Analysis of the Business Environment - Oil Prices Coursework

Analysis of the Business Environment - Oil Prices - Coursework Example There are a number of intrinsic features of oil supply and demand that are significant to any study of crude oil price instability. Important features encompass competing price and income elasticity, a bifurcated and complex supply response, variable data quality, single currency prizing and the interaction of multiple refined oil product market with discrete elasticity of supply and demand. Consequently they do have a shock on elasticity of supply and demand and can have an impact on the wide-ranging elasticity of the crude oil market (Williams 1996). It is generally understood that OPEC (organization of petroleum exporting counties), has the biggest oil reserves in the world, and is accountable for most of the supply and pricing of petroleum products. OPEC is a permanent intergovernmental organization which at present consists of 12 oil producing and exporting countries, as members spread across three continents of America, Asia and Africa (Taylor 2006). The 12 member’s stat es of OPEC are: Algeria, UAE, Angola, Qatar, Ecuador, Kuwait, Iraq, Libya, Nigeria, Saudi Arabia and the Islamic Republic of Iran. Causes of Short Run Price Movement of Oil Global oil prices have more than tripled since the year 2003, and volatility has become the rule rather than the expectation. The market price of oil is volatile in the short run. This is because of the following causes: 1. The price elasticity of supply The price elasticity of supply is a measure used to measure the connection between the change in quantity supplied and change in price (Kellick 1995). If supply is elastic, producers can raise output without rise in cost or time delay. If supply is inelastic, firms find it hard to alter production in a given period of time. The price elasticity of supply is equated to the Percentage change in quantity supplied divided by the percentage change in price When the result of this is: More than one, then supply is elastic, Less than one then supply is price inelastic, Zero, then supply is preferably inelastic and When the result is infinity supply is perfectible elastic following a change in demand. Factors That Affect Price Elasticity of Supply of Oil Several factors affect the price elasticity of supply of oil, these are: a) The spare production capacity- the spare production capacity of oil have reduced over the years, this has been one of the major reason for the rapid increase in the prices of crude oil. When there is spare capacity, businesses can expand output easily to meet rising demand pressure on cost (Wakeford, 2010). However, when this spare capacity lacks then the business cannot be able to increase production and would mean that the high prices will persist due to the scarceness of the commodity (Clo, 2000). b) The period involved in the production process – when supply is more price elastic the longer the time period that a firm is permissible to adjust its production levels. In some markets for example in agricultural mark ets, the quick supply is fixed and is determined generally by planting decision made mouths before, and also the climatic condition, which have an effect on the overall production (Gibbs 2010). c) Factors substitution possibility-when factors substitution is achievable at low cost, then supply will be elastic. When factors are highly specialized as in our case here then