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Friday, 16 January 2015

Fuel prices fall

Government has reduced the price of fuel substantially in line with its 'cost plus pricing' model. The Energy Regulation Board (ERB) has released the following press statement:

The Energy Regulation Board (ERB) has reduced the pump price of petroleum products by K2.29 for petrol; K2.59 for diesel; and K2.08 for kerosene, which translates into 23.13%, 28.22% and 30.76%, respectively. Wholesale prices of petroleum products have been reduced by 35.93%, effective midnight 16th January 2015.

In determining prices, the ERB uses the Cost Plus pricing model, which operates on the principle that the final price of petroleum products should cover all costs incurred in the supply chain. Wholesale and pump prices are determined based on the cost of each feedstock cargo received. The cost of each feedstock cargo is mainly affected by global crude oil prices and the exchange rate of the Kwacha to the United States Dollar.
Since the last price adjustment on 8th December 2014, the exchange rate of the Kwacha against the US Dollar has held stable around K6.50/US$. Over the past three months, the World has seen the largest slump in oil prices since 2008. Oman crude decreased by US$28.58 (32.88%) from US$86.91/bbl in October to US$58.33/bbl in December 2014. The reduction in international oil prices is the trigger of the current fuel price reduction.

Owing to the procurement process for feedstock cargoes, the current feedstock cargo was purchased in December 2014 when the international oil price had fallen significantly. Therefore, the benefit of the continued drop in international oil prices is now being realized in the form of the substantial wholesale prices and pump prices adjustments.

In order to recover the cost of the cargo, the wholesale prices of Petrol, Diesel, Kerosene, Jet A-1, Heavy Fuel Oil and Liquefied Petroleum Gas at the Ndola Fuel Terminal would have to be reduced by 35.93%. The uniform pump prices would change as indicated below:

Current : 9.89
New : 7.60
Change: 23.13%

Current : 9.18
New : 6.59
Change: 28.22%

Current : 6.77
New : 4.69
Change: 30.76%

The new prices are effective on midnight Friday 16th January 2015. This is to allow for depletion of current stocks on the market.

It is, however, important to note that, as world prices of oil fall, there are still other fixed costs within the pricing model which remain constant: such as freight; TAZAMA fees and Refinery fees; taxes; downstream margins for Oil Marketing Companies; Dealers and Transporters; and such fees and charges, that need to be fully covered.

Cumulatively, between October 2014 and January 2015, ERB has reduced the prices by K3.03 or 28.50% for petrol; K3.42 or 34.17% for Diesel and 2.79 and 37.30% for Kerosene.

According to the ERB pricing model, if subsequent procurement of feedstock is made while the falling trend in international oil prices continues and the exchange rate appreciates or holds steady, then more reductions will be expected in the near future.

(Source: Energy Regulation Board)
The ERB statement is self explanatory. We would simply make three additional observations.

First, the big question is whether global oil prices will remain at this level for some time. The sustained fall in the price of oil, now down to $45 per barrel, has come as surprise to many. Some are pointing to new investments in USA and the growth of fracking. Others suggest it's geopolitics and the influence of the USA in pushing Saudi Arabia and other OPEC producers to stick to higher production levels in order to push the prices so low in the hope that it would hurt Russia and Venezuela. If OPEC countries decide to cut production the price of oil may go up and ERB may well need to adjust the pump prices upwards. Of course if the slow down in China and India is the reason then we may be in the era of low pump prices and that would be good news to many.

Secondly, there is some uncertainty as what is likely to be the scale of the impact on our economy, but we can be confident this is certainly good news. The cost to mining companies will certainly go down and that should come as welcome short term relief given the new fiscal regime. Small businesses will also welcome these changes, as will all motorists. In short given fuel is a key production cost for many this is good for the economy. What is more unclear is how this filters out to the rest of the economy. For example though one would expect public transport fares to fall, it is more difficult to predict by how much. It is a question of competition and the extent to which government will exert pressure in that area to ensure that low oil price benefits are being passed on. We can though be reasonably confident that low oil prices make life easier for government vis-a-vis the 2015 inflation target.

Finally, some will question why ERB has waited this long to pass on the benefits of low oil prices. Why now? Is it pressure from the opposition? Is it pure electioneering? We can safely rule out electioneering because if it was electioneering they would have passed on this benefit in December not wait until 5 days before an election. There's little political capital to be gained in that move. The reason for the timing would appear to be that the nature of Zambia's oil procurement strategy means that we have a lag in seeing the benefits of immediate global reduction in oil. We buy in bulk and for defined periods. If our fuel supply was market based and highly competitive we could see quicker reduction in pump prices, though not without other challenges / risks. Crucially, it is worth noting that the nature of our procurement strategy sometimes means that consumers do not feel price rises as soon as they should. So it cuts both ways.

Chola Mukanga
Copyright © Zambian Economist 2015

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