This is a must-read for policy-makers who are considering a lasting but feasible urgent solution on the oil inflation problem. Enjoy!
Setting Fair Oil Prices for the Filipino People
Privilege Speech of Rep. Walden Bello, May 16, 2011
A year after its election, the administration can point to the high economic growth rate, particularly in agriculture, as one of its achievements.
However, perhaps more than economic growth, people prize economic stability, and the way things are going right now, there is a sense of things slipping out of control. The main challenge citizens want the administration to meet is, far and away, the economy. And among the economic issues, inflation receives the highest priority as a problem that must be addressed by the government in a recent Pulse Asia survey, with some 53 per cent of respondents citing it.
|Rep. Walden Bello|
What is unraveling things is the rapid rise in the price of oil, which induces an inflationary effect on all other goods, including food, the price of which is greatly determined by oil-intensive transportation, refrigeration, fertilizers, and pesticides. In the last four months, the oil majors have raised prices six times, increasing the price of gas by P10.25/liter since January. Gasoline prices now range from P53.95/liter to P60.22/liter with a common price of P56.95/liter. True, there have been slight rollbacks during the last two weeks, but this is a case of one step backward and two steps forward on the part of the oil majors, who are wary of rising public resentment.
Yet this sense of fatalism is what has been projected by recent statements by Energy Secretary Rene Almendras who said that addressing the rising price of oil must take a backseat to assuring oil supply because “What can we do when the oil companies tell us they want to back out?” The same sense of helplessness has been transmitted by Senate Energy Committee Chairman Sergio Osmena III, who recently stated, “There is no law dictating prices (of oil products), that is why there is no overpricing to talk about. If they (oil firms) want a huge profit, we cannot stop them.”
President Aquino must reject such fatalism from his subordinates.
Causes and Dynamics of the Oil Price Rise
Middle East may have contributed to some disruption in supplies, this is very minor and certainly does not explain the massive rise of over 400 per cent in the crude price.
Now, while transnational oil giants may not be the main instigators of this process, they are benefiting from it. In the last week of April, the world's six largest publicly traded oil companies (among which are the mother companies of two of the oil operators in the Philippines) reported a combined $38.1 billion in first-quarter profits owing to the rapid rise in the price of crude.
Breaking the Price Spiral
Image via Wikipedia
Oil Exports per Country
Herd behavior is behind the speculative rise in oil price, and what is needed is a firm signal that would drive the horde of speculators in the other direction. One of the key factors that drove the herd in the other direction in 2008-2009, when oil prices crashed from $148 a barrel to $33 in slightly over six months was global recession, of which the oil price rise had been a major cause. If there is anything that can be learned from that crisis, it is that we cannot wait for recession, with all its painful consequences, to serve as the command for the speculative herd to retreat.
Allowing the prices to continue to rise threatens not only consumers but business. While people may think businesses can simply pass on the rising costs to consumers, it is not that simple. During the 2007-2008 oil price rise, Philippine Air Lines passed on price increases to passengers. But its effort to assure its oil supplies to maintain its profits led to it making futures contracts at inflated prices that led to massive losses when the oil price collapsed. Even the oil giants suffer the consequences of unregulated price rises: like PAL, Petron lost four billion pesos from forward hedging deals when oil crashed in 2008. Nobody’s interest except that of the speculators is served by uncontrolled inflation.
Need for a Comprehensive Strategy
What is needed is a comprehensive strategy not only to blunt the impact on both the consumer and business of the rise in the price of oil but one that would frontally tackle the root cause of the crisis itself. So far, proposed solutions, while useful, have been advanced in a largely piecemeal fashion, and these have been defensive and of limited impact. Allow me first address the measures that the administration has taken so far.
Like wage increases, “targeted subsidies” are a good idea. However, the current scheme mandated by Executive Order 32 appears to be, as Business World puts it, “hardly more than political gimmickry.” The present initiative, which gives a 1050 peso subsidy for jeepneys and 300 pesos for tricycles, has two problems. The first is that it mainly benefits the owners of jeepneys and tricycles because it awards the cards only to owners who can produce the franchise, original registration certificate, and route designation. The owner would merely calculate the 1050/300 peso into his "boundary," and this would amount of two days worth of owner's income in one month. The second is that the amount is too small, now being a one-time 1050/300 peso subsidy.
