The Impact of Increasing Energy Prices on the Prices of
Other Goods and Household Expenditure: Evidence from Malaysia
Narges Moradkhani, Zakariah Abd Rashid1[5], Taufiq Hassan and Anuuar Md Nassir,Faculty of Economics and Management, University Putra Malaysia 43400, Serdang, Selangor, Malaysia.
Abstract
This paper evaluates change in prices of different kinds of energy such as crude oil, natural gas & coal, petroleum production and electricity & gas on the prices of other goods especially in the industrial and transportation sectors which are major users of energy and household expenditure in Malaysia. In this paper we apply the input-output technique to investigate the effects of change in energy prices on the prices of other goods and on the household expenditure. We use the IO table of Malaysia for the year 2000 as a reference point and applied the close input-output model. The results show that doubling the price of primary energy affected more the prices of other goods compared to doubling electricity prices. By doubling energy prices the bottom quintile of the population is more vulnerable than the top quintile for the Housing, water, electricity & gas group but for the Transportation group, the top quintile is more affected than the bottom quintile, ignoring the absolute amount of their expenditures.
Key words: input-output technique, energy price, household expenditure, Malaysia
1. Introduction
Energy sector is the most important sector in Malaysia’s economy and plays a major key role compared to other economic sectors. In 2007, the price of energy, especially petroleum, had increased dramatically. Consequently, it led to the increase in production costs of many petroleum-based goods. Malaysia's economy, like many other developing countries, depends on the use of large amount of energy in its production sector as an intermediate input. Although the commercial energy supply increased 2.3% in 2006 as compared to 2005, the final energy demand also recorded a significant increase of 5.3% in 2006. In 2006, the industrial sector had surpassed the transportation sector, which became the main energy consumer. Conversely, the energy consumption in the industrial sector was recorded at 17002 ktoe in 2006, which was an increase of 9.7% compared to 15492 ktoe in 2005. On the other hand, the transportation sector was the second largest energy consumer in 2006, recording 14825 ktoe in that year. During the mentioned years, the growth rate of energy demand was greater than the growth rate of energy supply. Hence, in this study, we evaluated the effects of changing price of all kinds of energy on the prices of other commodities and services. The rates of utilization of different kinds of energy, increasing over time, are shown in the following figure.
1-Industrial is a very broad-based sector ranging from manufacturing to mining and construction. Diesel sales through distributors are assumed to be to industrial consumers.
2- Transportation basically refers to all sales of motor gasoline and diesel from service stations and sales aviation fuel. It also includes diesel and motor gasoline sold directly to the government and military.
3- Agriculture covers agriculture, forestry and fishing.
4- Residential and Commercial not only refer to the energy used within households and commercial establishments, but also government buildings and institutions.
5-Non-energy use refers to the use of products resulting from the transformation process for non-energy purpose (i.e. bitumen /lubricants, asphalt/ greases), and the use of energy products (such as natural gas) as industrial feed stocks.
Figure 1: Final Energy Use by Sectors (in ktoe)
During the Years 1990-2006
Note: Estimated Data for Residential and Commercial Sectors from 1990 until 1996 (Source: National Energy Balance, 2006, Published by PTM - Malaysia Energy Centre)
From the table above, it can be stated that the energy utilization in Malaysia had been increasing, which means, any increase in the price of energy could affect the economy as a whole. Figure 1 shows both the industrial1 and transportation2 sectors as the two major consumers of energy during the stipulated years. In aggregate, both sectors utilized about 80% of all energy consumptions in Malaysia. Residential and commercial3 sectors were the third biggest consumers of energy. On the contrary, agriculture4 was the smallest consumer of energy, while non-energy5 production had the larger share in energy consumption in terms of agriculture. Conversely, the pattern of energy consumption showed that the agricultural sector was less than 1% in all the years. The consumption of energy by all economic sectors grew at the rate of 9% on average within the period of 16 years, i.e. from 1999 to 2006. We can argue that the increase in the energy price could adversely affect the two important sectors of Malaysian economy, and the spillover effects might influence other economic sectors. Many macro-economic variables, such as employment, production, import, inflation, income, total welfare, etc. would be adversely affected as a result of the increase in the energy price. Hence, this paper evaluates the effects of doubled energy price on the prices of other goods and household expenditure, particularly focusing on industrial and transportation sectors.
