The high price of petrol today is causing discomfort among motorists. So much so that our federal politicians have spent almost two weeks haggling over whose scheme is best suited to knocking a few cents per litre from the pump price.

But in a world where oil is increasingly scarce, where the security of supply remains a problem, and where the environmental cost of using fossil fuels to power your car will be factored into the pump price, is that the right response? What are the long terms solutions to our oil dependence? And is this the beginning of a new era of high-priced oil?

Crikey asked a panel of experts to answer questions on the good old days of cheap oil, what the politicians should really be arguing about, and how our economy will look when petrol costs many dollars per litre.

Today, in the final in the series, Tihomir Ancev, lecturer in resource and environmental economics at the University of Sydney, answers Crikey’s questions.

Have we entered a new energy era of high-price oil? Are the days of $AU1/litre petrol gone for good?

Given that the prices are sticky—once they have gone up, it is very hard for them to come down— we have probably entered quite a prolonged period of relatively high petrol prices. It is difficult to expect that prices at the bowser as low as $AU1/litre will return anytime soon, even though there are expectations that the world oil prices have peaked and they are more likely to go down then up in the medium run.

The recent oil price increases have not been caused by fundamental shifts in scarcity of the oil resource (indeed the reserves of oil have maintained at fairly stable levels), but by global political, strategic, and macroeconomic factors. The direction of oil prices will be strongly influenced by the outcome of the upcoming US elections, which will in turn affect the US presence in Iraq, as well as the strength of the US currency, two interlinked factors that are having a very strong impact on the global oil prices.

However, even if the global prices fall dramatically, we are unlikely to see quite the same extent of price reductions at home. The retailers will be able to give number of reasons for this, including the possible depreciation of the Aussie dollar in the event of returned strength of the greenback, the overall rate of inflation, and the increased cost of operation.

As a policy response, how useful is lowering a fuel excise or removing the GST in combatting the rising price of oil, both in the short and long term?

The proposals for lowering the excise, or removing the GST on petrol are not well funded in economics, and if implemented will cause perverse effects on consumption patterns. Such measures will effectively subsidise petrol use relative to all other goods and services, and will falsely dampen the current price signals to consumers. High petrol prices should in principle induce consumers to exploit the possibilities for substitution of petrol for other, relatively lower priced goods and services in their consumption bundle.

While this notion of substitution can not be taken entirely at ‘face value’ due to the rigidness of choices in the short-run (i.e. some people can only use a car as a mode of transportation in the short-run), it is still very important not to discourage people that can substitute for the relatively high-priced goods to do so. Lowering of the excise or removing the GST is not a good proposal and is purely politically motivated.

What sort of policies should a nation like Australia be developing to cope with high-priced oil?

In general, two types of policies might be beneficial in this direction. Short-run policies cannot really affect the prices of oil or petrol, but can be directed towards the parts of society that are most vulnerable to high fuel prices. This has probably already been done through the tax benefits in the new budget, which has targeted people that would typically be spending high proportions of their incomes on fuel. Longer-term policies will have to address the reliance on petrol at a structural level. The best way to deal with potentially high petrol prices is to be less reliant on petrol, and more flexible in its use. This can be achieved by adequate planning and infrastructure policies, as well as by transportation and energy policies.

Can you sketch a picture of the Australian economy when petrol is $5/litre and rising, considering things like food, infrastructure, the family budget and inflation?

Could someone living 40 years ago, when the price of petrol was something like $0.1/liter sketch a picture of the Australian economy at $1.5/ litre and rising? It is the same thing. People are generally rational and flexible, and the economy will shape accordingly in the long-run.

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Peter Fray
Peter Fray
Editor-in-chief of Crikey
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