Dynamic Analysis of Price Pass-Through Accompanying Events Such as Steep Rises in Crude Oil Prices

         
Author Name KAINOU Kazunari  (Fellow, RIETI)
Creation Date/NO. November 2008 08-J-061
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Abstract

Under the impact of continuously sharp rises in crude oil prices since 2005, the Japanese economy has been facing severe increases in costs such as those related to energy. Nevertheless, in regard to the pass-through of these increases in energy-related costs to the price of goods and services, some observers hold the view that given the supply-demand structure of the market, there has been inadequate price pass-through.

In addition, with regard to issues such as domestic tariffs in regulated industries such as power utilities, there are measures such as a fuel cost adjustment system, which permits changes in fuel and raw material costs to be passed through automatically after a certain period. However, owing to factors such as the increase in the burden of working capital in the period up to the time at which the costs are passed through, there are calls for the related systems to be revised.

Based on monthly public statistics on prices of crude oil and petroleum products and other items in recent years, in this paper I examine industries such as those manufacturing and selling petroleum products and manufacturing industries consuming large amounts of energy. I specifically analyze the extent of pass-through rates and adjustment periods with regard to the increases in costs resulting from the steep increases in crude oil and other prices, and the extent to which they are absorbed on the supply side by management efforts.

As a result of this analysis, I find that the price pass-through rate to petroleum products from the steep rises in crude oil prices in recent years is around 96%, and that around 4% - with regard to heavy oils in particular - has been absorbed by management efforts.

With regard to manufacturing industries that consume large amounts of energy, I find that in many of them some 60%-93% of the steep rises in energy raw materials are subject to price pass-through, and that the remainder are either absorbed by management efforts or, in cases in which there has been an apparent price pass-through of more than 100%, they are offset through the impact of non-cost factors. The non-cost factors include, for example, market structure and disparities in manufacturing technology, including the tightness of the product supply-demand situation and the level of energy-saving technologies.

In addition, regarding the prices of petroleum products and the products of manufacturing industries that consume large amounts of energy, I observe that price pass-through begins immediately after rises in prices of energy raw materials, and its impact lasts for 11-30 months.

These results confirm that at times of sharp rises in prices of energy raw materials, in some cases there is inadequate price pass-through owing to the supply-demand structure in the market, and in other cases there is a long-term impact. In addition, with regard to factors such as the fuel cost adjustment system, which currently permits 100% price pass-through within three to six months, I consider it necessary to study revisions directed at smoothing their impact with respect to the pass-through rate and adjustment period.