demands & supply of oil and gas-project in economics

7/31/2019 Demands & Supply of Oil and Gas-Project in Economics

1/6

Name Sudipto Paul

Batch PGCBM-20

SMS ID 2407617

Name of the Topic Supply and Demand of Oil and Gas in India

Name of the faculty Prof. Vishwa Ballabh

Name of the Study Center Sarat Educational Academy

South Park, Bistupur


2/6

Introduction

Indias oil and gas sector holds strategic importance in the economy as it meets around 42

per cent of the countrys primary energy demand and contributes over 15 per cent to thegross domestic product (GDP). With an interesting mix of private and government

companies, the industry is scaling new heights in domestic and international markets.

Economics

The Law of Demand

Demand, in economic terms, shows how much of a product consumers are willing topurchase, at different price points, during a certain time period.

After all, we all have limited resources, and we all have to decide what we're willing andable to purchase and at what price. As an example, let's look at a simple model of thedemand for a good let's say, gasoline. (Note that this example is illustrative only, and not a

description of the real gasoline market.)

If the price of gas is $2.00 per liter, people may be willing and able to purchase 50 liters perweek, on average. If the price drops to $1.75 per liter, they may be able to buy 60 liters. At$1.50 per liter, they may be prepared to purchase 75 liters. Note that while some gas usageis essential driving to work, for example some use is optional. Therefore, as gas pricesdrop, people may choose to make more optional trips during weekends, and so on.

The resulting demand schedule for gas might look like this.

Buyer Demand per Consumer

Price per liter

Quantity (liters)

demanded per week$2.00 50$1.75 60$1.50 75$1.25 95$1.00 120

This schedule, and probably your own experience as a consumer, illustrates the law ofdemand: as price falls, the corresponding quantity demanded tends to increase. Since priceis an obstacle, the higher the price of a product, the less it is demanded. When the price isreduced, demand increases.So, there is an "inverse" relationship between price and quantity demanded. When you

graph the relationship, you get a downward-sloping line, like the one shown in figure 1,below:


3/6

FIGURE 1: DEMAND FOR GAS

Price ElasticityThe extent to which demand changes with price is known as "price elasticity of demand."Inelastic products tend to be those that people must have, but they use only a fixed quantityof it. Electricity is an example: if power companies lower the price of electricity, consumersmay be happy, but they probably won't use a lot more power in their homes, because theydon't need much more than they already use. However, demand for luxury goods, such asrestaurant meals, is extremely elastic consumers quickly choose to stop going torestaurants if prices go up.

The Law of SupplyWhile demand explains the consumer side of purchasing decisions, supply relates to theproducer's desire to make a profit. A supply schedule shows the amount of product thatsuppliers are willing and able to produce and make available to the market, at specific pricepoints, during a certain time period. In short, it shows us the quantities that suppliers arewilling to offer at various prices.This happens because suppliers tend to have different costs of production. At a low price,only the most efficient producers can make a profit, so only they produce. At a high price,even high cost producers can make a profit, so everyone produces.Using our gasoline example, we find that oil companies are willing and able to supplycertain amounts of gas at certain prices, as seen below. (Note: we've assumed a simpleeconomy in which gas companies sell directly to consumers.)

Gas Supply per Consumer

Price per liter

Quantity (liters)

supplied per week$1.20 50$1.30 60$1.50 75$1.75 95$2.15 120

$0.00

$0.50

$1.00

$1.50

$2.00

$2.50

50 60 75 95 120

Price

Per

Litre

Litres purchased per week per person


4/6

At a low price of $1.20 per liter, suppliers are willing to provide only 50 liters per consumerper week. If consumers are willing to pay $2.15 per liter, suppliers will provide 120 litersper week. The question is this: what prices are needed to convince producers to offervarious quantities of a product or service?

As price rises, the quantity supplied rises as well. As price falls, so does supply. This is a"direct" relationship, and the supply curve has an upward slope.Figure 2: Example supply schedule for gasoline using supply schedule.

