The politics of oil
There is no doubt that the last increase in the water and electricity consumer prices will leave a negative economic and social impact. It is useless to invest in a sleek propaganda campaign - families will be shocked when they receive their water and...
There is no doubt that the last increase in the water and electricity consumer prices will leave a negative economic and social impact. It is useless to invest in a sleek propaganda campaign - families will be shocked when they receive their water and electricity bills.
Although it is commendable to continue to introduce incentive packages for the use of renewable sources, most families will use electricity in the foreseeable future. The renewable energy incentive packages have yet to become effective, and still, there would be a long lag until any household starts to benefit from such technology because of the various bureaucracy hurdles.
The crude oil market is as complex as one makes it. Crude oil prices behave much like any other commodity, with wide price swings in times of shortage or oversupply. The crude oil price cycle may extend over several years responding to changes in demand and supply. Oil became a volatile commodity around 1974 when Arab countries started to use oil as a political weapon to put pressure on the West for a solution on the Palestinian issue.
Interestingly, the average price of oil from 1974 to 2008 has been established as $24.98 at the 2006 (dollar) value. The first shock of oil prices came in 1974 which is tied to the Yom Kippur War oil embargo. At the time, the three big companies in Malta - Shell, BP and Esso - could not guarantee oil supplies to Malta and steps were taken for government involvement in the sector.
The second shock in the price of oil came during the long Iran-Iraq war. The two are major producers and supply was under threat. Here the price of oil rose to $70 a barrel when, before the first shock, it was being sold under $20. The increases began in 1978 and lasted to 1987. It is understood that Malta sought special arrangements with friendly countries for the procurement of its crude oil requirements. Prices rose again during the Gulf War that saw Iraq invade Kuwait.
In 1997-1999, there was a sharp decrease in the price of oil and this created the local controversy of forward-buying or not. It is understood that Labour technocrats made a forward-buying agreement for oil when the price went below that agreed on. The drop came as a result of a 10 per cent increase in quotas by OPEC due to the Asian crises. It was already known that some OPEC countries were already producing above their allocated quotas and therefore the market was over-supplied.
When the price fell to an unacceptable level in 1999 OPEC again started to cut down on quotas that had an immediate effect on the price of oil that rose again. The price decreased for a while after the September 11 attacks.
But since then, the price of oil continued to excel, reaching record prices of over $150 per barrel. The factors that led to the price hike were the situation in Venezuela, the Iraq war, the record growth in Asia, especially China and India, and the fall of the US dollar.
It all confirms that world events, OPEC and the value of international currencies have been the major factors that have affected the price of crude oil since the early 1970s. Although some may think that the price of oil has skyrocketed due to speculators and the creation of the so called "paper barrel", experts on the oil market believe this was not the case.
In Malta, energy prices were increased in 1998 under the Labour Administration and then adjusted by the Nationalist Administration in 1999. The energy prices were one of the issues of the general election in September 1998 which saw the return of the PN to government.
The next election was held in March 2003 following the referendum on the entry to the EU. Between 1999 and 2003, the price of oil increased from $18 to $25; and it also peaked to over $32 per barrel.
Once Malta had secured entry to the EU on May 1, 2004, it was time to take the bull by the horns. Had the government adjusted the tariffs during the pre-EU entry campaign, this would have had a devastating effect on the electorate and therefore everything was swept under the carpet while Enemalta's financial position deteriorated.
The government appointed PriceWaterhouseCoopers to prepare a report to be presented to the Malta Council for Economic Development. The 10-page presentation confirmed that Enemalta had lost more than Lm70 million (€163.1 million) during the financial years ending September 1999 to September 2004. The price of imported fuel for energy production increased from Lm19 million (€44.3 million) in 1998/1999 to Lm40 million €93.2 million) in 2003/2004 and peaking to Lm43 million (€100.2 million) in the previous year.
The PWC presentation commissioned by the government had to lay down the basis for the increase of the energy prices in Malta. It made the case on behalf of Enemalta and the government. There was no economic or social analysis. Once the election was over and EU membership secured, the plan was to recover these losses and align the energy prices with world oil prices.
To make things even worse financially, Enemalta had adopted a strategy to commence using low sulphur fuel oil (LSFO) in the electricity generation process. This was done in 2003 to meet the environment regulations of the EU. In 2003, Enemalta used 56 per cent of LSFO at an incremental cost of Lm3.4 million (€7.9 million). In 2005, the same figures increased to 95 per cent and Lm5.3 million (€12.3 million). These costs had to be borne by the taxpayer.
