Recommendations to Energy Regulator on the new Methodology on Setting and Applying the Prices for Oil Products

Foto: Sputnik Foto: Sputnik
Publishing date: Monday, 14 March 2016
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In the context of the recent exacerbated disruptions on the oil products market in the Republic of Moldova, and taking into account the evolution of oil prices, both on the domestic and foreign markets, the National Agency for Energy Regulation has submitted a new Methodology on Setting the Prices for Oil Products for review, which consists of a set of measures that would exclude the useless regulations and provisions and will concurrently help enhance the role of the independent regulator (ANRE).

Though the main objective of this initiate is clear in general terms, it is underpinned by neither economic justifications that would justify the use of the new Methodology, nor by concrete scenarios for the impacts of the provisions (even the retroactive ones), included in the new document. We have, hence, decided to make a brief analysis of this initiative from the perspective of the impact of the new Methodology.

Why do we need a new methodology?

The current methodology does not ensure an efficient regulation of the oil market in the Republic of Moldova, having the following main drawbacks:

  • The current methodology used to set the prices for oil products is inefficient, because, de jure, the current Methodology aims at maintaining a low fair price, enough to cover the relevant expenses and secure a reasonable rate of return. In reality, however, given the flaws of the competitive framework, the rate of return reported by companies is lower than the requested minimum, and it is absolutely useless to cap it at the maximum limit of 10%. The problem consists in the low transparency of expenses that are taken into account to set the price (literally any expenses can be entered in the price setting formula). Respectively, the requests to increase the price are rather perfunctory (including the verification of its accuracy, by ANRE, within 3 days) and may be submitted irrespective of the incurred expenses.
  • The unjustifiably high prices for oil products (without taxes), if compared with the prices in the EU countries, generating thus huge profits for the local oil companies. The comparative analysis of expenses (transport, insurance, handling, storage, payroll, etc.) and profits related to retail sales (hereinafter referred to as margin) of oil products in Moldova, shows that they are higher than in the most developed EU countries. 

Figure 1. Comparative Structure of the Price of Gasoline E95, EUR/liter (2015)

figure 1 ANRE
Source: EG computations on the basis of data from ANRE, DG Energy and US Energy Information Administration


These high levels could be obviously explained by the fact that the Republic of Moldova is a net importer of these products, which puts additional pressure on the procurement price. However, the margins in Moldova are much higher or at least at the same level as the margins used in some other net importers of oil products, where the level of living and, respectively, of inputs (storage, salaries, public utilities etc.) is much higher.

Figure 2. Comparative Structure of the Price of Diesel Oil, EUR/liter (2015)

figure 2 ANRE
Source: EG computations on the basis of data from ANRE, DG Energy and US Energy Information Administration

Actually, the current situation is caused by the drawbacks in the expenses policies of some Moldovan oil companies (given the possibility to include almost any expenses to justify the end price) and the deficient competitive framework that, in tandem with the current price setting methodology do not motivate companies to increase the efficiency of their expenses. 

  • Failure to correlate the sales prices of oil products with the price fluctuations at the international and regional stock exchanges (Platts), which, coupled with the above-mentioned drawbacks of the competitive and regulatory frameworks, could allow some companies practice inequitable methods for setting and adjusting the retail price.

 

Figure 3. Evolution of the Price for Gasoline E95 vs. Platts Quotations (2014-2015) 

figure 3 ANREISource: ANRE and US Energy Information Administration

 

Thus, the related data reveal several periods, when they set unjustified prices for these products, gaining thus huge profits (taking into account that the oil market is not yet fully liberalised). The figures show that during some periods the prices for oil products were not set correctly in the Republic of Moldova: the oil companies are reluctant to cut the prices in order to adjust them to the cheaper fuels at the international stock exchanges.

Figure 4. Evolution of the Price for Diesel Oil vs. Platts Quotations (2014-2015)figure 4 ANRESource: ANRE and US Energy Information Administration

The new methodology proposed by ANRE

Given the above-mentioned, the regulatory framework should be obviously amended by developing a new simpler methodology that will exclude the useless regulations and provisions, allowing for autonomy during its implementation (in order to avoid interferences in the management process), and strengthen the role of the independent regulator (ANRE).

