Exploring Five Possible Futures of Oil Supply and Price Trends - Essay Sample

Introduction

The presented case illustrates various scenarios that may work to explain the "peak oil" situation that has rocked Supply and the Price of Oil since 2005. This case projects a continued plateau, slow growth rate, or rapid shrinking of the oil production and Supply through the next years. A group of economists working with the International Monetary fund (IMF) explored the five possible futures that may characterize the changing supply trends. These alternative futures explore the production trends and the ability of the marketplace to adjust and react to limited oil availability. Such production changes are then hypothesized to affect various major global economies in varying degrees. The authors propose that the extreme supply scenario (a complete shrink in production) may create a GDP hit of up to 1 percent point annually.

Is your time best spent reading someone else’s essay? Get a 100% original essay FROM A CERTIFIED WRITER!

Save 25%

While the modeled scenarios provide a rough idea of potential supply and demand dynamics, the case also observes the potential, unpredictable factors that could mediate in the oil production limitations of the future. In this report, various elements of microeconomic importance are analyzed concerning the presented case scenario. As a question-based exercise, the author responds to the different posted questions regarding the supply-demand dynamics of one of the most crucial natural products in the industrial revolution.

What can happen to the price elasticity of Supply for Oil in the next 50 years?

Several economists are in consensus that the oil reserves are running dry, and the new reserves we are exploiting now are either expensive to explore or develop. The Supply of Oil is thereby growing less elastic due to the more extended periods between proper drilling and oil production. Elasticity, in this scenario, refers to the quantity of oil supply required to respond to price changes. When the supply continues to change only narrowly for every substantial price changes, this supply trend is termed as inelastic. In these inelastic setups, oil prices are projected to increase sharply over the next 50 years as the supply continues to stay limited.

The idea of "peak oil" appears to be staying in the supply domain of oil for a while. Such a peak implies the slowing down of supply and this increasing inelasticity. Unlike the temporary disruption in 2008 during the recession, the current supply shock appears to be long-term. It is, for instance, currently evident that a barrel of oil barely falls below the $100 mark. This trend indicates a sustained price rise that fosters inelastic conditions. The potential supply limitation of crude oil globally will serve to great advantage the global exporters of oil while disadvantaging the European or Americans.

At worst, the authors project as much as 800% oil price increase in the production shrinking scenario. When such production shrinkage is accompanied by a lack of commodity (Oil) alternatives, the perfect inelasticity may spill over to the economy and result in unprecedented nonlinear impacts on various developed countries' GDPs. Such shrinking trends of production and exports by (especially the) OPEC countries may as such directly slow down the economic performance of the oil-import-reliant emerging superpower nations like China and the Western countries. Alternative oil exploitation sources, including Canada's Tar Sands, may furthermore increase the cost of development of crude oil, thus adding to the supply shortage and price inelasticity.

Why Might Increasing Demand for Oil Lead to Prices Rising Significantly in the Years to Come? Explain.

Oil demand is often projected to increase considerably as new economies rise, which is largely dependent on the importation of oil products. Countries like China and India continue to expand rapidly and thereby increase their oil refinery and import. This disruptive increased demand for crude creates a rapid shock on the supply. As mentioned earlier, supply price elasticity depends on the replaceability of oil as the primary commodity in fuel-related activities. When increasing demand puts a strain on production, supply, and crude oil development will be impacted in corresponding measures. The new well exploitation to satisfy the rising demand will, furthermore, increase the time between well development and oil extraction. These exploitation efforts may also be expensive and, as such, the production-cost ineffective.

The combination of demand and supply issues illustrated above illustrates the factors that may strain the production of crude oil and, as such, shock the Supply of Crude Oil. Price elasticity of supply depends on a range of factors, including ease of replacement of the good and the gap between production and supply. Currently, countries in the OPEC block have set their minimum price limits ($100/Barrel), which they intend to maintain by managing supply and production. As such, the controlled amount by these countries has created subsidized domestic consumption to increase faster than the supply. Exportation of Oil from these countries thereby continues to fall while the unit prices increase to balance their budgets.

The demand rise in the emerging economies continues to constrain the available oil supply and exploitation wells. According to elasticity principles, there should be a negative correlation between demand and price. An increasing price of oil should, thereby, lead to a corresponding decrease in demand in an elastic system. However, the current trends indicate a positive correlation between price and demand. The rising economies cannot survive without oil, and thereby they continue to import from the OPEC and non-OPEC producers. This rapidly increasing demand and the corresponding constrain on supply will continue to create a corresponding price rise in the long term.