A more effective approach would be for the administration to 1) set up an ID system that would allow jeepney and tricycle driver to claim and calculate the 1500/300 pesos into their boundary; and 2) commit to renewing the subsidy every three months should oil prices continue to rise.
Suspending or Eliminating the VAT on Oil Products
Eliminating or temporarily suspending the Value Added Tax (VAT) on oil products was recently mentioned as a possibility by Secretary of Finance Cesar Purisima. This is a positive suggestion that could result in significantly lower prices and thus benefit the consumer. A balanced must be achieved, however, between the benefit to the consumer and the loss of tax revenue, as some have suggested. Also, there must be an effective method to ensure that the suspension of VAT is being reflected in the pump price.
On the first issue, benefiting the really needy while moderating revenue loss can be achieved by having the VAT exemption limited to tricyles, jeepneys, commuter FXs and taxis. On the second concern, to ensure that oil companies will not pick up the slack in prices from the vat exemption, one can have the tax exemption reflected in the receipt, which will give consumers a clear way to differentiate and monitor changes in oil prices and the application of the VAT exemption.
The Need for Flexible Price Management
Intervening in some way to contain the rise in the price of oil cannot be avoided in any viable solution, and this course of action will necessitate more than the Department of Energy examining the books of the oil giants, as suggested by Reps. Rufus and Maximo Rodriguez. But before forceful intervention on prices can take place, one must convince people like Energy Secretary Almendras and Senator Osmena that their fears of the oil majors withdrawing from the Philippines are groundless.
|DOE Sec. Jose Almendras (left) and Sen. Sergio Osmeña (right)|
These two gentlemen simply unwittingly repeat the threat of the oil majors when they perceive the threat of price controls. First of all, being now a majority-Filipino-owned company, Petron has, for all intents and purposes, nowhere else to go but the Philippines. As for Chevron Caltex, it has been uttering the threat of withdrawal for some time now, yet it stays. The reason leaving the Philippines is an empty threat is that no one withdraws from a very profitable market owing to temporary dips in profitability. Should one of the oil majors withdraw, that would translate into the two others taking over its market share, with increased profits from increased sales volume. Should the three, in a display of collective solidarity withdraw, there are many smaller, independent companies that would come in to fill the demand. In a competitive world where participants see every normally profitable market as vital to long-term profitability, no one would think of voluntarily yielding market share.
Is there empirical evidence for this claim? In late 2009, when there was a temporary freeze on the price of oil owing to Typhoon Ondoy, none of the oil majors withdrew, though they complained loudly. Why? Because the market was so profitable that they, the majors, still recorded significant profits. According to Petron Corporation, the company posted a net income of P4.3 billion in 2009.
Pushing the oil majors to moderate prices is one key part of the solution. Convincing the oil producers, that is, the Organization of Petroleum Countries, is another.
To motivate the oil majors and OPEC to take steps to break the speculative spiral will require government action at both the national and international level. At the international level, one course of action is, as suggested by the UN, to have oil-consuming countries negotiate a benchmark “fair” cost of oil with the Organization of Petroleum Exporting Countries and limit price movements within a band. At the national level, the government can impose price controls on the pump price of gas and diesel.
Before we go any further, let me say here that I agree with Rep. Antonino of Nueva Ecija’s assertion in his privilege speech last week that there is no strategic solution to the energy crisis except to promote renewable energy. I think we should start now to reduce our dependence on fossil fuels by seriously implementing the Renewable Energy Act. We have, however, to deal with the short-term, because, as the economist John Maynard Keynes said, unless we do so, “we are all dead.” And the short run is the reality of the oil price rise that is crippling our people.
Elements of a Flexible Oil Price Management Program
The following proposal proposes the establishment of a flexible price-setting mechanism and complementary measures to ensure its effective operation.
1. Fair Oil Price Setting Mechanism
President Aquino must create a committee that will set and review the price band. The committee should be headed by the Department of Energy, and should be composed of representatives from oil companies, consumers’ groups, and three independent experts.