Thus, the new Methodology, proposed by ANRE, provides that the maximum retail prices for the main oil products to be calculated on the basis of  Platt’s quotations (as there are the reference prices for most transactions with oil in this region), and for liquefied gas - on the basis of Propane-butane mix prices at the DAF Brest, as well as a specific margin that would include all the expenses related to the trade in oil products and profit, as well as the excise taxes and value-added tax, according to the Tax Code. In addition, in order to establish correct values in correlation with the quality of the main oil products, taking into account that there are Platts quotations only for two oil products (of the highest quality), multiplication rates will be used, linked to the existing Platts quotation.

Positive aspects: in theory, the conceptual changes suggested by ANRE will decrease the resistance of oil companies to align to the evolutions on quotations on the regional stock exchanges, which, coupled with the flaws of the competitive and regulatory frameworks, allow applying inequitable methods for the adjustment of the retail price for oil products, with the following main benefits:

·         As the highest margins will be used, and the costs differ among operators, the price calibration will be also done at their discretion, which will lead to diversification.

·         Giving up on the useless provisions from the current Price Setting Methodology (the 10% cap of the rate of return), which allows for inappropriate adjustment of prices and, implicitly, huge profits.

·         Fair prices for these products, taking into account the fluctuations at the international and regional stock exchanges (Platts), avoiding any reluctances on these markets.

·         Setting the prices for oil products in strict compliance with their quality, taking into account the Platts quotations.

·         Efficient use of financial resources by the management of sector companies will be encouraged, including elimination of the unjustified costs.

Negative aspects. Though this initiative seems to match the logics of the new approach with regards to setting the price for oil products, it is not accompanied by any arguments on the basis of models or scenarios (the Information Note does not contain such data, and the Regulatory Impact Assessment is missing). Moreover, it is not enough to list some coefficients/indicators, without proving them by empirical methods.

Besides, during the first year of Methodology implementation, the margin will be established indirectly (average sales price without taxes minus Platts price) for the previous year (i.e. 2015). As two major events, occurred during this period, impacted significantly the oil market (devaluation of the national currency and sharp decrease of the price of oil products on the international market, which implicitly led to a speculative increase of the respective margin from 1.9 MDL/liter in 2014 to 3.57 MDL/liter in 2015), it is not appropriate to use this period as a reference period for establishment of the specific trade margin. Thus, it would be more reasonable to estimate, by empirical methods, the periods when the oil products prices on the domestic market were adjusted appropriately to the Platts quotations, and evaluate them for longer periods of time (e.g. the last 3 years).

Moreover, it would be naive not to expect higher quotations of oil products in the future periods (as they have reached the minimum during the past 15 years), which jointly with the higher excise taxes and a forecasted two-digit inflation, and coupled with the devalued national currency, would push up the prices for oil products.

De altfel, ar fi cel puțin naiv să nu admitem pentru perioadele viitoare cotații mai superioare pentru produsele petroliere (în contextul în care acestea la moment au atins minimul din ultimii 15 ani), care în tandem cu  accize majorate și cu o inflație prognozată la 2 cifre pe fundalul unei eventuale devalorizări a monedei naționale ar conduce la o escaladare a prețurilor la produsele petroliere.

Figure 5. Evolution of BRENT quotations $/BBL (2014-2015)

figure 5 ANRE

Source:US Energy Information Administration

To see how changes in variables impact the evolution of oil products prices, find here the interactive application, developed on the basis of the new Methodology, proposed by ANRE. Thus, the application shows the impact of the new methodology, including retroactively (what would have happened if the new methodology were applied vs the actual situation), and a possible modeling of changes in the variables included in the price setting formula.

Open app

 

Conclusion

The concept of the new Methodology per se is welcome in the current situation, but it is still necessary to calibrate carefully all the variables included in the formula. Moreover, such initiatives need to be justified in great details, by including empirical estimates in some models and scenarios of modified status-quo.


Autor: Vadim Gumene, Expert-Grup program director. Email:  This email address is being protected from spambots. You need JavaScript enabled to view it.

 

 

Source: EG computations on the basis of data from ANRE, DG Energy and US Energy Information Administration

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