The Impact of Palm Oil Price Swings on Household Welfare : The Case of Indonesia

Indonesia is the biggest producer as well as the second main consumer of palm oil in the world market. Palm oil has an important role for the Indonesian economy through providing export revenue. On the other hand, there is strong demand on palm oil commodity from domestic market. Increment of international and domestic palm oil price possibly might bring consequences on the affordability of the product in domestic market. Therefore this research is designed to examine the consequences of international palm oil price fluc-tuation on domestic palm oil price and assessed price impact on welfare of In-donesian households across the income distribution. This research tries to seek the answer of how is the relationship between domestic prices, international prices, inflation, and export. And further how price fluc-tuation influence household welfare. The focus is investigating the role of price in commodity product and social welfare. To answer the questions, this research employs five variables which are international and domestic palm oil prices, export volume, Real Exchange Rate, and inflation. This research works on the framework of market co-integration and price transmission. To assess the price, we utilize time series techniques which are Stationarity test, Johansen Co-integration Test, Vector Error Correction Model for short run and long run, Impulse Response Function and also Granger causality. Further to discuss the link of price with household welfare, we use descriptive analysis on house-hold expenditure. The last method intends to explore consumer demand by assessing contribution of palm oil on household budget. The research found that domestic price is co-integrated with interna-tional price, export volume, and RER in long run. Moreover in short run changes of prices in both markets influence producers’ decision to export or to supply for domestic market. Within one month lag, increase of international price will be followed by increase export volume, while increase of domestic price tends to lower export volume. Further, household analysis found that increase of the domestic price leads to welfare inequality between the poor and the rich. The budget analysis revealed that increase of palm oil price will hurt the poor more than the rich. Thus this research suggests that government in-tervention can be useful to protect the poor. Combination of VAT subsidy to stimulate domestic supply with progressive export tax might be effective to protect the poor when domestic price soars. This research also argues that government support for development of processing and distribution chain may improve supply of frying oil product. Relevance to Development Studies The studies of market co-integration intend to address the discussion about price transmission between international prices with domestic price. The analy-sis will provide an understanding of the extent to which the international price influences on domestic price, and what factors constitute the channel between the two markets. Similar with previous research about Indonesian palm oil price co-integration, this research have found the existence of co-integration between international and domestic palm oil price. In doing so, this discussion provides consideration for policy making for managing domestic price. There were several studies in the past about co-integration of interna-tional and Indonesian domestic palm oil price, which have provided evidence of the co-integration between the two prices. However, those researches did not incorporate the discussion of the impact of price changes on household welfare; hence it becomes a gap to be filled by this research. The author be-lieves that the discussion about price transmission might be more useful if it is continued by incorporating a discussion of the impact on household welfare. In fact, the increase of price is closely related with welfare issue by increasing loss of purchasing power. This research has explored the study of price by incorporating the dis-cussion of consumer demand side. This analysis has assessed how interna-tional price fluctuations affect the domestic price and how in turn this affects the Indonesian households’ welfare across the income distribution. Using de-scriptive analytic on household expenditure, the research has illustrated how does increase of palm oil price trigger inequality among quintiles of income. This shows that palm oil is an important commodity for the poor. Therefore, this research adds an alternative source of literature in understanding the rela-tionship among prices and households welfare. This provides a consideration for policies studies to promote the welfare of poor households when price soars.