19 April 2006

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Business Today

Give hedging a chance, business organisations tell government

James Debono
The Federation of Industry, The Malta Employers Association and the Chamber of Small and Medium Enterprises-GRTU are calling on government to consider hedging mechanisms in purchasing Enemalta’s oil requirements to ensure greater stability in the economy.
Employer’s Association Director General Joe Farrugia contends that fluctuating fuel prices are turning business risks into a gamble.
The director generals of the three organisations expressed agreement with what economist and former finance minister Lino Spiteri wrote in The Times on Monday, that hedging mechanisms can smoothen the upward spiral of oil prices, thereby reducing shocks to the economy.
Wilfred Kenely, the FOI director general called on politicians not to politicise the hedging issue.
“It is a shame that this issue has been politicised. It does not make sense to dismiss the hedging mechanism because it is associated with one side of the political spectrum,” Kenely told Business Today.
On Monday Lino Spiteri argued that by adopting hedging mechanisms the government could mitigate the frequency of domestic price changes necessitated by shifts in the international energy market.
GRTU director general Vince Farrugia argues that constant price changes are resulting in shocks to the economy and are having a negative impact on businesses exporting on a forward basis as well as on hoteliers who sign contracts with tour operators months before oil prices are revised.
“While operators can foresee any increase in labour costs which are regulated by collective agreements, electricity and water costs cannot remain so volatile.”

1Fluctuating fuel prices are turning business risks into a gamble says MEA director general Joe Farrugia.
“Take the case of firms seeking to enter into contracts with their clients. The more significant energy prices are in the cost structure, the more vulnerable the company will be when it commits itself to a price. If a company tries to hedge itself by factoring in high-energy costs in its negotiations, it will stand the chance of losing business due to a fall in competitiveness. On the other hand, underestimating potential increases in fuel prices may erode profit margins, and also lead to losses. Thus, volatile fuel prices mean much higher risks for companies, which may result in a loss of business due to an inability to reach a commitment with clients.”
Wilfred Kenely also contends that stability is very important for Maltese industry.
Kenely would not pronounce himself on which hedging mechanism can be used. “I am sure Enemalta has competent persons to determine which hedging mechanisms are appropriate. What’s important is that every effort is made to avoid shocks to the economy.”
According to the MEA’s Joe Farrugia the volatility in oil prices is having a severe negative effect on Maltese industry.
Farrugia contends that volatility in oil prices is leading to an increase in the costs of production, which, in many cases cannot be passed onto the prices of goods and services because of competitive and demand constraints.
The increase in energy costs are also leading to increases in the wage bill since wage increases are indexed to inflation rather than to productivity.
In these circumstances “businesses are finding it difficult to plan ahead in such a turbulent and volatile environment,” the MEA’s director general told Business Today.
On Monday, Lino Spiteri highlighted a number of hedging options, which can be considered by Enemalta. The first option mentioned by the former finance minister is hedging up to 75 per cent of requirements provided the cost to cover is not too high.
The second option is to hedge for six to nine months on a rolling basis, thus riding the shifting trend and averaging forward. The third option is to examine the possibility of 24-36 month cover against unforeseen circumstances.
Vince Farrugia is wary of long term hedging but also disagrees with the short-term approach adopted by the government so far.
“Hedging should not be done sporadically. It should be done in a programmed way. Business is not expecting the government to speculate on petroleum prices. What we expect is that the government offers a degree of stability,” he says.
Vince Farrugia also laments the lack of transparency on fuel procurement.
“I am under the impression that Enemalta is making two purchases a month in a scenario where prices are changing in the very short term.”
According to the GRTU director general, Enemalta should buy greater quantities of oil when prices are favourable.
“I do not know exactly whether Enemalta is doing that at the moment. I will only know when the surcharge is reviewed again.”
The Malta Employers Association is not against hedging in principle. However, the Association stresses the difference between hedging and purchasing at low prices.
He points out that hedging may incur a cost, since ultimately, hedgers operate to profit from market fluctuations.
However, according to Farrugia the benefits of price stability through hedging may – within parameters – outweigh the premium that may be paid as a result.
“It will certainly be easier for businesses to plan and enter into contractual agreements with their clients. This factor alone makes a strong case in favour of giving hedging its due weighting, particularly in a volatile international political environment.”
The declarations of the three director generals of the three main business bodies come in the wake of spiralling oil prices in the international market.
The electricity surcharge is revised on a bi-monthly basis. Setting the tone for the next revision, yesterday’s edition of the Nationalist Party daily In-Nazzjon gave prominence in its front page to the news that the price of oil has hit the 70 dollars a barrel mark.
The last revision saw the surcharge increase to 67 per cent for the months of March and April.


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