victim of circumstances and consumer prices rose to over 10 percent as a result of higher aggregate demand compounded by shortages of principal commodities. In Pakistan, exports and imports continued to grow at double digit rates in 2007. As the current account deficit is becoming a serious concern, this will have implications for the balance of payments. If oil prices remain high, there will be a need to devise ways to contain the current account deficits.

The upward trend in oil prices does not prefigure a rosy picture for Pakistani consumers or the country's balance of trade. The cost of petroleum products and crude oil accounted for over 24 percent of the import bill in 2006-07 and a sustained rise in prices, as witnessed in FY06 & FY07, will spell serious trouble. The State Bank governor has also warned that inflationary pressures may be further generated if fiscal compulsions drive the government to pass through a rise in fuel prices in the face of rising international energy prices. Food inflation has assumed debilitating proportions for the poor masses of the country and is hitting the middle classes hard as well. It is obvious that an increase in local fuel prices is definitely attempting to make goods costlier across the board. This bitter fact further propels the vast majority of the population to the chasm of growing misery. Anything that is transported will be vulnerable to price hikes and that applies to non-food items as well. As almost all utilities of life inevitably get moved from far and wide there will be far reaching implications and inflation rate will experience unknown heights. If energy becomes costlier, the cost of production will go up; adversely impacting both domestic consumers and exporters whose products could be rendered even less competitive than they are at present.

With international crude prices breached the $100 a barrel mark, Pakistan which imports more than 80 percent of its oil faces enormous challenges. With the economy growing at over 6 percent demand for oil is soaring. And while the government was reluctant to raise the price of petroleum products just to save one political party from masses wrath.

PROBABLE RISKS:

Pakistan which produces only 20 percent of the oil it uses will truly suffer with continuous hike in oil prices globally. Last year, the OGDC was expected to drill 100 oil and gas wells but succeeded in drilling only 50. It had no success with its offshore ventures either. Although more offshore wells are being drilled more local companies are joining the foreign explorers. Higher price of oil touching $100 a barrel will hit domestic economy hard. But the government which earned over Rs176 billion from oil and gas may earn more while the country will suffer. Power production will become far more costly as furnace oil prices shoot up. Industrial production will cost far more.

Transportation costs are on the rise. Railway fares are going up and airlines raise their fares substantially. As transportation costs rise, bus fares shoot up and bitter disputes between passengers and the bus conductors become common. In the farm sector, the power rate for tube wells goes up making farm output far more costly. Higher power rates also affect the service sector including hotels, restaurants and shops. Power for schools, colleges and universities cost far more.

The "upside" to rising oil prices is that it could, conceivably, translate into a heightened search for alternate energy sources. In the case of Pakistan, a country with a long coastline and an agro-based economy, we ideally would do well to concentrate on wind and biomass power. At the same time, efforts to harness coal deposits said to be second only to those of the US ought to be accelerated but with an unwavering eye on using the cleaner technology developed in Europe rather than being saddled with second-hand, pollution-heavy American plants. All this will take time. However it is notable that Pakistan has little likelihood of developing the diverse and broad based alternative energy resources at present. Therefore in case of any foreseen global dispute the country will run the risk of depletion or acute shortage of energy resources at all. The cruel irony is that most alternative systems of energy solar panels, windmills, hydrogen cells, bio-diesel, nuclear plants rely on technology using oil. All electrical devices make use of silver, copper and platinum, which in turn need oil for their discovery, extraction and transportation. The manufacture of all machinery needs oil. Nuclear energy requires uranium, which is discovered, extracted, and transported using oil-powered machinery.

CONCLUSION:

Government has to intervene before the whole economy reaches at the brink of devastation by dint of any further rise in prices. Certain initiatives are to be taken to ensure the absorption of upsurge in prices and minimizing the transfer of adversities to the poor masses of society. The recent sharp rise in oil prices has created concerns about their impact on Pakistan's economy. Estimates of the likely effects on Gross Domestic Product (GDP) have been made by several organizations, including the World Bank, as well as the International Energy Agency. Of particular concern for agencies concerned with development and the Millennium Development Goals is the impact on the poor. In Pakistan the inflation is high and food inflation is even higher. In order to curtail the downside effects of this issue the government should not plunge into short term remedies such as raising prices abnormally to mitigate the upcoming risks. Instead it should step up its effort to explore alternative energy resources and also adapt to oil forward contracts which number of countries are using quite effectively.