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Blogspot by Jorge Alarcon: The role of the government concerning hydrocarbon prices

What should the role of the Government be regarding hydrocarbons prices?

Within the studies and analysis I am developing, as a strategic analyst, I was supposed to analyze the Oil and Gas sector perspectives and to develop several scenarios of prices and consumption at different geographical levels. Regardless the sophisticated analysis that might be done to forecast price scenarios, I found it shocking to observe how the fuel retail price will evolve in the future and how detrimental the regulation intervention is according to current governmental incentives.

I would like to start with recalling that retail prices, those that affect small business and individual users, are proportional to the future prices set in global markets. This means that the retailer will offer the price that will allow generating enough income to buy crude oil or fuel in order to continue with its activities. This price is also determined by the production cost, given that shale and deep-water reservoir are not easy to exploit. The aforementioned crude price is set by three main costs, cost of exploration, cost of production and cost of transportation. The exploration cost is affected by engineering activities (seismic equipment, geologists, IT etc…) and by permits, which are issued by governments that allow Exploration & Production companies to explore new resources in sovereign territory (on and off-shore).  Exploration requires drilling activities, which are under extraordinary scrutiny of public institutions (environmental and others) that are lead by the concerned governments. Similarly, production must be in line with National rules and regulations, which are sometimes changing and rather strict. Consequently, the so-called upstream value chain (Exploration and Production of Crude Oil) of the oil production is in a certain way controlled by Governments and by the demand side (fuel retail).  Regarding the demand side, taxation controls the demand given that in some cases levy on fuel reach more than 50% of final retail price. In my view this leads to an adverse scheme that allows governments to act on the supply and demand side and endow them with a powerful and public managing tool. This tool enables the government to collect money in order to develop political bargains, which are based on short-term interests. From the market perspective transparency regarding the regulatory procedures is necessary and from the social welfare and economic development perspective long-term certainty is needed, instead of activities according to the short-term government interest . This could be achieved by pushing international institutions to impose common rules in regulations and taxations, which should be designed to compensate producing countries’ population and to promote environmental initiatives in the developed countries. Do we as professional have the possibility to enhance the transparency in the sector? Or rather is the population as a whole to ask for it? And considering our environment, is it the taxation scheme that copes with sustainability?

 Jorge Alarcon is Consultant and Project Manager at Atos Worldgrid. He worked as Energy Consultant and Analyst for several International Institutions and Companies worldwide in the field of Energy Regulation and Commodities Market conception. jorge.alarcon@xtrategical.com