Oil: A Critical Commodity for Industrial & Construction Needs - Research Paper

Introduction

Oil is one of the most critical commodities influencing the demand and supply of other products. It is a primary source of energy in industrial and communication activities in the form of gasoline, petrol, airplane fuel, and diesel. It is also a useful coolant and lubricant in the generation of electrical energy in the form of heating and transformer oils. Nevertheless, crude oil products are essential in the making of tar, asphalt, and paraffin wax which are raw materials for road constructions. Oil is broadly categorized into four main types depending on density, flammability and usage. These categories include the very light oils which have very low density, highly flammable, volatile and evaporate within short periods. This category comprises jet fuel, petroleum, gasoline and spirits. They are the most expensive of all types of oil. The second category is the light oils, which consist of diesel and domestic fuels. They are relatively costly and less volatile compared to the very light oils. The third category of oils is the medium oils which encompass the majority of the crude oils. They have low viscosity and less flammability. The last group of the oils is the heavy oils. The heavy oils comprise of the Grade 3, 4 and 5 such as the marine fuels. They are the least volatile, less flammable and most toxic.

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A study of the historical status of the oil demand and supply of oil indicates that the supply was rather static between 1965 and 1973 due to stability in its prices. The oil prices had remained stable over a long period. However, the price stability was rapidly disrupted following hard economic times of 1973 and has since maintained the fluctuation trend since then, leading to a rise in the demand for oil (Javan, & Zahran, 2015). According to Robinson, the earlier fluctuations in the supply of oil in 1973 and 1979 were as a result of the Yom Kippur Conflicts and the Iranian Revolution War. The research focuses on the study of the variations in the demand for oil over the last ten years and its effects on the automotive industry.

Literature Review

Several recent studies and scholarly works have ventured into the fluctuation in demand for oil and the causes of the swings over the past decade. A research conducted by Javier Mory examines the trends in the changes in the market and supply of oil based on the changes in the price of oil between 2008 and 2019, and how it relates to various microeconomics aspects. According to Javier, there is possible evidence of a correlation between the fluctuating demand for oil, and the microeconomic practices in the U.S. economy. Javier's article scrutinizes the link amid the oil demand and the decrease in economic activities when the demand is low. His main area of focus is the study of the effect of oil prices on the demand for oil over the past decade and the resultant financial impacts of the fluctuations.

An article about understanding the fluctuation and declining demand for oil since 2014 by Christiane Baumeister is a useful research tool for the study of the factors behind the shift in the oil demand curve. According to the article, the abrupt deterioration and fluctuation in the oil prices experienced in the latter part of the year 2014 were as a result of the increasing supply of crude oil coupled with relatively lower demands towards the end of the year (Baumeister, & Kilian, 2016). Another major cause of the drop in the demand for oil in these years was the announcement made by OPEC, stating that they would maintain the production levels regardless of the increasing production and supply from non-OPEC oil-producing countries. Thus, the supply of oil increased against reducing demand for oil. Baumeister's article provides empirical data for the analysis of the prices of oil in 2013 and 2014, and the effects of these prices on the demand for oil.

There is a connection between the demand for gasoline, which is a petroleum product, and the shift in demands of various categories and types of automobiles. According to Klier, the automotive industry depends upon the changes in the demand for gasoline. The automotive industry and oil are complementary products. An increase in the demand for automobiles means a corresponding increase in the demand for oil. Therefore, an increase in the demand for vehicles leads to a rise in demand for oil to fuel the high number of cars. Nevertheless, an increase in the demand for oil against the constant supply leads to an increase in the cost of oil. As a result, manufacturers tend to shift their manufacturing practices to more energy-efficient cars such as SUVs. The same was experienced in 2008 when the high demand of oil led to increased prices (Javan, & Zahran, 2015). Automobile manufacturers started researching the design of electric and solar dependent automobiles to avoid the high costs of fuel as an alternative source of energy.

An Economic Analysis of the Changes in the Demand of Oil

There are various reasons for the upward trend in the prices of oil, which affects the demand and supply of oil. There has been an increasing demand for oil and oil products both for industrial and domestic use. The increase in demand for oil always creates fear of impending disruptions in the supply of oil. As a result, oil producers and dealers have continuously increased the prices of oil. The international demand for oil is growing to cater to the increasing demand of energy for economic growth, surpassing oil production to meet the excess capacity. Nevertheless, developing nations such as Japan, India, and China have a high affinity of oil calling for a swift upsurge in demand, thus the escalation in oil prices (Bohi, & Montgomery, 2015). There is a high rate of industrialization and urbanization in these countries which increases the demand for oil on a global scale. In addition to this, there have been future speculations of disruptions in the supply of oil in nations like Iraq, Iran and Nigeria due to the harsh political environment and turmoil in these countries.

