Spiralling World Oil Prices Causing A Shifting To Oil’s Disadvantage

Spiralling World Oil Prices Causing A Shifting To Oil’s Disadvantage

The fall in oil prices has been one of the most important macro-economic events in the recent past. This has not only drastically reduced the revenues of oil-exporting countries but it has in turn led to decreased fuel bills for consumers. The impact can be summed on what’s really happening in the oil exporting countries of Saudi Arabia, Russia and Iran and those oil-importing countries such the US, China and India. We are currently in the midst of a great oil collapse, with prices sinking to within touching distance of $30 on Tuesday afternoon, 73% down on 18 months ago. As with every climb up and every slip down the greasy price pole, analysts are scrambling around to figure out whether the change will hold.

The change in oil prices has caused excitement all around the world’s stock market. With the price decline in oil and it’s by-products of almost over 70%, the increased impact has been largely felt by the oil multi-nationals, their associates and other investors in this field. In good measure, the impact has also been seen by regular consumers of these products who are at the moment rejoicing and spending the money saved from buying the oil products on other necessities. Lower oil prices should translate into higher spending and therefore support global growth. The size of the impact is dependent on the underlying drivers of the price decline, the extent of pass-through to households and firms and how much of it they spend, and policy responses.

The global economy is slipping into recession. The evidence is showing up in all the usual ways: slowing output growth, slumping purchasing-manager indexes, widening credit spreads, declining corporate earnings, falling inflation expectations, receding capital investment and rising inventories. But this is a most unusual recession– the first one ever caused by falling oil prices. This drop means less money in the hands of oil producers but more money in the hands of oil consumers. Currently the U.S. is importing about 5.1 million barrels a day more than we’re exporting of crude oil and petroleum products. At $100 a barrel, that had been a net drain on the U.S. economy of $190 billion each year.

That drain will now be cut by more than half by falling oil prices.

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Myriad of reasons have been forwarded as to this price change. Supply factors have played a somewhat larger role than demand factors in driving the 50 percent drop in the price of oil between mid-2014 and early 2015. Higher oil production resulted partly from non-OPEC developments (especially U.S. shale), but also higher-than-expected OPEC output in countries such as Iraq, Libya, and Saudi Arabia. Demand was weaker than expected in Europe and Asia.

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Although oil price gains and losses across producers and consumers sum to zero, the net effect on global scene is positive. The reasons are mainly two: simply put, the increase in spending by oil importers is likely to exceed the decline in spending by exporters, and lower production costs will stimulate supply in other sectors for which oil is an input.

The Saudi Arabian government heavily depends on oil revenues with a projected 90% of the revenues from oil. Already in the past month this fall has resulted in a higher government budget deficit translating into a lower government spending. Job creation within the country will be significantly affected as most of the private sector jobs that are available are based on government contracts. Russia on the other had has experienced it’s fair share. Its oil revenues, constituting more than half of its budget revenues and approximately 70% of its export revenues, have dropped significantly, with an estimated US $2 billion loss in revenue for Russia per dollar fall in oil prices.

Russia’s currency has as a result collapsed, which forced its central bank to raise interest rates and sell its foreign currency reserves to support the ruble. Iran depends on oil for slightly less than half of its total revenues and more than 80% of its export revenues, so the recent fall has already led to lower figures in its budget estimates made worse by the Western Sanctions due to it’s quest for nuclear activities.

Low oil prices have not affected the renewable energy sources (other than biofuels) due to the fact that wind and solar power generate electricity. Oil makes less than four percent of world and under one percent of U.S. electricity making this contribution quite insignificant. Global additions of renewable power set a new record in 2015, adding about 121 GW of wind and solar power alone in 2015 despite reduced oil prices. Natural gas does compete with solar and windpower, and its price tends to move with oil’s, but cheaper gas doesn’t much affect renewable power either.

That’s because new wind and solar power often beat even the operating costs of the most efficient gas-fired power plants anyway, even without counting the market value of gas’s price volatility. Photovoltaic (PV) have displaced the fossil-fuel cost of running traditional power plants. PVs are now less capital-intensive than Arctic oil. Costly frontier hydrocarbons like Arctic oil can’t sell for a high enough price to repay their costs. Their revenue model has been upside-down for years. Had Shell persevered instead of abandoning its $7-billion Arctic investment, and had it found oil, it wouldn’t have won durable profits.

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That displacement is already well underway. Renewable electricity merits and gets lots of headlines, but in 2014 it raised U.S. energy supplies only a third as much as the energy saved in the same year by greater efficiency. The cumulative savings are equivalent to 21 years’ current energy use. Globally, it’s a bigger “supply” than oil, and inexorably, it’s going to get much, much bigger. The impact on climate brought about by this change in oil price is double edged. The increased affordability of the fueled by consumers would mean more carbon emissions activities through driving. At the same time, this would mean less extraction activities by oil companies which would be good for the environment.

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Volatile Geopolitics

Any successful attack against Saudi’s oil points would be catastrophic on the world oil price. Saudi Arabia is the world’s largest oil exporter and Opec’s most influential member. Iran is right across the Gulf, with two big airbases a quarter-hour’s flight from the Saudi oil chokepoints and it’s a bitter rival to Saudis. Iran is the opposite pole of the tense Shi‘a-Sunni axis, and influential with the disaffected Shi‘a population that predominates in the eastern Saudi region around the main oilfields.

Iran is currently in a tiff with the Saudi leadership. Reentering the oil market with the lifting of nuclear sanctions, Iran would like to earn more money per barrel. So far, Saudi forces have defeated both cyber – and physical attacks on key oil facilities. But attackers need succeed only once, and they could be highly motivated. A successful attack, strangling Saudi oil output for years (and then repeatable), could make oil prices soar more than they’ve plunged. Massive global inventories could help cushion the blow, efficiency and renewables could be surged, behaviors would change, but most of 10 million at-risk barrels per day lack ready replacements.

Also now active in the neighborhood is militarily formidable Russia. At today’s oil price, Russia is likely to deplete its stability funds this year and its foreign reserves by about next year, so Mr. Putin may see a much higher oil price (plus lifted Ukraine sanctions) as an existential necessity.

Although lower oil prices are always welcomed by consumers, the global impact of the fall in oil prices is much more difficult to interpret, since many countries depend on oil as a major revenue source and lower prices hurt their economy. Lower oil prices could also signify a weak global economy, which could more than outweigh the benefits of lower oil prices.

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