South Korea Faces Inflation Threats Due to Rising Energy, Raw Material Prices

01.03.2011 -

South Korea, the world's No.5 crude oil importer, is facing some of its most serious inflation threats mainly due to rising global energy and raw material prices, the finance minister said on Monday.

Analysts surveyed by Reuters last week predicted bad weather, firmer global commodities prices and recent oil price surge would lift the country's annual consumer inflation in February to a two-year high of 4.3%.

The following are some issues pertaining to the impact of costly oil on inflation and details of the energy industry in Asia's fourth-largest economy:

Energy Demand, Supply
Oil accounts for 42.1% of South Korea's total primary energy consumption in 2009. Others are coal (28.2%), liquefied natural gas (13.9%), nuclear power (13.1%), renewable energy (2.2%) and hydropower makes up the remainder.

South Korea imports more than 83% of its energy sources.

The country spent $91.2 billion on energy imports in 2009, 28% of its total imports. Of the total energy imports, 55.7% were for crude oil, while 17.3% were for naphtha, liquefied petroleum gas (LPG) and other oil products, government data showed.

LNG accounted for 15.2%, coal 11% and uranium the rest. Figures for 2010 were not yet available.

Contribution To Inflation
Analysts estimate every additional 10% rise in annual average prices on international oil markets would lift the country's annual average inflation by around a fifth of a%age point.

That means if global oil prices rise 10% above initial expectations on average for the whole year, South Korea's annual average consumer inflation will eventually reach 3.7% in 2011, instead of 3.5% expected by the central bank. Last year's actual inflation was 2.9%.

Prices of Dubai crude, the benchmark for Middle East oil grades which make up for most of South Korean crude imports, hit $107 a barrel last Saturday, up 37% versus last year's average of $78.13. International benchmark Brent crude has jumped 24% last year and almost 20% so far this year.

To counter the impact of costlier oil due to turmoil in the Middle East, South Korean President Lee Myung-bak, who declared "a war on inflation" earlier this year, called for a tighter national energy policy last Thursday.

The government has been pressuring domestic refiners to absorb the costs of higher oil prices and curb their profit margins to protect fuel consumers from rocketing prices.

But higher crude feedstock costs have forced up South Korea's average retail prices of gasoline to 1,856.6 won ($1.65) a litre in the fourth week of February, the highest since August 2008, and rising for 20 weeks in a row, state-run Korea National Oil Corp (KNOC) said.

Of the total gasoline price, taxes account for 49%, refiners' prices before taxes 45%, and distribution costs and margins the remainder.

Some local media quoting industry sources said the government should decrease its taxes on oil prices, but Finance Minister Yoon Jeung-hyun said on Monday it was not considering such cuts for now.

South Korea has a four-step energy supply management policy, under which it declares "attention" if prices hover at $90-$100 for more than five days, "caution" at $100-$130, "warning" at $130-$150, and "seriousness" at more than $150.

It raised its energy crisis warning by a notch on Sunday to "caution", as oil prices hovered above $100 a barrel for more than five days, adding it would turn off some public lights and advertisements.

Crude Oil Imports
South Korea's four refiners and state-run KNOC imported a total 872.4 million barrels, or 2.4 million barrels per day (bpd), of crude last year, and imported 83.4 million barrels, or 2.7 million bpd in January of this year, KNOC said.

Of the total, imports from the Middle East - Saudi Arabia, Kuwait, Oman, Iran, the United Arab Emirates, Qatar and others - accounted for 81.8%. South Korea does not import crude from Egypt and Libya, a recent government statement said.

South Korea currently imposes 3% crude oil import tariffs, while high oil prices forced it to cut the tariffs to 1% in 2007-2009.

Refining And Sales
Domestic demand for oil products were 794.5 million barrels, or 2.2 million bpd, in 2010. The country exported 341.8 million barrels of oil products last year, the KNOC data showed.

The four refiners' total refining capacity is 2.85 million bpd. The country's largest refiner is SK Energy, which has a combined capacity of more than 1.1 million bpd and has five crude distillation units (CDUs) in Ulsan, about 400 kilometers southeast of Seoul, and two CDUs in Incheon, about 150 kilometers southwest of Seoul.

No. 2 refiner GS Caltex has four CDUs with combined capacity of 760,000 bpd in Yeosu, about 500 kilometers south of Seoul, while No.3 S-Oil has three CDUs with 580,000-bpd capacity in Onsan, about 400 kilometers southeast of Seoul.

The smallest Hyundai Oilbank has two CDUs with 390,000-bpd capacity in Daesan, about 200 kilometerssouthwest of Seoul.

Oil Stockpiling
KNOC has the world's largest storage capacity with a total of 146 million barrels of crude, petroleum products and LPG at nine locations.
South Korea held a combined 173 million barrels of crude and oil products in public and private inventories, equivalent to 73 days of consumption, as of end-December.

Of the total, the government holds 87.2 million barrels through KNOC for strategic stockpiling, with the rest held by private firms for refining and strategic stockpiling, government data showed. KNOC recently said it would buy 2.4 million barrels this year for stockpiling.

Another 40 million barrels are held locally by foreign firms for commercial storage, and the state has first buying rights to these stocks in case of emergency.

Energy officials in a meeting with President Lee on Feb. 24 said they would be running daily checks of oil stocks and pursuing diversification of sources of crude, while it would discuss possible releases of government crude inventory and raising stockpiles for private refiners.
South Korea released more than 2.5 million barrels of crude and nearly 400,000 barrels of oil products in September-October 2005, as recommended by the International Energy Agency (IEA).

LNG Imports
South Korea, the world's second-largest LNG importer after Japan, imported 32.6 million tons of LNG in 2010, up 26% on the year, mostly from Qatar, Indonesia, Malaysia, Russia, Oman and Yemen. It imported 5 million tons in January of this year, up 41% year-on-year.
State-run Korea Gas Corp, the world's top corporate buyer of LNG and South Korea's sole wholesaler, operates three LNG terminals with a storage capacity of 3.3 million tons as of Dec. 31, 2010.

The country's top steelmaker POSCO has one terminal, while KOGAS is adding a fourth by 2015.

South Korea in 2001 allowed companies to import LNG directly only for their consumption, not for trading. The government since 2009 has been awaiting parliament's approval on a bill to allow power plants to import and trade LNG.

KOGAS sold 31.2 million tons of LNG domestically last year, and of the total 56% went to city gas providers for residential, commercial and industrial consumption, and the remainder to utilities for power generation.