Volatile international oil situation takes toll on Japan’s gas prices and policy

With recent geopolitical instability rattling international oil markets, the price of gasoline has begun to climb across the globe, and Japan hasn’t emerged unscathed.

The price at the pump reached ¥170 per liter on Jan. 24 — the highest it’s been in over 13 years.

The government has responded with subsidies to try to thwart a further rise, but it remains unclear how effective the measures will be.

Below are some key questions and answers about the global situation and what it might mean for Japan prices going forward:

Why are gasoline prices soaring worldwide?

There are several reasons, all tied to the jump in crude oil prices. Demand for oil and gasoline was already rising last year as the international economy showed signs of recovery from the first waves of the coronavirus pandemic in 2020.

Meanwhile, major oil-producing countries had trimmed production. Consequentially, demand quickly outweighed supply, and in November 2021, the price of crude oil reached the highest level in more than seven years.

Geopolitical turmoil in oil-producing countries is another factor.

In January, drone strikes by Yemeni fighters against the United Arab Emirates led to explosions at oil facilities. After the strikes, crude oil futures on the New York Mercantile Exchange (NYMEX) hit a seven-year high, as worries were heightened about the potential disruption of oil supplies from the Middle East. The UAE accounted for 4.1% of oil production in 2020, yet Japan alone imports a third of its crude oil from the country.

In its 2021 review of the world energy situation, BP noted that the Middle East accounted for 31.3% of global oil production in 2020 and held 48% of proven oil reserves.

Tensions between Washington and Moscow over the situation in Ukraine have also raised awareness over the risk of supply disruptions from Russia. Russia accounted for 12.1% of the world’s oil production in 2020. In addition, if the second largest natural gas-producing country in the world stops supplying Europe, demand for alternative fuel will have a huge knock-on effect on oil prices.

Finally, there is the worldwide trend toward reducing fossil fuel use and increasing the use of renewable energy sources.

At the World Petroleum Council Congress in December, Saudi Aramco President & CEO Amin H. Nasser noted that this has led to pressure to stop all new investments in oil and gas exploration and development, known as upstream production. Between 2014 and 2020, he said, upstream capital expenditures fell by more than 50% — from $700 billion to $300 billion (about ¥80.6 trillion to ¥34.5 trillion based on current exchange rates) — reducing supplies despite health demand.

How has Japan responded to the rising prices?

The central government has introduced a gasoline subsidy, the purpose of which is to ease the economic burden on consumers by preventing a jump in retail gas prices. That’s accomplished by subsidizing a sharp rise in the wholesale price of fuel oil, which is the purchase price for gas stations.

Subsidies paid to oil wholesalers will reach up to ¥5 for each liter of gasoline that exceeds the national average price of ¥170 per liter. The system is designed in such a way that the wholesale price will be reduced, and the reduction will be reflected in the retail price, which is determined by individual gas stations. Gasoline, kerosene, and heavy oil are all eligible for the subsidy.

The minimum value for the subsidies to kick in will be raised by ¥1 every four weeks. In other words, subsidies are provided on a base average price of ¥170 per liter for the first four weeks, then on a national average of ¥171 per liter for the following four weeks, and so on.

The system itself was introduced in December and will run until the end of March. The government has allocated ¥89.3 billion for the subsidy program.

Are the subsidies actually having an effect?

In a survey released by the Agency for Natural Resources and Energy on Feb. 2, the average price of regular gasoline as of Jan. 31 rose for the fourth consecutive week, up ¥0.7 from the previous week to ¥170.9. According to the Petroleum Information Center of the Institute of Energy Economics, Japan, the wholesale price itself rose by ¥2.5 on average nationwide due to a further increase in international crude oil prices. As the retail price during the same period rose only ¥0.7, it appears the subsidy, starting Jan. 27, may be having some effect at keeping prices down so far. It’s expected that the wholesale pricing will take some time to influence the retail price.

In a Jan. 28 report on the gasoline subsidies, Dai-ichi Life group economist Hideo Kumano estimated the effect of the subsidy on households with two or more members, based on a household survey conducted by the Ministry of Internal Affairs and Communications in 2020. On a monthly basis, he concluded, the subsidy would only lower gasoline bills by ¥115. Even if kerosene bills are added, the total benefit would only be ¥239 per month during the subsidy period.

What other policy options are there that might be used to help prevent a spike in retail prices?

Major opposition parties have been urging the government to implement stronger measures, such as enacting a policy that allows for a temporary gasoline tax cut by ¥25 per liter.

The policy can be implemented if the average of regular gasoline prices remain above ¥160 for three consecutive months. But this would require a legal amendment, as the policy option has been frozen since 2011 in an effort to secure tax revenue for the reconstruction of the Tohoku region following the Great East Japan Earthquake.

Prime Minister Fumio Kishida said last week that the government was not considering the tax cut at this point. He said such a policy would cause problems, including by decreasing tax revenues and making consumers hesitant to buy gasoline before prices drop, which would impact logistics.

What’s next for global prices and oil supplies?

With regard to prices, predictions are all over the place. The U.S. Energy Information Agency forecast last month that crude oil prices will fall this year and next year. But other market analysts during the same period saw the price rising as much as $80 to $85 a barrel by mid-decade — as opposed to $70 a barrel prior to the 2020 coronavirus — and warned that it could be a few more years of uncertainty before prices settle.

As for world oil supplies, the International Energy Agency’s January 2022 oil report predicts that the world’s oil supply will grow sharply this year, with the United States, Canada and Brazil set to pump at their highest-ever annual levels. Other oil producers such as Ecuador, Libya and Nigeria are also increasing production, and the agency is bullish on output in Russia and Saudi Arabia. If that happens, global supplies would soar by 6.2 million barrels a day on average in 2022, compared with a 1.5 million barrel per day rise last year.

At the same time, however, the agency notes that if world demand continues to expand or predictions about increased supplies don’t pan out, then the low reserve levels and shrinking spare capacity could mean that oil markets will face a volatile 2022. The result could be higher prices at the pump for consumers, and calls in Japan and elsewhere for government subsidies or other policy measures to keep prices as low as possible.