Why Would Countries Like Saudi Arabia Become Much Wealthier? Explain.

While the rest of the oil-producing world is scrambling for new wells and oil reservoirs, the OPEC countries, especially in the Middle East, will benefit significantly from their constrained supply approach. Saudi Arabia, for instance, is currently a net exporter of crude oil. Their model is furthermore, such that they maintain their unit price and manage production to continue in the supply market while the rest of the world have their wells run dry. Such constrained supply and subsidized local consumption – among other useful price policies – will allow the Middle Eastern Giants to benefit significantly from the projected price rises in the coming decade. The IMF expects that the oil prices might rise to four times over the next two decades. Net exporters such as Saudi Arabia will thereby maximize the increasing positive correlation between demand and price increases.

While the OPEC producers will be growing in wealth thanks to their current fiscal policies, the world-leading powers like the USA and Europe will be experiencing economic shocks based on their net importation trends in the crude oil business. Furthermore, the rest of the world will experience increased production and exploitation costs due to the drying wells and unconventional oil production.

Another interesting scenario that may continue to benefit the Middle Eastern producers, even more, involves a case when the alternatives to oil explored in the West turn out to be lower quality. In this case, the Middle Eastern producers like Saudi Arabia will maximize the losses in time and money by the West is trying to explore such alternatives. The demand for oil will then continue to skyrocket along with the Unit pricing.

Why Is The Outcome of the Decline in Oil Production Dependent On The Ease with Which the World Adapts?

The IMF writers postulate that the impact of a decline in production of oil is greatly dependent on the various strategies the global economies shall adopt in managing the increasing inelasticity of oil prices and supply. While adapting to a world of constrained oil supply and increased price, the global economies might explore the alternatives to oil for fuel. Such alternatives, like electric cars and natural gas, may serve to reduce the increased addiction to oil as the primary energy commodity. In improving the elasticity of oil demand by exploring alternatives to fat as an energy commodity, the manufacturing and production domains in these economies continue to be efficient despite the plateau in Oil supply. Such options will furthermore increase the responsiveness of oil prices to demand changes.

The Global economies (especially the developed) economies will thereby be able to alleviate the forceful impacts of inelastic demand trends of oil. As economies diversify their energy options, fat as a commodity will be met by competition and improved elasticity. This readjustment in the supply/demand interactions in the oil production domain will then help in managing the high oil prices in future economies. The adoption of these energy alternatives like clean solar and wind energy may also go a long way in maintaining the constraints to supply and, as such, ensure a reorganization of the price and supply relations in the oil sector.

Furthermore, adaptation may entail a restructuring of trade patterns and relationships. Japan and Asia, for instance, have adapted to the high oil prices by developing export and import relationships with the Middle Eastern oil exporters. As such, Japan and Asia are open to more exportation to the oil exporters, thus boosting their economies through the reciprocal economic relationship.

What effect might fuel subsidies have on the price elasticity of demand for oil? Explain.

In the longer term, the subsidization of fuels at consumption is determined to play a role in price elasticity sensitivity. Short-term subsidy of petroleum products leads to minimum consumer responses. However, when the subsidization occurs for a more extended period, the customer's answer will significantly depend on such a subsidy. Most economies continue to subsidize petroleum product prices as a way of encouraging local consumer trends. Saudi Arabia, for instance, funds the domestic consumption considerably to improve local adaptability.

When fuel prices are subsidized, the longer time price adjustments make the customers accustomed to the subsidized prices. They will, as such, respond to prices that increase beyond the subsidized figures. As such, the market will grow increasingly sensitive to any price fluctuations when the subsidization lasts for a longer-term before stopping. It is thereby counterproductive for governments to continue subsidizing various fuels as the result is an increasingly sensitive consumer population. Increasing elasticity of the price of demand will increase the Consumers' sensitivities to future price shifts beyond the subsidization period.

Various authors encourage short-term consumption subsidies as they do not create meaningful long-term sensitivities to price changes. However, governments should attempt to avoid the long term subsidization and instead use such budgetary allocations to more growth-enhancing services like health and education.

The subsidization furthermore leads to overconsumption of Oil products through the price distortion to the end-user below-cost levels. This trend of overconsumption may then result in exhaustion of the oil supplies and an overreliance of oil as a primary energy commodity. These subsidies are, thereby, unsustainable in the price/demand/supply triple interaction. As already stated earlier in this report, the increasing demand for oil in modern society is a critical factor in the plateauing of future oil production and supply. Overconsumption of Oil in the current societal setting will thus contribute to heightened demand, way above the quantity.

What Effect Might Fuel Ta...