The silent effect of geopolitics and its impact on fuel prices (II)

Malaika is the Senior Vice President, Energy and Infrastructure, Corporate and Investment Banking, Stanbic Ghana

By Malaika Dela BAKAR

According to various downstream resources reviewed in the preparation of this article, geopolitical events have lifted diesel cracks to a 5-month high, reaching as high as $40 per barrel in early February 2024 largely on the back of low stocks, Ukrainian drone attacks on Russian refineries and growing resupply concerns after the Israeli prime minister rejected a proposed ceasefire in Gaza. Prior to this, it was trading around $35/MT.

It is worthy of note that the Ukrainian president did announce that same month that the country is aiming to produce 1 million light drones and 11,000 medium and long-range drones this year. Your guess is as good as mine on what those drones would be used for.

To elaborate a bit more on the impact of wars and instability, especially in the Middle East using the recent Israeli and Gaza war, it is important to note that the Middle East holds a significant portion of the world’s oil reserves, and its stability therein is crucial for global oil markets. The instability in this region has and continues to influence oil prices due to disruptions and heightened risks of uncertainty.

The major impact of the instability includes supply disruptions because of oil facilities being targeted in some instances, negative market sentiment and speculation, impact on strategic reserves and production adjustments where producers take strategic decisions to adjust their output levels to either profit from same or restrict access to the commodity.

These impacts, when tied to global oil prices often result in issues such as short-term price hikes, long-term volatility and in some instances, investment shifts as consistent insecurity can result in infrastructure investment shifting away from conflict prone areas, which would negatively impact future production output and price trends.

Ongoing challenges along the Suez Canal, a major shipping route for many products including refined petroleum products has seen around 60% of vessels that would normally utilise this route being forced to re-route via the Cape of Good Hope (South Africa), increasing travel times but most importantly increasing freight costs across all classes and thereby impacting products such as gasoil, naphtha and ATK (Jet Fuel).

For those who remember their geography lessons back in school, the Suez Canal connects the Mediterranean Sea to the Red Sea, thereby providing the shortest route between Europe and Asia, and this hosts circa 12% of global trade and 10% of the world’s oil trade.

To give a bit more context, the Suez Canal plays a vital role in global trade, particularly for the transportation of oil and refined petroleum products.  Recent challenges in the canal, such as the 2021 “Ever Given” blockage which occurred in March 2021, where a massive container ship ran aground and blocked the canal for 6 days, resulting in significant delays in the delivery of oil and refined petroleum products.

This blockage led to a spike in global oil prices. Ongoing navigational issues and congestion have significantly impacted the timely delivery of goods as well as increased transportation costs, all impacting the price of refined petroleum imports in countries like Ghana where we happen to be price-takers. This has seen higher import costs and increased ex-pump prices for diesel and petrol.

Given the breakdown in peace talks in the middle east, the de-escalation in the Red Sea is likely a distant prospect and this will certainly impact further the prices as we know it.

To put some figures to it, attacks in the Red Sea have already resulted in circa US$80bn worth of cargo being diverted around the cape of Good Hope, on the southern tip of South Africa (Cape Town). It is important to note that geopolitical events have a direct impact on the global price of crude oil, which inadvertently impacts the price of refined petroleum products.

The Gold for Oil impact

One cannot talk about the importation of refined products into Ghana in recent times and its impact on ex-pump prices without mentioning the Gold for Oil programme. The Gold-for-Oil (G4O) programme is a strategic initiative by the Government of Ghana aimed at reducing the country’s dependency on foreign currency, particularly US dollars, for purchasing oil.

Instead, Ghana utilizes its gold reserves to generate foreign exchange through gold sales. This program was established to help stabilize the Ghanaian economy, particularly in response to the challenges of currency devaluation and to secure a more stable supply of petroleum products.

In short, it was introduced as a measure to help mitigate some of the impact of the geopolitical events that affected the economy in 2022, mainly the impact of the Russia-Ukraine war, which saw the substantial rise in petrol and diesel prices from around GHS6.90 per litre In January 2022, to about GHS22.8 per litre in December 2022, impacting various sectors.

