Analysis: FRAZER MUSONDA
WHEN the former minister of Energy Dora Siliya announced that Zambia was going to start enjoying the benefits of importing cheap oil from Saudi Arabia under a government-to-government oil deal, the reaction from the public was more of scepticism. This is because the pronouncement was made in May, a period when we were transitioning into the election campaign period. For those that heard the same pronouncement from madam Siliyaâ€™s predecessor, Christopher Yaluma, in September 2014, the pessimism became even more pronounced.
Just recently, the permanent secretary in the Ministry of Energy announced that Zambia and ARAMCO (the Saudi oil company) had finalised a five-year crude oil deal. The Saudis are indeed not backtracking on their push to increase their share of the market. Further evidence for this is the US$20 million revolving fund deal and the building of the Saudi Arabian Embassy in Lusaka to cement ties between the two countries.
Government has done a commendable job in taking advantage of this scramble for market share from oil producing countries. Zambia benefited from a similar deal in the 1986/87 fiscal year when Kuwait Petroleum Corporation (KPC), a government oil company, won the contract to supply spiked oil to Zambia.
Spike KM Kaoma in his book â€˜Oil trading: The Zambian experienceâ€™ reported that Zambia made savings of as much as 40 percent on oil import bills owing to the attractive prices and the advantageous shipping that the Kuwait-Zambia oil deal brought. The deal did not end on a good note, though. Zambia experienced a disruption in supply after Iraq invaded Kuwait in the Gulf war of 1990.
Oil procurement forms a major part of Zambiaâ€™s import bill and takes a significant share of expenditure in our budget. It is unclear how much money will be saved as a result of the deal but if savings of at least 30 percent will be made, then it will go a long way in addressing the fiscal imbalances that we have had as a result of reduced revenues from the mines owing to the bearish copper on the London Stock Exchange.
The million-dollar question is: â€œIs this deal going to translate into reduced pump prices for petrol and diesel?â€ Should the ordinary Zambian begin to celebrate the impending reduction in prices of petrol and diesel at the pump?
The Kwacha hasnâ€™t shown much resilience in the recent past but with the uncertainties that accompany elections fading away, it is fair to assume that it will remain stable relative to the US dollar. Therefore, the resolutions of the imminent International Monetary Fund (IMF) negotiations remain as the major factor that will determine whether a reduction in pump prices will be recorded. Margins in the price build up stages of the cost plus pricing (CPP) model are seldom revised. As a result the major determinants of the pump price of diesel or petrol is the strength of the Kwacha against the dollar and the CIF Dar es Salaam cost of spiked oil.
A reduction in the CIF Dar es Salaam crude cost would result in reduced pump prices with the assumption that the Kwacha is stable against the US dollar. The Energy Regulation Board has in the past adjusted prices downwards in order to reflect such changes in the price build-up. An example is in January 2015, when prices were reduced as a result of the slump in crude oil prices on the world market. Petrol price was reduced by 23 percent and diesel by 30 percent.
In an event that subsidies are removed and the avoided costs as a result of the oil deal are less than the money spent on subsidies, then we have an adjustment in pump prices upwards. On the other hand, if the avoided costs are equal or more than the money spent on subsidies, then we may either maintain the current pump prices or have a reduction even in the time of austerity measures. The latter scenario is desirable because the inflationary pressures that could result from the former would be avoided. The assumption in both scenarios is that the kwacha remains stable relative to the US dollar.
With or without the IMFâ€™s proposed removal of subsidies on fuel, the Saudi oil deal is a plus for Zambia. Saudi Arabia is a relatively stable country with a strong army and thus gives us security of continued supply. It has the lowest break-even dollar value per barrel of oil among oil producing countries, implying that with sustained bilateral relations, even in an event that oil prices changed, we could still have similar cheaper deals. The other benefit from this deal is that we will be able to plan production at Indeni and hopefully maximise its capacity.
The author is an energy markets analyst and commentator.
Analysis: FRAZER MUSONDA