Economic Implications Of Cheap Oil

by Darwin on January 8, 2015

When oil broke through the critical $50 per barrel barrier early in January, consumers around the world were celebrating. Cheap oil translates into lower costs at the pump, which means that you can go further on less money, and you’ll have more disposable income in your wallet. But that doesn’t quite tell the whole story, because cheap oil may be a sign of a global economy in distress. The ramifications of depressed oil prices, caused by an oversupply of Brent crude oil and WTI crude oil are not as cut and dried as one might expect. All around the world, countries are starting to feel the heat, even oil-rich countries in OPEC. Take for example the case of Venezuela which is now running the world’s fastest-growing inflation rate at around 64%. From the outset, it is not apparent why a country so rich in natural resources would be feeling the heat – but it is. With OPEC countries continuing to oversupply and demand at historically low levels, oil producing wells are not earning the revenues that they need to sustain production capacity.

The Impact of Cheap Oil on the Average US Consumer

US consumers have wasted no time cashing in on cheap oil. Over 13 states in the US now offer gasoline at under $2 per gallon, and the number of states is growing fast. In fact, the cheap price of gasoline has prompted many motorists to purchase trucks as opposed to cars as they are now more affordable to run. Statistics released by Ward’s Automotive Group show that trucks outsold passenger vehicles by the biggest margin in nine years. Wealth is now being shifted from OPEC states like Saudi Arabia, Iran, Iraq, Venezuela, Qatar, UAE and others to consumers in industrialised countries. The predicament in the US is being bolstered by the fact that US oil production is at an all-time high with shale oil fracking. Coupled with recessionary fears across Europe and Asia, the dollar is surging while the euro, the pound, the Russian ruble and other major currencies are best described as wobbly. Asset trading managers at Banc De Binary do not rule a $40-$45 price range out of the question for WTI crude oil, perhaps even Brent crude oil.

Global Statistics Posit Startling GDP Rates

Oxford Economics Ltd conducted research into how the falling oil price will affect developing and developed countries respectively. More specifically a price target of $40 per barrel was set, and the associated GDPs (Gross Domestic Product) of various countries were evaluated over and above the present IMF growth projections. Topping the list was the Philippines with an estimated growth rate in excess of 1.5 percentage points in 2015/16 with oil prices at $40. This would put the Philippines GDP at approximately 7.6% on average for 2015/16. Other countries are expected to benefit from $40 per barrel oil including the Slovak Republic at approximately 1.25% GDP growth, South Africa at around 1.1% GDP growth and Thailand at 1% GDP growth. The US GDP growth is expected to be around 0.6% over and above its current rate if oil prices remain at $40 per barrel in 2015/16. The countries hardest hit by cheap oil are the ones that rely on it for the bulk of their revenues. These include Saudi Arabia which will experience approximately – 4% GDP growth at $40 per barrel during 2015/16; Russia which will experience – 3.75% GDP growth, the United Arab Emirates at -1.6% and Norway at -1.1%. These contractions in GDP growth rates will have a knock-on effect on the global economy, so it is important that asset traders focus on the big picture.

Is Everyone Bearish On Oil?

At the time of writing, the general consensus among analysts around the world is that oil prices will continue to slide during Q1 and Q2 of 2015, perhaps well beyond. Technical and fundamental analysis tends to corroborate that perception. The issue is compounded by the fact that OPEC countries, led by Saudi Arabia, refuse to cut supply and would rather allow oil markets to find their own equilibrium. Whether this is a power-play to try and squeeze the US out of the lucrative global oil market or simply a market share initiative remains to be seen. Trading assets like oil and other energy sector stocks have took centre stage for the latter half of 2014 and will undoubtedly do so for Q1 of 2015. Even if supply/demand considerations are factored into the oil price, the price level will likely be determined by the perception of market participants, rather than economic balance.

{ 1 comment… read it below or add one }

Money Beagle January 9, 2015 at 1:46 pm

The stock market seems worried that the lower oil prices could lead us into recession, with my understanding being that the energy and oil have been such big drivers of economic growth, that job losses and slowdowns and such that would likely come about if oil prices continue to fall would stop the growth. I personally think that the consumers extra money could unlock other areas that, to date, haven’t been growing as fast due to the high percentage of spending to gas and such when prices are higher. It’ll be interesting to see how it plays out.


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