The programme has as part of its mandate sought to reduce the price of refined petroleum products at the pump, among other challenges such as FX illiquidity and its impact on the country’s foreign exchange reserves, availability and security of supply on the product front. The Gold for Oil programme was strategically devised to eliminate the need for foreign exchange, in the pricing mechanism of petroleum products.

The use of gold to pay for oil imports eliminates the use of speculative exchange rates in the pricing of petroleum products and reduces the exposure to exchange rate losses due to the certainty of the exchange rate used in pricing. The programme has also significantly increased the security of supply of petrol and diesel, which have seen their stock levels rise from around 2-weeks in the latter part of 2022 to over 6-weeks to last now.

The programme supplies about 30% of the country’s petrol and diesel consumption. The foreign exchange that would have been used to pay for these products has been saved to support other sectors of the economy, contributing to the performance of the Ghana Cedi to the US Dollar just after the start of the programme.

It is safe to say that it has had some impact on the prices at the pump when it was introduced although the views remain varied among industry stakeholders. Some have attributed the stabilisation in the petroleum sector to broader global trends in oil prices while others have seen it as a promising step towards leveraging Ghana’s natural resources for economic stability and growth.

Graphs on Price of Refined Petroleum Products through the various Geopolitical events of 2018 till date

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Does geopolitics impact the price build-up of refined petroleum products in Ghana?

An important measure of the final price of ex-pump prices for petroleum products is the formula that is used to determine this price. The petroleum pricing formula issued by the National Petroleum Authority of Ghana as a guide in setting fuel prices is crucial for several reasons.

  • Price Transparency: The formula allows for a transparent method for determining the final price of petroleum products, helping consumers understand how prices are determined and what components contribute to the final cost.
  • Regulation: It allows the government and the regulator to have oversight over the pricing of petroleum products in the market, ensuring they reflect the cost structure and not arbitrarily set by marketers although it must be noted that Ghana’s petroleum downstream market has since 2015 been deregulated, resulting in the regulator having more of a supervisory role and not directly controlling the setting of prices. The BIDECs and OMCs can set their own prices, using the price build-up formula as a guide.
  • Cost breakdown: The inclusion of the various components such as the ex-refinery price, taxes, levies, margins for the distributors and retailers, transportation costs etc. Breaking down the formula helps identify areas where efficiencies can be further introduced.
  • Consumer protection: This occurs in the sense that the regulator is able to ensure the BIDECs and OMCs use the formular appropriately in setting prices. It also provides a level of transparency which all go a long way to benefit the customer.
  • Market stability: the pricing formula helps to reduce price volatility by ensuring that all stakeholders have a predictable and fair pricing structure.
  • Revenue generation: Finally, it allows for revenue generation on the part of government while also encouraging fair competition among the OMCs, allowing them to compete on service quality and efficiency rather than unsustainable prices and undercutting.

When refined products are imported, a critical factor that goes into the price build-up is the foreign exchange component. This goes without saying that the foreign exchange impact which is subject to the effects of geopolitics has also played a role in the price of refined petroleum products at the pumps.

The effect of geopolitical forces on the current depreciation of the local currency has resulted in key issues such as the increase in import costs, higher ex-refinery prices, market uncertainty among others which all impact the final price of products at the pumps.

So, the question remains, has there been an impact and if yes, how significant?

The Russia-Ukraine war, the ongoing Israel-Gaza war, as well as other geopolitical events have and continue to have a significant impact of the price of refined fuel products, on the back of the factors earlier outlined. The increased cost of oil and related products directly affects consumer prices, further adding to inflationary pressures across various sectors including transport, manufacturing et cetera.

For net importers in Africa and for that matter Ghana, this situation further exacerbates trade imbalances and fiscal challenges resulting in higher overall living costs and in line with this, further economic strain on the population.

In response to these challenges, some countries are exploring alternative measures such as increasing local production capacities – typical case in point is the coming on-stream of the Sentuo Oil Refinery, to aid in partially mitigating the dependency on imported fuel in a bid to help stabilize prices.

The situation demands a careful policy response from the government by further creating avenues for increasing local production capacity, as well as diversifying energy sources to further mitigate some of the impact that geopolitical issues present in a bid to reduce the price instability at fuel pumps.

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