The Key Concepts in Economics Unit

TheKey Concepts in Economics

Unit

  1. Article

The article “Oil Prices: What’s Behind the Drop? SimpleEconomics” by Clifford Krauss appearing in the New York Times’October 5th issue 2015 online edition explains the reasonsbehind the slump in global oil prices The article presents four majorpoints.

  1. Supply levels of oil affect the price of oil in the global market

  2. The price of oil affects global markets and other sectors of the economy among both sellers and buyers

  3. Political stability and regime changes in major oil exporting countries can affect the supply and demand of oil in the global market.

  4. Major oil producing countries have formed a cartel to control the supply and thus the price of oil.

  1. Supply

Supply refers to the amount of a commodity or service that firms inthe market are willing to supply using the available resources atexisting market prices (Mankiw, 2011).

  1. Supply affects demand and prices

The article ideally seeks to explain why global oil prices havedropped from an economic point of view. Under supply, the articlenotes that production of crude oil as a nonrenewable energy islargely dependent on the availability of the resource. Its productionand supply in the market has a huge effect on the prices. The authorexplains that increased oil production by the US which has nearlydoubled in last six years has driven demand for imported crude oil.As a major consumer of crude oil traded in the global market, reduceddemand from the US has led to a fall in prices of oil in the globalmarket. Consumers have also enjoyed this fall in prices at the gasstations the cost of raw materials drop. However, it must be notedthat the drop in price for consumers is not as huge as the drop incrude oil prices because crude oil as a raw material is just one ofseveral determinants of price in the pricing function. In short, theauthor indicates that a rise in supply without a corresponding risein demand leads to a fall in prices.

  1. Effect of prices on the global economy/suppliers

The availability of some major product in the market is likely tohave ripple effects on other economic sectors and goods and services.Shortage of oil, as a key commodity, or abrupt changes in the priceof oil destabilizes market systems and may create long term economicproblems (1973-74 Oil Crisis, 2015). Krauss (2015) explains how thedrop in prices has affected oil producers. Major oil producers suchas Saudi Arabia, Nigeria, Iran and Venezuela have suffered a resultof a drop in global oil prices. A huge percentage of their GDPemanates from oil exportation and thus their economies have sufferedas a result of the drop in prices.

  1. Politics affect global trade

Supply and availability of goods in the market can be affected bypolitical climate in a country of region. Krauss (2015) makes itknown that national politics or the political climate in a countryaffect trade in that country and to some extent global trade. Theauthor makes it clear that the change in leadership in Saudi Arabiaafter the death of King Abdullah in January was anticipated to bringabout changes in the production of crude oil. Additionally, thepolitical upheaval in Yemen, a small net oil producer, have also hadits effect in the local economy as well as the global crude oilmarket as production in some rigs has been stopped.

  1. Price control- Oligopoly

Manipulation of supply of product in the market facilitates pricecontrol. The article highlights the issue of price control in themarket i.e oligopoly. Oligopoly refers to a market condition in whichthere are few sellers in the market and many buyers (Mankiw, 2011).As a limited resource, there are few suppliers of crude oil globallyand they have formed a cartel, Organization of the PetroleumExporting Countries (OPEC) to control supply and thus price. Bycutting production, resulting higher demand leads to higher prices.

  1. Effects of supply disturbance in the US economy

In the past, the US economy has suffered from disturbances in supplylines of oil and other products. For instance, in 1974-74, the USexperienced an oil embargo placed on the country by OPEC members forarming Israel in the Arab-Israel war. By cutting off supply, the USeconomy shrunk as it heavily relied on imported oil to run theeconomy (1973-74 Oil Crisis, 2015). Disturbances in supply can affectany product or service with far reaching effects on the economy. Forinstance, shortfall in supply of job opportunities creates massiveunemployment while a shortage in supply of housing can lead to ahousing crisis and a possible sharp rise in rents and mortgages.

  1. Conclusion

In conclusion, the article by Krauss (2015) explains what isaffecting the global economy. Countries with significant presence inglobal trade such as oil importers and exporters can influence globaleconomies. In the case of oil indicated in the article, increasedsupply of oil by the US, Canada and Saudi Arabia has benefited manynet oil importing countries and hurt next exporters. Thus, I agreewith the author that the current slump in oil prices both at the gasstations and crude oil in the global market market can be simplyexplained by changes in supply. At the same time, Krauss hints at therole of technology in that engines are more energy efficient thus asmaller amount of gas is consumed. This may also affect the globaloil market as further advances in technology allows for theproduction of more electric vehicles and cheaper biofuels.

References

1973-74 Oil Crisis.Berkeley Library. Retrieved from,

http://vm136.lib.berkeley.edu/BANC/ROHO/projects/debt/oilcrisis.html

Krauss, C. (Oct 5th2015). Oil Prices: What’s Behind the Drop? Simple Economics. NewYork

Times. Retrieved fromhttp://www.nytimes.com/interactive/2015/business/energy-environment/oil-prices.html

Mankiw, G. (2011). Principles of Economics. New York: Cengage Learning.