Oil stockpiles logical move for Asia

The so-called 'Asian bid' has been seen in two main markets so far. First was the Asian corporate FX debt market.

Now we are seeing it in the FX market as central banks continue to buy foreign currencies to 1) rebuild FX reserves and increasingly 2) protect the economy from a lack of competitiveness. It is just a matter of time before this moves to commodity markets - specifically that of oil.

That Asia is a huge net importer of oil is not a revelation. Japan, for instance, relies on imports for 100% of its oil requirements. China is
not as badly positioned - it only needs to import around 40% of its domestic needs. India and Korea also rely heavily on oil imports.

Data on the Asia-Pacific Region's share of oil markets reinforces the vulnerability of the region. While the APR accounts for around 28%
of the world's oil consumption, and this is likely to grow significantly over time (International Energy Agency data suggests that Asia accounted for over 50% of world growth in the demand for oil since 1998), the region only accounts for around 11% of production and around 4% of oil reserves.

At some point, these numbers need to change. Recent price action underlines the need. Since the war in Iraq officially ended oil prices
have averaged over USD 27 per barrel, as low US inventories and lingering concerns about Iraqi and other OPEC supplies have kept prices high.

Although we expect oil prices to trend down from here, falling to USD 22 per barrel in 2004, Asia remains very much at the mercy of events in the Middle East.

There are three options. Either the region needs to increase its oil production capabilities. Or it must find an alternative source of energy. Or it must build up its reserves in order to protect itself against potentially prolonged periods of higher oil prices.

On the first solution, new exploration in the region is clearly a priority. But given the size of the imbalance between regional demand and
supply, this is unlikely to provide a short-term fix.

This is reinforced by the fact that from 2000 to 2003 the gap between Asian demand and supply actually widened from 15.27mbpd to 15.81mbpd. Even
Indonesia, an oil-exporting stalwart, could become an oil deficit country in the next few years.

On finding alternatives, natural gas and liquefied natural gas (LNG)look to be the best options. From a supply perspective, this is
starting to happen with Indonesia possessing greater opportunities in supplying this energy source than oil.

But at the moment, the pricing of these products are generally linked to oil prices and therefore any benefit is likely to be limited. Nuclear energy is also touted as a potential alternative with China having given approval to build its
largest nuclear facility in Guangdong. But this will take some time to come into operation (around 15-20 years).

Meanwhile, nuclear accidents often undermine such efforts as seen in Russia and Japan. Thus the final option, trying to build oil reserves, appears the most likely.

Governments have learnt a significant lesson from the recent sustained run-up in oil prices. They would, therefore, be wise to look for opportunities to build strategic oil reserves in the future. As the region becomes wealthier, such an insurance policy becomes more likely.

Indeed, China has already identified four sites for such stockpiles to be held, with the storage tanks to be completed by the end of 2005. Of course, one could suggest that this would be a good alternative for FX intervention as it would reduce trade and current account surpluses and reduce upward pressure on regional currencies, both physically and via international pressure.