Role of Inventories and Speculative Trading

Question: Discuss about the Role of Inventories and Speculative Trading. Answer: According to the statistical data it has been seen there, the price of crude oil was low and by the end of the year, there has been a further decline in the price of crude oil. The primary blame could be given to the basic demand and supply of the economy. There has been a steep decrease in the demand for crude oil especially in the European and Asian market. The reasons for the price fall are as follow: Increase in Supply: There has been an increase in the production of Shale oil in U.S. At the same time, OPEC continued to produce the same quantity of crude oil in the market even after the initial decline in the price at the beginning of the year. Nuclear Pact: After the Irans nuclear deal took place between the global powers and Iran, there has been a prediction of over-supply of oil. This prediction in turn led to the decline of oil price. According to the data on oil price of the past 6 month of 2015 it has been observed that there has been an increase in the demand by only 2% where as the price decreased by 30%. This data on demand and supply can be used to find out the price elasticity of the commodity. The price elasticity shows the responsiveness of a commodity with respect to change in the price of that commodity. Price Elasticity = = (2/30) = (1/15) = 0.067 approximately. Here, the price elasticity of oil is much lesser than unity, which implies that crude oil is inelastic in nature. This means that the changes in price have minimum or negligible impact on the quantity of oil demanded. No, the price-elasticity of the demand and the write up of Source 1 are not in consistency to one another. According to the result obtained by the price-elasticity, it is seen that crude oil is inelastic in nature. This means that the change in price of oil is not going to have any significant impact on the quantity of oil produced in the global market. ON other hand according to the Source 1, it has been seen that the warning posed by Saudi-Arabias oil minister during 1980s came true. He warned that with an increase in the oil price there is going to be a decrease in the consumption of oil. In reality, consumers did react to oil price by reducing the consumption of oil. They increased the insulation of their home, started using energy efficient technologies and automobiles. Hence, the change in oil price showed changes in its consumption by the global customers. According to the above answer, it is seen that prices of oil do have an influence on the quantity demanded by the people. Hence, according to my view the oil producer should revise their oil price and production of crude oil. It has been shown in the diagram below: During the year 2015, there has been a decrease in price of oil and an excess supply of it. The initial supply curve is at S0. At this point, the price of oil is very low while quantity supplied Q0 is remains un-used in market. Hence, by reducing the quantity supplied an upward pressure can be created on oil price. Similarly, if there is a hike in the price of oil, it can be equilibrated by increasing the supply in the global market through various producers. OPEC after passing through several major business swings and few major problems with their oil price ultimately decided on reducing their quantity of production on 3rd December 2016. Due to decision to reduce the production of oil the organization expects to influence and increase the global oil price which has been declining for a long time. According to an article published in Forbes, the organization expects to see an increase I the price of crude oil due to the reduction in production. The reduction in the level of inventory is expected to create an upward thrust in the price of crude oil (www.forbes.com 2017). On other hand, this decision to reduce production has positive impact on other oil producers like Bruent. Bibliography: Alquist, R. and Gervais, O., 2013. Crude Oil.The Energy Journal,34(3). Badel, A. and McGillicuddy, J., 2015. Oil Prices: Is Supply or Demand Behind the Slump?.Economic Synopses,2015. Forbes.com. (2017). Forbes Welcome. [online] Available at: https://www.forbes.com/sites/arthurberman/2017/01/09/the-opec-oil-production-cut-another-year-of-lower-oil-prices/#57535d224073 [Accessed 18 Jan. 2017]. Kilian, L. and Murphy, D.P., 2014. The role of inventories and speculative trading in the global market for crude oil.Journal of Applied Econometrics,29(3), pp.454-478. William, J. (2014). History and Analysis -Crude Oil Prices. [online] Wtrg.com. Available at: https://www.wtrg.com/prices.htm [Accessed 18 Jan. 2017].