Enemalta has never been a model enterprise. During the period 1999-2004, it had between 14 to 19 per cent of its throughput of generated electricity lost through unbilled electricity units. Technical losses were estimated at five per cent. These losses were estimated to cost, in fuel cost only, Lm2.6 million (€6.1 million) in 1999 and Lm5.1 million (€11.9 million) in 2004. At that time, it was agreed that these costs would be forked out by the Ministry of Industry, Technology and Information (MITI) which, in simple terms, means the taxpayer.
In this complex scenario of politics and economics, the government had an ally: the falling US dollar that cushioned part of the increase in the price of oil. Had this not happened, the situation would have been more serious for Enemalta, government finance and the balance of payments.
For 2005, the PWC presentation stated that with the current Enemalta performance and energy selling prices, the corporation can only absorb a fuel cost of Lm31.6 million (€73.6 million). Anything above that would have to come from increased prices or Enemalta would continue to suffer more losses. Enemalta's revised budget in November 2004 indicated that fuel cost would be around Lm47.8 million (€111.3 million), a shortfall of Lm16.2 million (€37.7 million).
The solution was found in the introduction of a surcharge on water and electricity consumption of 45 per cent. I am here only dealing with domestic use of water and electricity. The commercial sector can pay for their consultants. The surcharge moved up and down as per Table VI.
Between October 2005 and June 2008, government public statements were boasting how much the government was subsidising consumption of water and electricity. When the first surcharge was introduced, the government stated that the surcharge rate of 45 per cent had a temporary discount of 29 per cent. In a public statement dated May 2, 2007, it was announced that the price of oil went down from $345 per ton in August 2006 to $245 per ton. This led to a reduction in the surcharge from 54 to 45 per cent for March, April and May 2007.
The rate of the surcharge was maintained at 50 per cent for August 2007 to June 2008. It was stated that the actual rate should have been 75 per cent but the government was subsidising the difference. The government also claimed that Enemalta was benefiting from forward-buying and the use of financial derivatives (hedges).
It is also true that Malta was working to introduce the euro on January 1 and therefore the economy required stable prices in the energy sector. The experience for many countries was that the euro created inflation and the government was being advised that it should not take any steps to create inflation through higher prices of government services.
A more significant factor was that the general election was on the government's mind. The energy prices became an electoral issue when Labour proposed to cut the surcharge by 50 per cent. Had the government increased the surcharge it would have made Labour's proposal more attractive to middle class families.
Hence a political decision was made that whatever the price of oil, the surcharge shall be maintained at 50 per cent. A press conference on November 30, 2007, the government announced it was subsidising water and electricity in the tune of Lm40 million (€93.2 million). It was a conscientious political decision since there seems to be no correlation between the rate of the surcharge and world prices of oil. The correlation factor of the local surcharge to world oil prices came only to 0.35 (best correlation when the result is one).
Last July, the honeymoon with the electorate was over, and the government increased the surcharge from 50 to 95 per cent for July to September. The surcharge was increased when the price of oil was already falling on the international markets.
It is quite true that there is a lag of no more than three months to move crude oil to Enemalta storage stations. It is also quite correct to state that finally the cost for Enemalta is the price of the refined oil delivered to Malta. But in public statements issued by the government represented by Minister Austin Gatt, the government only published the price of crude oil and nowhere has there been any reference or publication of the real price at which Enemalta purchased its refined oil requirements. Other factors that influence the final cost to Enemalta is transport and refinery costs and the exchange rate by which the corporation purchases its oil requirements, which has generally been the US dollar for a while.
The official, documented strategic policy up to last September was that the government would subsidise the consumption of water and electricity, with a number of incentives for the use of renewable energy sources and efficient domestic appliances.
Last October, the government made a strategic policy summersault. It was very evident that the government could not continue to subsidise the consumption of water and electricity and that a new strategic direction was required. There are several reasons for this, the main ones being the government's financial situation and EU state aid rules. I am sceptical how much the government had the environment in mind.
It is also noteworthy that the costings from October 2008 include €25,494,108, the return on capital employed at the rate of 6.61 per cent. I wonder how this rate was established.
There is nothing wrong in making policy changes. What is wrong is that these changes are made effective retrospectively, and there are no other economic and social factors taken into consideration. It is also politically incorrect to bulldoze such measures and refrain from meeting the trade unions to further discuss the points raised on behalf of the Maltese working community.
The shift in strategy should have been introduced on a maximum period of three years, by which time the incentives for the use of renewable energy sources would have started to reduce households' Enemalta energy consumption.
