High oil prices induce firms to pay more on their energy use and, as a consequence, to adjust their output levels. In literature, the effect of oil price changes on the economy is much larger than the ratio of energy cost share, the prediction of the neoclassical economic model. The main goals of this study are to estimate the impact of energy prices on GDP and to model an energy demand function for Korea's manufacturing sector, which can be used for the analysis on economic effect of energy-related policies for the future.
The proportion of the manufacturing sector in GNP was 27~ 28% between 1990 and 2010, and during the same period, the share of manufacturing in the energy consumption recorded 48.1% in 1990 and continued to rise to 59.3% as of 2010. Meanwhile, the energy intensity of the manufacturing sector recorded 36.9 tons of oil equivalent (toe: representing energy generated by burning one ton of crude oil) in 1990 and continued to escalate to reach its peak of 50.2 toe in 1997. After the peak, it has decreased gradually to 39.1 toe as of 2009. Such decline in the energy intensity of the manufacturing sector (or improvement in energy efficiency) was mostly contributed by the transition in industrial structure while the effect of improved energy efficiency is considered marginal. Not only that, although it seems to be improving, the energy intensity (39.1 toe) of the manufacturing sector in 2009 turned out almost more than double the energy intensity (18.6 toe) of the entire economy in the same year. This means that the manufacturing industry consumed more energy to produce the same amount of value-added, compared to the non-manufacturing sectors.
Industries with high energy intensity include petro-chemistry, non-ferrous metals and primary metals, whose energy consumption accounts for 81.4% of the entire energy consumption by the manufacturing sector as of 2008. By adopting Linn (2009)’s approach, this study finds that the industry with high intensity tends to use less materials produced by other industries, but tends to provide more intermediate goods to other industries. According to estimation outcomes using the plant-level data, a 1% increase in oil price reduces total production of the manufacturing sector by 0.021%. However, the impact on each industrial sector is offset by the increased number of plants: at industry-level (using aggregate data), a 1% rise in oil price causes no significant impact on total production of the manufacturing sector.
With respect to energy demand, a 1% increase in oil price reduces the electricity and fuel consumption by 0.065% and 0.019%, respectively, at the plant-level. Similar to the production case, changes in oil prices do not change electricity and fuel demand at industry-level. Unexpectedly, demand for energy used as raw materials seems to increase (0.546% at plant-level and 0.102% at industry-level) in response to a 1% rise in oil price. This may be explained by the simultaneous increase in production of energy-intensive industrial sectors during the period of oil price hikes. In concluding, contrary to Linn (2009)’s findings, the impacts of high energy prices on both the manufacturing GDP and energy demand are not larger than the cost share of energy in the manufacturing sector at industry-level.