The increasing energy prices will have different effects on the economy, such as reduction in CO2 emission, increase in inflation, inequality in income distribution because of inflation, decrease in total social welfare, increase in government revenues if the government increases the energy prices by tariffs or subsidy removal, income and substitution effects for households, etc. Thus, this paper investigates some of these effects.
Many research studies had investigated the consumption pattern and demand of fuels in housing, transportation and other economic sectors. Wright (1974), Bullard and Herendeen are among the pioneers, who evaluated the costs of fuel consumption by different economic sectors. These researchers also applied the input-output technique in their study analysis, focusing on the amount of primary and secondary energy, which are needed by other economic sectors as input. In addition, Chapman at el. (1974) emphasized that inflation tends to arise from more energy demand. However, the above-mentioned studies did not take into account the effects of energy prices on the prices of other goods, etc. There are many reasons behind the analysis of energy costs, such as energy cost on consumption, production, CO2 emission, income distribution, etc. Nevertheless, some researchers, for instance Gool (1980), were also motivated to analyse energy conservation through technological fix.
Some studies had also attempted to analyse energy prices exclusively. Energy prices can influence many macro and micro economic variables. Following this, Hope and Singh (1995) investigated the increasing energy prices in some developing countries, such as Ghana, Indonesia, Malaysia, Turkey and Zimbabwe. However, the researchers only considered some kinds of fuel prices in their studies. Thus, one major serious weakness of the studies was they did not transparently and comprehensively quantify the effects of energy prices. Meanwhile, in two research works carried out in Mexico by Uri and Boyd (1997) and the United States of America by Bopp and Lady (1982), the researchers applied the equilibrium model in their studies. They employed a simple or partial equilibrium model so it could allow them to simply investigate the effects of higher energy prices. In another study done by Liew (1980), the researcher inspected the effects of energy prices on macro-economic variables, such as economic growth and inflation, by applying the input-output model. Nevertheless, all the above-mentioned studies did not consider the meso and micro effects of increasing energy prices. However, the detailed examination of effects of energy prices had been done by Lardic and Mignon (2006) in European countries. The findings revealed that the economic activities had a strong relationship with the oil price shocks, whereby, in the study, the researchers had applied the cointegration method.
Another aspect of energy price effects is the impact on energy intensity, which was considered by Hong and Tu (2007) in China in their study. The researchers applied the time series analysis and discovered higher energy prices leading to energy intensity. They conducted the study in a short period of time focusing only on the macro level, which was a limitation of the study. One of the recent studies has been done by Dender (2009), who exclusively observed the transportation sector. The author discriminated between the energy policy in transports and transport policy. The study exclusively investigated the energy security and green house emission without considering the impact of energy price. Furthermore, transportation was inspected by Timilsina and Shrestha (2009) in Asia, applying the decomposition analysis by focusing on CO2 emission. Transportation sector is one of the major consumers of energy, so it produces green house gasses and leads to the growing CO2 emission. Their study can be completed by considering the price of energy. As proven in many studies, energy prices affect energy intensity as well as energy consumption, and consequently influence the growing green house gas emission. In some recent studies, such as those done by Valadkhani (2002) in Australia and Kpodar (2006) in Mali, the effects of increasing oil price were investigated. They computed that there were significant effects of higher oil price on inflation and household expenditure. The reviews of all the studies indicate that the price inflation due to the increasing primary energy prices, such as oil, is less than the increasing price of secondary energy, such as petroleum production and electricity.
Hence, to investigate the impact of changing energy prices on the prices of other goods, we must first categorise the two major types of energy, namely; (i) the primary energy, and (ii) the secondary energy. Figure 2 outlines this classification in details.
