While its viscerally satisfying to blame oil company collusion, George Soros has been testifying that the root cause is largely due to domestic fuel subsidies in China and India.
A lengthy excerpt from Morgan Stanley summarizes the situation:
A quarter of the world's gasoline consumption is subsidized, and, in terms of population, half of the world uses energy subsidies. This policy has created an important distortion, whereby rising oil prices have been effectively prevented from destroying oil demand. Subsidies have artificially raised inflation in the developed world (through artificially high oil prices) and suppressed inflation in the developing world (inflation would have been even higher in the absence of subsidies). As fiscal pressures mount, some countries will be forced to incrementally remove these subsidies. The net result will be an unwind of these distortions...
As the fuel consumption in these developing countries increases, the price is driven up, but the self-regulating force of inflation is negated by artificially suppressing domestic prices. This is costing both India and China a lot of currency and can not be maintained indefinitely. On the other hand, maintaining accelerated growth is necessary for political stability in China, so its hard to say which will give first.
In the mean time, developed countries will faces significant inflationary forces due to soaring energy costs. While painful, this might prove to have some long term positive benefits if it results in the adoption of a coherent US energy policy.
5 comments:
Great post!
Iran has the same problem. They heavily subsidize gasoline. Surprisingly, Iran has only one working refinery and has to import the gasoline made from their own oil.
I didn't know about the Chinese and Indian subsidies, but it makes sense. At $8000 per year, the average Chinaman isn't going to be buying much $4 a gallon gas.
I'm not so sure I buy the rest of the argument, though. Oil goes into lots of things and only some of it can be made into gas. You'd have to show that oil consumption itself was significantly distorted by this.
Finally, as far as India and China go, why not subsidize it? It's getting them where they want to be, I guess. Meanwhile, Europe taxes the bejabbers out of the stuff and their gas prices are way above ours.
You ask why shouldn't they subsidize their domestic gas supply? You make a good point. If it keeps their economic growth accelerating its working for them. But in the long run it will burn through a huge amount of their foreign currency while inhibiting growth in the developed countries. That will comeback to bite them in the near term. India has already come to the conclusion that they can't keep it up since somewhere around 80% of their fuel is imported.
As for oil going into many other things than gas, when the supply is tight, only a small shortage can cause the price to spike. It appears that with the unchecked demand from Asia we've passed some threshold.
Every politician wants to be Santa Claus, none of them want to pay the credit card bill in January.
Every politician wants to be Santa Claus, none of them want to pay the credit card bill in January.
Thats what summer is for! ;)
Maybe that scenario is exactly what weighed on the minds of the Saudi Royals when President Bush attempted (unsuccessfully) to persuade them to boost oil production last month.
Kt, thats is a very good point!
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