FUEL INFLATION MANIA
FOZIA AROOJ (firstname.lastname@example.org)
June 09 - 15, 2008
Global oil production peaked in 2006 which is now falling by 7% per year and that by 2030 world oil production will fall by half. Meanwhile, oil prices have been at an all-time high in recent weeks, touching $130 per barrel. 90% of the world's oil comes from 44 nations, 24 of which are past their peak in terms of oil production which is now in decline. The current world oil production is around 30 billion barrels per annum while new discovery of oil reserves generates only four billion barrels per year. The demand is calculated to double over the next 20 years.
In the backdrop of this scenario Pakistan is at the verge of facing bleak economic situation in the form of one of the highest rates of inflation in the world and drop in the currency value. The currency has in recent past abruptly shed its value exorbitantly owing to widening current account deficit which is further aggravated by deteriorating foreign exchange reserves. The economic managers have been quoting the official inflation rate to be at around 8-9% whereas the actual figures are quite contrary and are hovering to the level of 16.5%. Similarly, the food inflation rate reached 21% during the period July-2007 to February-2008. Fuel inflation has also been hot headed and in the previous months and there arrived a point where international oil prices topped the $135-mark and all efforts of the government to battle the phantom of inflation backfired. As per Bloomberg fact sheet Pakistan has the fifth highest inflation rate in the world after Venezuela, Russia, Egypt, and Sri Lanka.
It is most likely for the budget deficit to touch the threshold of 5.9% of the GDP from 4.3% in the previous year. Two major reasons widely cited for this deficit are
i- Rs140 billion gap on account of higher oil prices
ii- A revenue shortfall of around Rs100 billion or more in the tax collections and
CURRENT OUTLOOK & GOVERNMENT STANCE
Government has been implementing a comprehensive set of measures including trying to suck liquidity out of the system by raising the cash reserve ratio (CRR), raising interest rates and curbing forward trading in several commodities, however, failed to tame inflation. In order to rein inflation government is allowing a subsidy of 160 b $ on oil which is obfuscating and superficial solution. Oil is bought at international market prices and sold within the country at a lower fixed price. It is argued that the intention behind this subsidy is twofold one is to shield the domestic prices from the volatility of international oil market and second perceived benefit is to immune common man from rising prices. However the fact is that the fuel subsidy is distorting the relative prices of goods and services and prices no longer serve the purpose of efficient allocation of resources. This measure is also inhibiting the use of more efficient alternate means of transportation and lighting. Subsidy reduces the incentives to explore alternatives. And last disadvantage is that this prevention from international supply shocks is uncertain and just causing budget deficit. As a matter of fuel subsidy is more a political tool to entice masses to remain loyal with the ruling people and has never been an economic policy instrument. Need of the hour is to connect oil prices to international oil prices with an independent body which depoliticizes the whole issue and makes decisions based on economic considerations.
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. In the short term, the initiatives that were announced in 2005, and again in 2006, to promote the production of petrol with a ten per cent ethanol mix should be taken to their logical conclusion. The sugar mills already have the required infrastructure in place and the petroleum lobby must not be allowed to derail. Refined petroleum products have been capped at unrealistically low levels in Pakistan and most people do not feel the need to conserve energy by opting for car-pooling or avoiding unnecessary journeys. The result: even as consumers, auto manufacturers, and governments in the west are coming out with innovative measures to reduce the dependence on oil, in Pakistan nobody - except the oil marketing companies - are worried about the prospects of $130-plus a barrel of crude and its impact on long-term energy usage.
It is important to list the most serious near term issues one of which includes the wrong oil pricing formula. The pricing policy has resulted in refining margins in Pakistan, which are 2-3 times higher than the comparable margins in Asia. This wrong policy not only ensures high profits for the refiners, oil marketing companies and petroleum dealers but is also 'rigged' to ensure increasing profits when the oil price is going up. According to State Bank of Pakistan the petroleum imports accounted for 28% of total imports of $18.56 billion and around 29% of the total increase of $2.98 billion in the imports during this period. The government needs to take urgent steps to cut imports of non-essential items like mobile phones, generators for private use, motor cars, branded food items for high income groups, and "other" imports through non-banking channels. This should be done through increase in import duties as well as through administrative measures in order to curb inflation.
To face the multithreaded monster of fuel price it is required to launch a series of actions on war footing because an ad hoc approach will only exacerbate the economic despair.
Soaring international prices for fuel, food and fertilisers means that our deficit will continue to grow. The government pays international market prices for fuel, food and fertiliser, political motives prevent it from realizing the same from consumers back home. As a result the deficit keeps widening and threatens to upset the government's finances. These policies are to be revised and prudent measures to be taken to prevent the whole economy from sudden collapse.
But in the immediate context, the global economic imbalance created by the unprecedented oil price hike needs to be addressed. While the oil exporting countries are accumulating hundreds of billions of dollars in trade surplus, the oil importers ó especially the developing countries ó suffer from huge current account deficits. While an estimated $500 billion dollars of the oil money has been invested in financial markets in the UK and the USA to help them tide over their trade deficits, the developing countries that are worse affected have not received adequate support in the form of massive investments from oil exporting countries. These countries also deserve a much fairer deal and more so from the oil business.