Figure 2: Commercial Energy Flow in Malaysia
Primary Energy Secondary Energy
Natural Gas LNG, LPG, MDS
Crude Oil Motor Petrol, Diesel, Kerosene, AFT, LPG,
Non-energy, Refined Gas
Coal and Coke
Hydropower
Fuel Oil Electricity
Diesel Oil
Natural Gas
Therefore, the impact of changing price of primary energy, such as crude oil, might be different from the changing price of secondary energy, such as electricity. Thus, this paper will consider these two effects separately. The rest of the paper is organized as follows: Section 2 inspects the aspects of increasing energy prices, while Section 3 outlines the methodology; the following section describes the source of data; and finally, the final section presents the empirical results and conclusion of the study.
2. Different Aspects of Increasing Energy Prices
As mentioned previously, the Malaysian input-output table consists of three energy sectors. These three energy sectors have the highest forward linkages among other economic sectors. Therefore, the investigation of these three sectors is unavoidable as they are the key sectors in Malaysian economy. On the other hand, the increasing price of energy as the key sector leads to the increase in the prices of other goods, which consequently affects the household expenditure. This section explains the different features of effects of increasing energy prices on household welfare through interpretation of household energy consumption pattern and Lorenz’s curve for proportion of consumption energy for the different quintiles of population.
2.1. Economic Linkages of Energy Sectors
The three energy sectors of Malaysian economy in the input-output table of year 2000 are; (i) crude oil, natural gas and coal, (ii) petroleum production, and (iii) electricity and gas. These sectors have the highest forward linkages among other sectors. Table 1 shows the sectors with the highest forward linkages in Malaysian economy. These high forward linkage indices imply that the energy sectors are the most important input contributors for other sectors.
Table1: Industrial Forward Linkage Index of Sectors of Economy
Activities / Forward linkageWholes retail trade / 6.354
Electricity & gas / 4.241
Petrol & coal industries / 4.005
Business services / 3.210
Manufacture oils and fats / 3.084
Crude petrol, natural gas & coal / 2.919
Transport / 2.903
Manufacture industries chemic. / 2.886
Iron & steel industries / 2.689
Forestry & logging / 2.665
Paper & board industries / 2.466
Agriculture, other / 2.392
Communication / 2.298
Real estate / 2.282
Livestock breeding, etc. / 2.206
Hotels & restaurants / 2.158
Building & construction / 2.071
(Source: Malaysian Input-output table, 2000)
2.2. Energy Consumption Pattern among Households
According to Figures 3 and 4, the pattern of household expenditure in year 2005 did not significantly change as compared to the year 1999. It implied that the effects of technological change and change in prices and income were insignificant. For the analysis, we considered the household expenditure survey in year 2005, which had 12 expenditure groups, comprising two groups, as follows; (i) housing, water, electricity, gas, other fuels, and (ii) transportation sector. These two groups were directly affected by the increase in energy prices.
Figure 3: Pattern of Household Expenditure on Fuels in 1999
Source: Department of Statistics Malaysia (DOS)
Between the years 1999-2005, the composition of fuel consumption of Malaysian households showed that they obtained fuel by consuming unleaded petrol, allocating more than 50% of their expenditure to purchase it. Following this, 30% of their expenditure was spent on consuming electricity. Overall, 10% of their expenditure was on gas and leaded petrol. In other words, 80% of the household fuel expenditure was set aside for consumption of unleaded petrol and electricity. Although the government policy was to replace gas for petrol, in year 2005, the households allocated more shares of their expenditure to the consumption of leaded petrol compared to year 1999. In both years of household expenditure, they just allocated 1% of their fuel expenditure on diesel. Hence, unleaded and leaded petrol, as well as electricity and gas were the most consumed fuels.
Figure 4: Pattern of Household Expenditure on Fuels in 2005
Source: Malaysia’s Department of Statistics (DOS)