Article from The New York Times, dated April 21st 2008

In 1999, the price of oil hovered around $16 a barrel. In the fall of 2007 it began to approach the $100 a barrel mark. The reasons for the surge ranged from the relentless growth of the economies of China and India to widespread instability in oil-producing regions, including Iraq and Nigeria's delta region. The prospect of triple-digit oil prices has redrawn the economic and political map of the world, challenging some old notions of power. Oil-rich nations are enjoying historic gains and opportunities, while major importers — including China and India, home to a third of the world’s population — confront rising economic and social costs.
Managing this new order is fast becoming a central problem of global politics. Countries that need oil are clawing at each other to lock up scarce supplies, and are willing to deal with any government, no matter how unsavory, to do it.In many poor nations with oil, the proceeds are being lost to corruption, depriving these countries of their best hope for development. And oil is fueling gargantuan investment funds run by foreign governments, which some in the West see as a new threat.Countries like Russia, Venezuela and Iran are flush with rising oil revenues, a change reflected in newly aggressive foreign policies. But some unexpected countries are reaping benefits, as well as costs, from higher prices. Consider Germany. Although it imports virtually all its oil, it has prospered from extensive trade with a booming Russia and the Middle East. German exports to Russia grew 128 percent from 2001 to 2006.
In the United States, high gas prices produced steady grumbling, but little sign that drivers were making fundamental changes in their behaviors. Small car sales did rise, but in many cases those represented were Car Number 3 for families that parked them beside the sports-utility vehicle, rather than getting rid of the gas guzzlers.— Nov. 7, 2007

Review of article
(a) with reference to theory of demand and supply
From 1999 to 2007, the price of oil has increased from US$16 to US$100 per barrel. This is because the demand curve for oil has shifted to the right following an increase in demand for oil due to the following factors; oil is a normal good so the quantity demand for it will increase when consumers’ income increases, especially in richer countries with booming economies. Also, there is a change in consumers’ expectations as consumers believe that oil prices will continue to rise in the years that follow. All these have caused the demand curve to experience a rightward shift. At the same time, the supply curve experiences a leftward shift as the supply has decreased. This is because of the widespread instability in oil-producing regions and since oil is considered a scarce good, producers will tend to change their price expectations as they hold back current production output as oil prices have been expected to rise in future. The simultaneous shifts in the demand and supply curves have caused the equilibrium price to increase, which accounts for the surge in oil prices.

(b) with reference to elasticity concepts
Oil is considered to be a price inelastic good. It has almost no substitutes and is considered to be a basic necessity (eg: travel, cooking etc). Also, the time period after the change in oil prices is short, with oil prices rising at an alarming rate every year. All these make oil seem to be a price inelastic good. Hence, when there is a 1% change in the price of oil, there will be a less than proportionate change in quantity demanded. Oil-producing countries will make use of the situation to increase prices of oil as this would increase their total revenue since oil is price inelastic. Oil-rich nations are thus enjoying historic gains and opportunities. Oil also has a positive income elasticity as it is considered to be a normal good so when income of consumers increase, the quantity demand for oil will also increase. It is also income inelastic as a 1% change in income leads to a less than proportionate change in quantity demand for oil. This is because oil is considered to be a basic good and the producers tend to produce more oil as this is a time when the world economy is booming.

Benjamin Tan 08S6P