There would also be a relaxation of the bureaucracy by the Malta Environment and Planning Authority, Enemalta and Malta Resources Authority on the installation of these new energy sources as well as the introduction of a better financial rate when consumers sell electricity to Enemalta on the national grid.
Mr Magro is an industry analyst and commentator on local affairs.
Although it is commendable to continue to introduce incentive packages for the use of renewable sources, most families will use electricity in the foreseeable future. The renewable energy incentive packages have yet to become effective, and still, there would be a long lag until any household starts to benefit from such technology because of the various bureaucracy hurdles.
The crude oil market is as complex as one makes it. Crude oil prices behave much like any other commodity, with wide price swings in times of shortage or oversupply. The crude oil price cycle may extend over several years responding to changes in demand and supply. Oil became a volatile commodity around 1974 when Arab countries started to use oil as a political weapon to put pressure on the West for a solution on the Palestinian issue.
Interestingly, the average price of oil from 1974 to 2008 has been established as $24.98 at the 2006 (dollar) value. The first shock of oil prices came in 1974 which is tied to the Yom Kippur War oil embargo. At the time, the three big companies in Malta - Shell, BP and Esso - could not guarantee oil supplies to Malta and steps were taken for government involvement in the sector.
The second shock in the price of oil came during the long Iran-Iraq war. The two are major producers and supply was under threat. Here the price of oil rose to $70 a barrel when, before the first shock, it was being sold under $20. The increases began in 1978 and lasted to 1987. It is understood that Malta sought special arrangements with friendly countries for the procurement of its crude oil requirements. Prices rose again during the Gulf War that saw Iraq invade Kuwait.
In 1997-1999, there was a sharp decrease in the price of oil and this created the local controversy of forward-buying or not. It is understood that Labour technocrats made a forward-buying agreement for oil when the price went below that agreed on. The drop came as a result of a 10 per cent increase in quotas by OPEC due to the Asian crises. It was already known that some OPEC countries were already producing above their allocated quotas and therefore the market was over-supplied.
When the price fell to an unacceptable level in 1999 OPEC again started to cut down on quotas that had an immediate effect on the price of oil that rose again. The price decreased for a while after the September 11 attacks.
But since then, the price of oil continued to excel, reaching record prices of over $150 per barrel. The factors that led to the price hike were the situation in Venezuela, the Iraq war, the record growth in Asia, especially China and India, and the fall of the US dollar.
It all confirms that world events, OPEC and the value of international currencies have been the major factors that have affected the price of crude oil since the early 1970s. Although some may think that the price of oil has skyrocketed due to speculators and the creation of the so called "paper barrel", experts on the oil market believe this was not the case.
In Malta, energy prices were increased in 1998 under the Labour Administration and then adjusted by the Nationalist Administration in 1999. The energy prices were one of the issues of the general election in September 1998 which saw the return of the PN to government.
The next election was held in March 2003 following the referendum on the entry to the EU. Between 1999 and 2003, the price of oil increased from $18 to $25; and it also peaked to over $32 per barrel.
Once Malta had secured entry to the EU on May 1, 2004, it was time to take the bull by the horns. Had the government adjusted the tariffs during the pre-EU entry campaign, this would have had a devastating effect on the electorate and therefore everything was swept under the carpet while Enemalta's financial position deteriorated.
The government appointed PriceWaterhouseCoopers to prepare a report to be presented to the Malta Council for Economic Development. The 10-page presentation confirmed that Enemalta had lost more than Lm70 million (€163.1 million) during the financial years ending September 1999 to September 2004. The price of imported fuel for energy production increased from Lm19 million (€44.3 million) in 1998/1999 to Lm40 million €93.2 million) in 2003/2004 and peaking to Lm43 million (€100.2 million) in the previous year.
The PWC presentation commissioned by the government had to lay down the basis for the increase of the energy prices in Malta. It made the case on behalf of Enemalta and the government. There was no economic or social analysis. Once the election was over and EU membership secured, the plan was to recover these losses and align the energy prices with world oil prices.
To make things even worse financially, Enemalta had adopted a strategy to commence using low sulphur fuel oil (LSFO) in the electricity generation process. This was done in 2003 to meet the environment regulations of the EU. In 2003, Enemalta used 56 per cent of LSFO at an incremental cost of Lm3.4 million (€7.9 million). In 2005, the same figures increased to 95 per cent and Lm5.3 million (€12.3 million). These costs had to be borne by the taxpayer.
Enemalta has never been a model enterprise. During the period 1999-2004, it had between 14 to 19 per cent of its throughput of generated electricity lost through unbilled electricity units. Technical losses were estimated at five per cent. These losses were estimated to cost, in fuel cost only, Lm2.6 million (€6.1 million) in 1999 and Lm5.1 million (€11.9 million) in 2004. At that time, it was agreed that these costs would be forked out by the Ministry of Industry, Technology and Information (MITI) which, in simple terms, means the taxpayer.