FIGURE 2: SUPPLY FOR GAS

Because suppliers want to provide their products at high prices, and consumers want topurchase the products at low prices, how is the price of goods actually set? Let's go back toour gas example. If oil companies try to sell their gas at $2.15 per liter, do you think they'llsell as much? Probably not. Yet, if oil companies lower the price to $1.20 per liter,consumers will be very happy, but will there be enough profit? And furthermore, will therebe enough supply to meet the higher demand by consumers? No, and no again.To determine the price and quantity of goods in the market, we need to find the price pointwhere consumer demand equals the amount that suppliers are willing to supply. This iscalled the market "equilibrium."

In Indian Perspective

There are two stages in the energy value chain, upstream (exploration andproduction) and downstream (refining and marketing). After extracting crude oilfrom the reserves, it is processed to yield various petroleum products, which arethen marketed.

ONGC and Oil India dominate the upstream segment contributing 85% to India'stotal oil production. In the downstream segment, major players include IOC, HPCL,BPCL and Reliance. Independent refineries have now become subsidiaries of thesebigger players. There are a total of 20 refineries in the country comprising 17 in thepublic sector and 3 in the private sector with a combined refining capacity of 178

$0.00

$0.50

$1.00

$1.50

$2.00

$2.50

50 60 75 95 120

Price

PerLitre

Litres Purchased per week per person


5/6

MMTPA. IOC dominates the refining capacity with a total share of nearly 27% of thecurrent refining capacity.

Refining sector got deregulated in FY99 whereas marketing sector deregulationbegan to take shape on 1st April 2003, although it largely remained so on paper.Political intervention persists in the pricing of sensitive petroleum products.

Recently, the government increased the price of petrol, diesel, LPG and kerosene.Barring petrol, the other fuels are still not market determined.

ONGC is the major producer of natural gas accounting for 60% of domesticproduction. RIL's KG basin fields have also become a major contributor. GAIL is themonopoly player in the transmission and distribution of natural gas, accounting forabout 79% of the supplies. However, the country still witnesses shortage in supplyof natural gas. In spite of huge discoveries made by RIL in KG basin, the demandgrowth will outperform the supply growth for some time to come.

Key Points

Supply In the upstream segment, supply from the domestic market caters to30% of the total demand for crude oil in the country. The supply of thecrude is largely met through import. In the downstream segment,refining has seen significant capacity addition in the recent past. Lack oflogistics support can hamper the large-scale export potential of theproducts.

Demand In the past, we have seen a fair degree of correlation between the growthin petroleum products and the growth in the overall economic activities.Thus demand will be in line with economic growth.

Barriers toentry

In the upstream segment, government permission is required tocommence operation. Finding, exploration, development and productioncost of oil fields are significant, thus barriers are higher. The new playerswanting to enter the retail segment need to pump in a minimum of Rs 20bn in the sector as eligibility criteria.

Bargaining

power ofsuppliers

High, since crude availability of country is only about 30% of therequirement. OPEC, a group of major oil producing countries, has a greatbargaining power. For the petroleum products on the other hand, giventhe surplus capacity in the country and the commodity nature of theproduct, the bargaining power is low.

Bargaining

power of

customers

In the upstream segment, government allocates the crude oil producedby the players. Thus, in an indirect way acts as a bargaining arm forOMCs. In the downstream segment, the standalone refineries no longerhave to share the subsidy burden. On the retail front, government acts asa strong bargaining arm of customers, with OMCs having to sell thesensitive petroleum products at losses. In the industrial and consumer
http://www.equitymaster.com/detail.asp?date=6/25/2010&story=4&title=Fuel-prices-to-go-uphttp://www.equitymaster.com/detail.asp?date=6/25/2010&story=4&title=Fuel-prices-to-go-up


6/6

segment, the competition is moderate and is expected to intensify withthe increase in the refining capacity of the country.

Competition Upstream segment has been made competitive with the introduction ofNELP. However the dominance of ONGC in the segment will continue for

some time to come. In the downstream segment, increased action isexpected in product pipelines and city gas distribution

demands & supply of oil and gas-project in economics

Documents