The Relationship among Petroleum Prices, Biodiesel Demand, and Malaysian Palm Oil Prices: Evidence from Simultaneous Equation Approach

Abstract

The prices of petroleum and palm oil appear to be moving in tandem, a trend that has not been observed before. Oil prices are thought to have a direct effect on agricultural prices. This paper examines the relationship among world petroleum prices, biodiesel demand, and palm oil prices in Malaysia. To this end, a market model is formulated, representing palm oil supply, import, world excess demand, domestic consumption, export demand, rest-of-the-world excess supply, and palm oil prices. Using annual data for the period 1976–2010, a system of equations of eight structural equations and four identities is estimated through the two-stage least squares (2SLS) method. The simultaneous equation results suggest that world petroleum price significantly affects world palm oil price. Hence, our results support neutrality of palm oil commodity markets in Malaysia to direct effects of oil price changes. The elasticity of Malaysian palm oil domestic price with respect to biodiesel demand is then obtained. Results suggest that biodiesel demand has a positive impact on the Malaysian palm oil domestic price. Thus, significant growth in biodiesel demand is important in explaining Malaysian palm oil price determination.