Wednesday, February 20, 2008

Oil: still Jamaica’s main external threat

On July 29th 2006 my article was titled “Oil: Jamaica’s main external threat”. That situation has not changed, thanks to nothing being done to reduce our dependency on fossil fuels. In fact approximately 96% of our almost 75,000 barrels imported daily (27.4 Million barrels annually) comes from fossil fuels, or oil. At that time oil had climbed to US$78 per barrel, and last Wednesday it closed above US$100 per barrel for the second day running, and in fact passed US$101 per barrel during the trading day. Projections are rife that it could go to between US$110 to US$130 per barrel by April/May 2008.

The chart shows the movement of oil on a weekly basis, and in fact shows that prior to this week it was trading in a range, between US$87 and US$100 per barrel. What’s more it shows that oil prices have been on an up trend and the breakout from the range above the resistance level is not a good indication. A break above resistance (uncharted territory) implies that the price could keep going up. There is no history to show what the next resistance price might be and therefore what will stop the price of oil are really the sentiments of traders.

Weak US economy
What is clear though is that the higher oil price is being driven by a weakening US dollar, which will probably remain weak until the third quarter of this year. Many expect that the Fed will continue to cut rates in the short term, which will help to keep the US dollar weak. In addition the probability of a recession has increased, with at least one Fed chairman saying that a recession is very likely. My own view, and that of others, is that the US may already be in a recession and the data will soon catch up. Even if the US is not a recession, however, it is clear that the economy is very weak, as consumers are already cutting back significantly on discretionary spending in the US.

What all of this means though is that Jamaica, and the world, will continue to be affected by high oil and commodity prices. In short the whole world, and not just Jamaica, is being significantly affected by increasing inflation as a result of the weakness in the US economy. The global expansion, of recent years, that we have failed to take advantage of, is over and the world is entering the down trend of the economic cycle. This downturn, in my opinion, was unnecessary though and resulted from the interest rate policies pursued by Greenspan in the first instance and the drastic change implemented by Bernanke. One of the surest ways for oil prices to come down is either from US dollar strengthen or the price of oil is denominated in another currency, for example the Euro.

I believe however that the US dollar will eventually strengthen in relation to other currencies, not because the US economy will strengthen but because other economies will begin to weaken. This should help to ease the price of oil, but even so the average price for this year will still be significantly above last year. This of course means that we cannot become complacent, and do nothing much, as we have done from the writing of the energy policy in 2004. We have to reduce significantly our dependency on oil. The US and China, for example, both use coal for 50% and 60% respectively of their fuel needs. They have money; we don’t.

Effect on Jamaica
To illustrate the negative effect oil has on Jamaica, we use approximately 27.4 million barrels per year. When oil is at $101 per barrel it translates to an annual oil import bill of US$2.8 billion (J$197.7 billion), or 28% of approximate GDP of J$700 billion. So almost 30% of what we produce is spent on oil. If we could manage to implement policies to save even 15%, then we would realize an annual savings of J$29.7 billion. I am positive that many Jamaicans could find a lot of things to do with that money. We would have more money to pump into education and security, as companies would make greater profits and the government would get more taxes.

What this means to me is that a significant part of our “energy” should be focused on reducing “energy” from oil. We are of course very late in implementing policies, but must do so expeditiously. The management of funds in this country has sometimes appeared to be similar to that of a bookkeeper who seeks to increase profits, not by adding value, but by cutting costs. We have to look at value added not just from the point of view of cost reductions but also from spending where the returns are the greatest. Suppose for example that we had put J$700 million per annum for the last 5 years in developing an efficient transportation system. We could possibly have a transportation system reliable enough so that people would be willing to leave their cars at home.

When you consider that approximately 30% of our oil bill is spent on transportation, even a 20% savings would be significant. Suppose also we had loaned interest free money through the NHT to homeowners to implement solar equipment. We could realize a significant savings on retail electricity use, which would also accrue significant savings, even though the JPS might not be happy. Not to mention if we had made the proper investments in alternative energy sources such as coal, or wind technology, instead of just talking about LNG. We would be quite relaxed while oil prices are rising. My own personal opinion is that LNG is not the right choice, but that’s for another time.


The point though is that our current oil crisis is as a result of us not making the move to act on the threat we were well aware of. It seems as if we will have to get used to high oil prices though, as it is going to plague us for a while, even if it goes below US$100 per barrel. What this means is that we must put in place the necessary fiscal policies to address this ever growing threat.

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