Changes in Price of Oil from 2006 to 2018

The above diagram offers a graphical representation of the fluctuations in the price of oil from 2006 to 2018. From the graph, it is evident that the highest costs of fuel were recorded in 2008, followed by some significantly high prices between 2010 and 2014 (Robinson & Morgan, 2016). The high demand for oil in 2008 caused dramatically high inflation. During this time, there was a high demand for oil to meet increased transportation costs, high costs of production in industries and a general increasing need for oil for domestic use. The high demand for oil caused a tremendous increase in its prices, affecting consumers adversely. As a result, there was a spike in the amount of oil due to limited supply. There was also a decrease in the purchase of automobiles with people opting to use public means of transport to save on costs.

The spike in demand for oil in 2008 is due to the rapid rise in the market of the products in developing nations such as China, Japan, and India. The constant cuts of oil production in the OPEC members in the Middle East further increased the scramble for the available limited supply of oil. These moves drove the demand of oil to the highest level, as observed from the graph. It is important to note that the period followed the global recession closely. People were striving to attain economic growth and achieve financial stability. Thus, the demand of oil stood at 82.2 million barrels a day by the end of 2008. The cost of oil oscillated between $100 and $153 during the whole economic recovery time (Jobling, & Jamasb, 2017). However, 2014 records a steep drop in the demand for oil both in the domestic and international markets.

Between 2014 and 2016, there was a considerable decline in the price of oil. Various elements led to this drop in the amount of oil. First, countries such as India, Japan, and China that relied heavily on oil were beginning to achieve a state of stability on their growth at the beginning of 2010 onwards (Bohi, & Montgomery, 2015). China was one of the most significant contributors to the demand for oil due to its large population. A decrease in the demand for oil in China means substantial ramifications in the price of oil. Therefore, countries such as China, Russia, Japan and India that contributed to the spike in demand for oil brought it down due to reduced demand towards 2014.

Another reason for the diminution in demand for oil in 2014 was due to increased oil exploration and extraction in the United States and Canada to dodge the economic challenges posed by high costs of fuel. For example, several private companies began extraction of oil around North Dakota in the United States, while Canada started oil exploration and mining in Alberta (Javan, & Zahran, 2015). Nevertheless, Middle East countries were torn between increasing prices and lose market share or lowering the prices of oil. Thus, the countries reduced the costs with expectations of long term benefits from the sale of oil. The overall effect was a decrease in the demand for oil by China, the United States, and Canada, while there was surplus production from the Middle East countries.

Year Nominal Price Inflation-Adjusted Price Demand for Oil (Million Barrels a Day)

2009 $ 53.48 $ 62.90 85.4

2010 $ 71.21 $ 82.54 88.9

2011 $ 87.04 $ 97.82 89.8

2012 $ 86.46 $ 95.21 90.6

2013 $ 91.17 $ 98.92 91.9

2014 $ 85.60 $ 91.36 92.7

2015 $ 41.85 $ 44.63 93.6

2016 $ 36.34 $ 38.23 96.1

2017 $ 45.33 $ 43.97 97.5

2018 $ 58.15 $ 57.77 99.2

2019 $ 46.35 $ 46.25 -

The Annual Average Domestic Crude Oil Demand and Supply Between 2009 and 2019

The table above shows the fluctuation wave of the demand and prices of oil over the last decade. From the table, an incredibly strident escalation in the value of oil is notable between 2009 and 2013. Some researchers, such as Robinson, argue that the upsurge in demand for oil is due to the increased speculations in the market of oil. It is worth noting that a small change in the demand and supply of oil can create a tremendous impact on the price elasticity of oil. As a result, significant fluctuation in price is necessary to restore the price of oil to its equilibrium.

The automotive industry heavily relies on oil. The industry is in a state of what is known as the complementary goods in the economic theory. The use of automobiles depends upon the affordability and availability of oil, which serves as the primary source of energy. There is a correlation between the sales in the automotive industry and the fluctuating demands of oil over the past decade. Between 2009 and 2013, when the prices of oil were relatively high due to high demands and low supply, there was a significant shift in the purchase vehicles. Consumers opted for the use of more energy-efficient automotive such as gas-guzzlers and SUVs. These are automobiles that consume less energy. They are substitutes in oil consumption when the prices of oil increase. However, a significant decrease in the demand for oil between 2014 and 2016 led to a rise in the purchase of automotive with much higher consumption capacity (Baumeister, & Kilian, 2016).

An analysis of the automobile industry reveals that the industry relies on what happens in the demand and supply of oil. A decline in the demand for oil means a reduction in the price of oil, and thus, creates a shift in the type and number of vehicles purchased. Consequently, a large number of people can afford to drive as the lower fuel prices make ownership of vehicles more appealing (Sodeyfi, & Katircioglu, 2016). Nevertheless, a fall in demand for oil with relative steady supply creates fixed costs of fuel, thereby increasing the consumers' di...