By Arnold Padilla, IBON Senior Researcher
A recent article by Reuters tried to explain why oil prices are high. It gave five major reasons: Rising demand driven in particular by Chinese and Indian markets, lack of spare supply capacity, political tensions in the Middle East and financial crisis of Russian oil giant Yukos, stricter environmental regulations especially in the US, and scarcer oil.
While these factors explain to a certain degree the latest surge in world oil prices–with New York Mercantile Exchange (NYME) oil posting an all-time high US$44.24 per barrel, London’s Brent crude with an unprecedented US$40.28 per barrel, and Dubai crude with a 13-year high US$37.50 per barrel–they do not fully explain why oil prices are high.
To understand global oil prices, it is not enough to simply look at factors that affect supply and demand. It is more important to closely scrutinize the structure of the global petroleum industry to grasp the dynamics of the forces that influence prices. Historically, the global oil market has never enjoyed free competition. Since its birth in the late 1800s, the industry has been dominated by a few giant American and European corporations. In fact, US-based Exxon (now Exxon Mobil, the world’s largest oil company), once boasted that it was already a transnational corporation (TNC) 50 years before the term was invented.
Aside from Exxon Mobil, the world’s top oil firms also include Royal Dutch Shell (Britain-Netherlands), British Petroleum (Britain), Total (France), Chevron Texaco (US), and Conoco Phillips (US). Based on Fortune magazine’s 2003 list of the biggest 500 corporations in the world, these oil giants have combined revenues of US$788 billion, profits of US$34 billion, assets of US$619 billion, and employ more than half a million workers.
Just how powerful are they? Author Anthony Sampson, in his book the Seven Sisters, has offered the most graphic description: “Their supranational expertise is way beyond the ability of any government. Their incomes are greater than most countries where they operate. Their fleet of tankers has more tonnage than any navy. They own and administer whole cities in the desert. In dealing with oil, they are self-sufficient, invulnerable to the law of supply and demand and to the vagaries of the stock markets.”
Such unimaginable wealth and power stem from the control that these TNCs have on all the aspects of their business. The six largest oil companies can produce more than 80 million barrels per day of crude and refine more than 112 million barrels per day of various petroleum products.
Recent surge in prices
This commanding position allows them to practically impose oil prices on the market independent of any external factor that may affect prices. For example, it is not true that stricter environmental regulations caused strains on refining capacity, leading to shortages and price spikes in the US oil market, as argued by the Reuters article. The US Federal Trade Commission has found out that oil companies (as stated in internal memos and documents of Exxon Mobil, British Petroleum, and Texaco that the commission uncovered) intentionally withheld gasoline supply in the American market and drive small refiners out of business to jack up prices and maximize profits.
The Reuters article claims that there is a lack of spare supply capacity, aggravated by rising market demand, is also questionable. As estimated by the Energy Intelligence Group, there are seven to eight billion barrels of oil tied up worldwide at any given time. The question is who controls these stocks. In its online primer Oil Market Basics, the US-based Energy Information Administration said that most of the world’s storage capacity is owned by the companies that produce, refine, or market the oil (read: the oil giants) while a number of small independent operators rent it to third parties. If oil companies that have their own storage capacity want to keep their stocks untouched for a year, for instance, it would only cost them US$1.50 per barrel–a measly sum compared to the profits they would rake when prices shoot up due to “lack of spare supply.”
It is therefore no longer news that the world’s two most dominant oil players—Exxon Mobil and Royal Dutch Shell–are also posting record profits. In the first half of 2004, Exxon Mobil raked an all-time high US$5.79 billion in profits while Royal Dutch Shell reported a 54% jump in its earnings. British Petroleum and Conoco Phillips also showed ‘sterling earnings reports’ in the first half.
Bursting the myth
The recent surge in oil prices has actually burst the myth that it is OPEC that dictates world oil prices. Remember that since late 2003, there has been pressure on OPEC–which accounts for 55% of internationally traded crude oil–to increase production to stabilize global oil prices. OPEC gave in, expanding production to a 25-year high but still unable to prevent prices from posting record highs. Oil giants control OPEC oil; Chevron Texaco gets more than 40% of its crude from OPEC, while Exxon Mobil, 25 percent. The other TNCs also have huge oil wells in OPEC member-countries.
In other words, even if OPEC increases its crude output, the oil firms are still the ones that decide the price. Apparently, there are a lot of factors that affect prices of which OPEC has no control. If the oil TNCs, for example, do not want to run their refineries (the six biggest oil companies have 186 refineries) at full capacity, prices will continue to rise. Or if they simply want to keep their oil in storage to further push prices up before releasing them to earn more profits, nothing prevents them from doing so.
Oil is a highly volatile commodity–it is very vulnerable to price speculation, which is also among the reasons cited by Reuters for the high oil prices. Traders’ confidence in the market is being weighed down by security concerns as the resistance from Iraqi guerillas against the American invasion intensifies. For the oil TNCs, wars and speculation mean more money. They welcome speculation brought about by political tensions because it artificially bloats oil prices and therefore fattens their pockets.
Speculation artificially increases oil prices because most oil in the world are not traded in spot markets or futures markets. Most of the oil is traded through long-term supply contracts between buyers and sellers. In the case of the big oil TNCs, they are both the buyers and the sellers (intra-TNC transaction) and thus do not need a spot market. However, prices in spot markets and futures markets provide a signal about supply-demand balance (which TNCs can distort at will) that influences contract prices.
Under deregulation, subsidiaries of oil TNCs operating in net oil importing countries like the Philippines refer to the spot market price (Dubai for crude and MOPS for refined petroleum products) to estimate and project domestic pump price adjustment, even if their oil purchases are actually under contract arrangements. This provides room for the local units of the oil TNCs to squeeze more profits by increasing pump prices when the spot market price go up even if their oil purchases have been negotiated long before and with lower prices.
Spot market prices are also used as a benchmark in computing local pump prices even if companies like Pilipinas Shell, Caltex Philippines, and Petron Corporation (which control 90% of the local market) have long-term supply arrangements with their mother TNCs or affiliates and thus have much lower production costs than what are reflected in the spot market. Besides, since these contracts are actually transactions of units under the same TNC, the production costs may even be lower than declared. Don’t we wonder why Dubai crude costs almost US$38 a barrel when the actual cost of producing a barrel of crude oil in the Gulf region is as low as US$2? Monopoly rule allows oil TNCs to manipulate prices and to impose high prices at whim. Without state control, no thanks to oil deregulation, we have seen what these profit-hungry giants can do to us and our economy. TNC monopoly control also explains why nationalization of our oil industry is the only meaningful solution to exorbitant prices. IBON Features