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My Oil My Money

Have you ever wondered how oil can make us become poorer or richer?

You may say that your family seldom cook why should we bother about the increases in oil price? Then, ask yourself again. Do you drive? If no, then fine, you can still be indifferent to the increased in oil price. Nevertheless, I believe, the increased in groceries prices will sure give you a pinch, right?

To give you a rough picture of how the increased in oil price correlate with grocery price is that the higher the price of the oil, it will make the resources more expensive when reach its destination. Hence, farmers can expect a drastic increase in the cost involved in planting, fertilizing and harvesting their crops and with the transportation costs involved, the impact is that the retail prices of our groceries will follow to increase.

At this point, we have to learn that oil is the greatest commodity in the world, because many of the things that we could do is because of oil. For example, from the power we use to generate heat or cool for our homes, and to use cars and vehicles to improve our transportation, all owed to the existence of oil.

What the heck of the increase of gas price at the pump? Like all consumer products, there are several factors at hand that are influencing the price of gas and not just solely of the price of crude oil. Prices generally increase when the world crude oil market lowers their inventories or when demand exceeds refinery capacity, i.e. demand more than supply.

There are five primary factors that affect the price you pay for gas at the pump.

The first factor is the price of gas at your local station that was supplied from crude oil suppliers such as those from OPEC. This alone makes up about 50% of the price you pay.

The second factor that affects gas prices is the cost of refining the crude oil, and is approximately 20% of the total price of gas.

The third factor is the cost of transporting the crude oil to a refinery, followed by a distribution point and then to the local gas station where we could get our car pump. This makes up around 10% of the total price. However, this also hinge on whether you are buying a brand name gasoline, of which the price will be higher than the normal one.

The forth factor are taxes imposed by your government which usually accounted for 10% of the total cost. Anyway, the mentioned percentage will vary from country to country. For example, in Australia taxes accounted for approximately 35% of the pump price.

The fifth factor is the markup at your local gas station. Obviously your local gas station is in business to make money, right? However, you may be surprised to learn that the markup is generally not more than 10 cent and may even low to just a few pennies per gallon! The amount of their markup is dependent on market pressures as well as by local legislature more so to protect small stations from being put out of business by larger companies who may want to undercut them.

Now the interesting question is why the oil price keeps on increasing?

First of all, we know it is due to the forces of supply and demand in order to reach the equilibrium price. If so then this is perfect; however, what is happening now is also the result of the price of Oil Futures which are traded on the commodities futures exchange. The prices change daily depending on what the traders/investors/speculators decide or think the price of oil will be in the future. Oil Futures is basically an agreement to purchase or sell oil at a set price on a specific date from now. So when the traders/investors/speculators think the prices will be high, they then choose to bid high, in the end it created kind of high oil prices without an oil shortage. I believe you can see this will eventually create a spiral effect thus push up the price!

Another possible reason is linked to the decline of the Dollar against Euro. The reason behind it is that since oil is priced in US dollar, the currency of international oil trade, and with the decline in Dollar and further that some OPEC wanted to convert the worthless Dollar into the Euro, this has further spurred the sentiment of buying, not only oil but across all commodities.

For your info, OPEC was founded in 1960 and consists of 12 member countries, i.e. Algeria, Angola, Indonesia, Iran, Iraq, Kuwait, Libya, Nigeria, Qatar, Saudi Arabia, United Arab Emirates, and Venezuela. Saudi Arabia has the largest crude oil reserve followed by Iran, Iraq, Kuwait, United Arab Emirates. What I know is OPEC countries produce approximately 43% of the world’s crude oil and 18% of the world’s natural gas. From here, we know that OPEC plays a significant role in determining the price of crude oil, and any decision made by OPEC to either increase or decrease oil production can cause upheaval in the market and have a ripple effect which extends into all consumer markets.

What all this means is that oil price is no longer caused by supply and demand, instead by activities and events that happened beyond our control. You will notice that soaring oil price has taken center stage in most countries headlines recently, therefore and obviously that high oil prices are here to stay, i.e. price of gas, price of food and literally everything with a price will go up. According to the U.S. General Services Administration (GSA), the average retail price for gasoline in 2002 was $1.35 per gallon and crude oil averaged $24.09 per barrel. On May 21, 2008, crude oil hit a record $130 per barrel, this has caused many stations selling regular gas for over $4 per gallon. Goldman Sachs, a leading global investment banking, securities and investment management firm predicts crude oil will hit $200 a barrel in two years. This could translate into $6 per gallon at the pump.

I believe the supply of oil will not pick up to our benefit and since our demand for gasoline will not diminish, at least not to any meaningful degree. You will agree with me that even if people stop going on pleasure trips (likely to happen if things become too expensive), people still need to drive to work, pick and drop the kids off at school, to buy groceries and to live a meaningful life. You will notice that it was only a couple of years ago when the price was at about $2.00 a gallon for gas when we drove into our local station, but how much is it now?

Does all this sound like we are in a recession? And what is the definition of recession and do we need to base on economic data to tell us? Recession means a significant decline in economic activity spread across the economy, which usually last more than a few months. Employment, industrial production, and sales volume all will be affected and reflected in the GDP (Gross Domestic Product), a common measure of economic output. In fact, there are sayings these days about the similarities of what happened in the 1970's, and what may be starting to happen now and ahead, i.e. a rising in gold price, increasing in oil price, the rate of inflation in commodities such as food, milk, farmland and a declining in the value of our money.

On the other hand, who will be excited about the increased in oil price? Basically I feel that the following groups will be happy somehow:

  1. Oil exporting country – but doubt whether they could enjoy this long once the price go too high, as eventually they will feel the pain when people do not want to buy more from them and they become a consumer of their own.
  2. Investors with serious investment in oil sector.
  3. Those who have the visionary to take bold move with financial intelligent and bravery.
From the positive side, the increased in oil price push the relevant and concerned parties to constantly search for alternative free energy supply, in a way that also may help shift the world economy through distribution of wealth from one country to another. Sound good, right?

To conclude, crude oil price is affecting everyone financially as well as socially. So, what do times like this tell us? Perhaps, we have to look hard at what we are doing, what we have been doing and what we should do now, i.e. change to smaller fuel efficient car, prudent spending, find ways to improve one income, have better investment knowledge, not to be cheated by too good to be true money making opportunity plus many others waiting to be learned and explored.

In short, re-examine our goal and purpose towards a better life and to those around us.

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