In this complex scenario of politics and economics, the government had an ally: the falling US dollar that cushioned part of the increase in the price of oil. Had this not happened, the situation would have been more serious for Enemalta, government finance and the balance of payments.
For 2005, the PWC presentation stated that with the current Enemalta performance and energy selling prices, the corporation can only absorb a fuel cost of Lm31.6 million (€73.6 million). Anything above that would have to come from increased prices or Enemalta would continue to suffer more losses. Enemalta's revised budget in November 2004 indicated that fuel cost would be around Lm47.8 million (€111.3 million), a shortfall of Lm16.2 million (€37.7 million).
The solution was found in the introduction of a surcharge on water and electricity consumption of 45 per cent. I am here only dealing with domestic use of water and electricity. The commercial sector can pay for their consultants. The surcharge moved up and down as per Table VI.
Between October 2005 and June 2008, government public statements were boasting how much the government was subsidising consumption of water and electricity. When the first surcharge was introduced, the government stated that the surcharge rate of 45 per cent had a temporary discount of 29 per cent. In a public statement dated May 2, 2007, it was announced that the price of oil went down from $345 per ton in August 2006 to $245 per ton. This led to a reduction in the surcharge from 54 to 45 per cent for March, April and May 2007.
The rate of the surcharge was maintained at 50 per cent for August 2007 to June 2008. It was stated that the actual rate should have been 75 per cent but the government was subsidising the difference. The government also claimed that Enemalta was benefiting from forward-buying and the use of financial derivatives (hedges).
It is also true that Malta was working to introduce the euro on January 1 and therefore the economy required stable prices in the energy sector. The experience for many countries was that the euro created inflation and the government was being advised that it should not take any steps to create inflation through higher prices of government services.
A more significant factor was that the general election was on the government's mind. The energy prices became an electoral issue when Labour proposed to cut the surcharge by 50 per cent. Had the government increased the surcharge it would have made Labour's proposal more attractive to middle class families.
Hence a political decision was made that whatever the price of oil, the surcharge shall be maintained at 50 per cent. A press conference on November 30, 2007, the government announced it was subsidising water and electricity in the tune of Lm40 million (€93.2 million). It was a conscientious political decision since there seems to be no correlation between the rate of the surcharge and world prices of oil. The correlation factor of the local surcharge to world oil prices came only to 0.35 (best correlation when the result is one).
Last July, the honeymoon with the electorate was over, and the government increased the surcharge from 50 to 95 per cent for July to September. The surcharge was increased when the price of oil was already falling on the international markets.
It is quite true that there is a lag of no more than three months to move crude oil to Enemalta storage stations. It is also quite correct to state that finally the cost for Enemalta is the price of the refined oil delivered to Malta. But in public statements issued by the government represented by Minister Austin Gatt, the government only published the price of crude oil and nowhere has there been any reference or publication of the real price at which Enemalta purchased its refined oil requirements. Other factors that influence the final cost to Enemalta is transport and refinery costs and the exchange rate by which the corporation purchases its oil requirements, which has generally been the US dollar for a while.
The official, documented strategic policy up to last September was that the government would subsidise the consumption of water and electricity, with a number of incentives for the use of renewable energy sources and efficient domestic appliances.
Last October, the government made a strategic policy summersault. It was very evident that the government could not continue to subsidise the consumption of water and electricity and that a new strategic direction was required. There are several reasons for this, the main ones being the government's financial situation and EU state aid rules. I am sceptical how much the government had the environment in mind.
It is also noteworthy that the costings from October 2008 include €25,494,108, the return on capital employed at the rate of 6.61 per cent. I wonder how this rate was established.
There is nothing wrong in making policy changes. What is wrong is that these changes are made effective retrospectively, and there are no other economic and social factors taken into consideration. It is also politically incorrect to bulldoze such measures and refrain from meeting the trade unions to further discuss the points raised on behalf of the Maltese working community.
The shift in strategy should have been introduced on a maximum period of three years, by which time the incentives for the use of renewable energy sources would have started to reduce households' Enemalta energy consumption.
There would also be a relaxation of the bureaucracy by the Malta Environment and Planning Authority, Enemalta and Malta Resources Authority on the installation of these new energy sources as well as the introduction of a better financial rate when consumers sell electricity to Enemalta on the national grid.
Mr Magro is an industry analyst and commentator on local affairs.