Should the monthly balance sheet of the oil corporations reflect a loss, the government will not be held accountable for reimbursing this loss. Should the balance sheet reflect a more than moderate rise in profits—say 10 per cent or above—this sum should be subjected to a windfall profits tax.
2. Setting up a Strategic Oil Reserve
President Aquino must direct the Department of Energy to create a blueprint for the establishment and management of such reserves, including identifying sources of funding for building the country’s oil stocks. The DOE can look at tax revenues from oil companies as possible sources of funding for the creation of the said reserves.
Establishing an oil reserve might require legislation, but it would be best if the initiative can be put in motion immediately by invoking the charter of the Philippine National Oil Corporation (PNOC).
3. Strategic plan to regain control of Petron
President Aquino must begin developing a medium-term plan to regain control of Petron, as a strategy to increase government’s capability to intervene in the market and break the oligopolistic tendencies of oil companies. Petron’s share in the domestic oil market is at 38.6%, giving it the clout to effectively lead and influence oil prices.
Regaining control of Petron can be achieved by government buying back at least 51% of Petron shares, or by a combined action of acquiring a substantive share of Petron and maximizing government participation in the SMC Board, which now controls the oil company.
The President must direct the Department of Finance, the Department of Budget and Management and the Department of Energy to lead this planning process, in consultation with relevant members of the Cabinet.
While this process is in motion, the administration must exercise “moral suasion” on Petron, which is now majority Filipino-owned, to serve as a price-setter. Industry insiders still see as a model of effective moral suasion the pressure exercised by former President Joseph Estrada’s Energy Secretary Mario Tiaoqui in keeping down prices. These tactics included the threat of imposing negative sanctions.
Separate but related to these considerations is the issue of who controls Petron at present. If the persistent news that Petron has fallen under the control of a predatory family is indeed true, then it is all the more important for the government to put in motion a process of regaining control of the firm.
4. Support UN Advocacy for International Oil Price Controls
The Philippines must support the United Nation’s call for an international negotiation to determine a fair cost of oil, and to limit international oil price movements within a certain band. However, this should not be a conference limited to OPEC and the G 20 but a UN-sponsored meeting bringing together all oil-consuming and oil-producing nations.
The President must call on the Department of Foreign Affairs and the Department of Energy to look at how the Philippines can relay and actualize it support to UN. The DFA can also look at the possibility of the Philippines bringing this as an agenda in the next ASEAN Summit in September this year.
By any definition, a situation of unregulated, sharp price increases at the pump brought about by a more than 400 per cent rise in the price of crude in two years, which sparks inflation and brings an economy to the edge of recession at the same time, qualifies as an national emergency.
However, to enhance the effectiveness of temporary government intervention, it will be necessary to amend the Oil Deregulation Law. In other words, Congress must review and amend RA 8479 with the goal of introducing provisions that will (1) instititutionalize flexible intervention in the market to protect the interest of retail oil consumers (2) integrate the purchasing capacity of consumers as an important factor in considering the operation of the Automatic Oil Pricing Mechanism, (3) formally define a condition of national hardship brought about by extreme oil price volatility as an emergency, and (4) better monitor and ensure the compliance of oil companies in providing reports on, among other things, oil price and supply as well as revenues to the Department of Energy.
That there is no smooth road to containing the drastic rise in the price of oil brought about by uncontrolled speculative activities is a stark reality. There might even be threats of supply price disruptions on the part of the oil majors. Such threats must, however, be expected from them. Carrying them out is another thing, for this will cross the line to illegality, and the oil majors will find it difficult to take this course on pain of courting both popular condemnation and legal action from the government that would significantly affect the future profitability of their operations in the Philippines.
The flexible price-setting mechanism and its associated components outlined above are reasonable. They will not harm the oil majors’ interests; they will simply encourage them to be satisfied with moderate profits, while pushing them to take action to break the speculative price spiral that harms both their interest and the interest of consumers and business.
But while reasonable, these measures will provoke much lightning and thunder from the oil majors and their propagandists. On this issue, political will will be demanded from the president. He has shown this in addressing other challenges. I am confident he will show it in this instance as well.###