Petroleum Industry

Pricing Mechanism and Effect on Economy

Introduction:
The Petroleum Industry forms the backbone of the world economy. It is the world’s largest
industry in terms of dollar value, consists of exploration, extraction, refining, transportation and
marketing of petroleum products. The main products of the industry are fuel oil and gasoline
(petrol). Petroleum is also used in a number of industrial activities, production and also as a raw
material for chemical products, drugs, solvents, fertilizers, pesticides and plastics. Also the
production and consumption of oil is a major determining factor to international relations and
determines foreign policy.

The industry comprises of upstream, midstream and downstream components. Upstream activities
comprises of exploration, development and production of crude oil. The midstream activities deal
with linking upstream activities with consumers. It includes gathering, storing and transporting
crude oil. Downstream activities consist of refining and marketing activities.

The price of petroleum is quoted as the Spot price in NYMEX (New York Mercantile Exchange).
It is one of the most widely traded commodities in the market.

Significance:
The reason we chose this particular industry is because petroleum is vital to many industries. This
makes all the nations highly dependent on it due the lack of substitutes available.

The demand for oil is highly dependent on macro economic conditions. High oil prices generally
have a negative effect on global economic growth. But some critics opine that the increase in oil
prices have infact increased the global economic growth. Oil producing regions have led to a
heavy flow of investments world over resulting in economic growth.

Oil accounts for a large percentage of the world’s energy consumption, ranging from a low of
32% for Europe and Asia, up to a high of 53% for the Middle East. Other geographic regions’
consumption patterns are as follows: South and Central America (44%), Africa (41%), and North
America (40%). The world consumes 30 billion barrels (4.8 km³) of oil per year, with developed
nations being the largest consumers.

Oil price has undergone a significant decrease since the record peak it reached in July 2008. On
December 23, 2008, WTI crude oil spot price fell to US$30.28 a barrel, the lowest since the
global financial crisis began, and has been trading between US$35 a barrel and US$73 a barrel in
2009. Its price is greatly influenced by Speculation and Cartelization.

The relative value of crude oil is dependent on mainly location and quality. The price is
determined by 3 main benchmarks:

• WTI from the US

• Brent blend from the UK North Sea
• Dubai or Fateh from UAE.
A strong benchmark is characterized by its Volume, Free trade, Quality, Equity, Liquidity, and
Price transparency.

Objective of Study:
• Understanding the Pricing Mechanism in the industry

• Studying the role of benchmarks

• Studying the oil price trend in the last 10 years

• Analyzing the causes for price variation

• Role of Speculation in price variations

• Market Structure

Concepts of Economics to be applied:

• Demand and Supply Analysis

• Structure of Market- Oligopoly

• Cost Concepts

• Pricing Concepts

• Cartelization

Research Methodology:
We intend to use secondary sources of data like articles, newspapers, journals, websites, and
interviews with industry analysts and magazines, to create our research project. Our conclusion
will be based on the analysis on the data. We will also link the case study ‘OPEC: THE
ECONOMICS OF A CARTEL’ to our research project.
 A

Proposal on

Petroleum Industry
Pricing Mechanism and Effect on Economy

Submitted to:

Dr. Swati Jain

Faculty, IBS Hyderabad

Submitted by:

Ruhi Vadehra 09BSHYD0700

Shashank Kapur 09BSHYD0768

Nitya Mehta 09BSHYD0536

Nazneen Hansotia 09BSHYD0488

Priya Sasidhar 09BSHYD0595