Sunday, June 1, 2014

Topic 3: Blog Challenge

In the 1970s, OPEC caused a dramatic increase in the price of oil. What could have prevented it from maintaining the high price through the 1800s?

In 1970s, US involved in the Yom Kippur War. In response to this, the Organization of Arab Petroleum Exporting Countries initiated the embargo to discourage US to support Israel in the Yom Kippur War. With no other close substitute to replace oil, consumers are not very responsive to the changes in price. Also, during the 1700s, USA went through oil production high period which may be due to increase taste and preferences towards oil and population change of increasingly number of user of vehicles, causing the demand of the oil to shift rightward, leading to an increase in price. This means the degree of need that consumer wants for oil is high. These leads to demand of oil being inelastic.  Since it is inelastic, increasing the price of oil increases the total revenue gain from the sale of the oil. For instance during the period of time, the oil per barrel shot up from $3 to $12 dollar per barrel. This causes the oil firm to earn B-A revenue from raising the price of oil. Since it is profitable, the price of oil remain high for sometime. Also, since the method of extracting oil can only work for oil supply, the factor mobility of oil is low, leading to the oil supply to be inelastic.
Fig. 1 Increase price on inelastic demand of oil.

Firstly, technology needs time to change. In this case, time is needed to change the reliance on oil to other type of alternative to run machinery. This results in the demand of oil to become elastic. This means a small change in prices would lead to a greater than proportionate change in quantity demand of the oil. This would encourage OPEC to lower the price of oil to earn maximum revenue. With advance technology like slant drilling, it would be possible to extract more oil at a lower cost. This leads to an increase in supply, leading to a rightward shift in supply curve. This leads to an increase of quantity of oil while reducing the market price of oil. This helps to prevent oil prices from keeping high in 1800s.




No comments:

Post a Comment