We Should Be Happy - The Price Of Oil Is Falling To Its Lowest Level In 20 Years
But Maybe We Shouldn't - Thoughts On The Current "Crisis".
The oil price fall is spectacular in recent months but we have been here before. In 2004 it was down to $35 a barrel, while in 2007, before the crash it was up to $90 a barrel. Directly after the banking failures it fell to $33 again in 2009, but by 2011 it was over $120 a barrel. It fell gradually to around $60 at the middle of last year, then fell violently to under $30 in January this year. Sometimes the crash in value has been due to economic crises but this time it has not been heralded by economic troubles - in fact it may be adding to a crisis in confidence in the economy and where it is headed. The main factor in the sudden drop in price is oversupply and hoarding of oil by some major countries, especially China. But I want to look in detail at this fall and the reasons for it, then I will look at future consequences and prospects. If there were logic in the market alone then cheaper oil and fuel should give a boost to the global economy because of cheaper air, ship and truck freights – but no boost has come - in fact the opposite. This is a problem very difficult to understand but I think the popular media's account of the situation is lacking in depth, especially in its explanations and possible future consequences.
One of the explanations for the oil price fall is the global slowdown of the past 7 years - but as we have seen there is no correlation on a global level. In the past year the US economy has definitely picked up, and so too until very recently has the official UK economy. The French economy still seems in the doldrums but the German economy seems to be steaming ahead still. China is slowing, but its growth up to December 2015 is at a rate that most countries would envy (6.9% p.a.), and the next year's forecasts are only for a slight fall (to 6.5%), Despite turmoil in the Chinese stock markets late last year, these seem to have stabilized for the moment. So demand for oil should, according to this, still be high in the key developed and developing countries. But can it continue?
What the papers do not tell you is that there has been a fall in demand for oil compared to its production level, thus there is over-production leading to a glut of oil and hence the price fall. From 2009 until 2015 there has been a global increase in output from 72 million to 76 million barrels per day, an increase of approximately 6%. Before this same period, the increase in consumption of oil had been at 1.3% per year but since 2009 it was only an average 0.7% increase per year (all figures are from the IndexMundi.com website). This means that the total rise in consumption has been 4.9% from 2009 to 2015 and this is considerably less than production. Where has all this oil gone, and why have we come to produce too much oil???
What the papers also do not tell you is that there has been a significant decrease for the demand for oil, especially in the past three years compared to the production. Production has continued to increase despite slowing demand for 3 reasons. Firstly back before 2010 considerable money was invested in shale oil in Canada and Alaska by the US, in order to make them relatively independent of the uncertain situation in the middle east. Until Obama's decision last year to cancel the oil pipeline from the far north to the Gulf of Mexico for ecological reasons (but it was clear from the drop in price already experienced that economically too this pipeline made no sense, as it would lead to even more over-production and selling oil at a loss) there seemed to be no stopping shale oil coming onto the market. Secondly, this has resulted in a competition for customers between the States, and Saudi Arabia and the Gulf states. This too has driven prices down. Thirdly, where is OPEC in all this? Why haven't they been able to stabilize the oil price? Simply because there are too many players now in the game – many new developing countries in South America, Africa, and South East Asia have also become producers. This has not only added to the oil flows but also meant the OPEC system no longer works. If the major players tried to hold onto the price levels around $60 (the figure necessary for most companies to remain profitable for re-exploration and normal activities) the lesser players would undercut them. The fact that there has been no global agreements has led to a race for the bottom.
But there has been a final reason why over-production has occurred – and this is the success story of the new green industries, including the motor industry with their more economical cars and trucks, hybrids and oil-free electric vehicles. We can quite clearly see this in countries such as Germany and Japan, but even in France, the UK and, more recently, the mother of oil consuming countries, the US of A. But the oil consumption level has also gone down in recent years in other industries such as shipping (residual fuel oil used in most ocean going ships has dropped from 2001 = 13 million barrels per day, to 8.94 million in 2010 - and this has continued due to new eco-friendly fuels and improved engine efficiencies). Bio-diesel consumption by contrast has increased from 0.02 million in 2001 to 4 million in 2011.
Oil consumption in Germany began falling as early as 1999 from when it fell from 2.923 million barrels per day to 2.65 in 2004 (IndexMundi). This fall steadily continued through the 2008 crash (2.45) until 2011where it has levelled off at around 2.40 million, which is where it is today. This is a reduction of 22% - a big boost to the German economy because it used to import most of its oil and now it depends much more on its own home-grown green industries and their products. Oil consumption in both France and the UK has also fallen, from a peak in 2004 to a much lower figure in 2013 (in both countries an approximately 12% reduction in 10 years). Even the US has used less oil, despite the new streams of shale oil coming on the market. Their reduction is more recent: from a high of 20.8 billion barrels a day in 2005 down to 18.69 in 2009, and then 18.41 in 2012. In 2013 consumption went up again to 18.96 million – and this may be due to gradually falling prices and the American love affair with the car in such a huge country. These countries together are the major oil consuming countries in the world, but all have witnessed a reduction. It is only in the developing BRIC countries where consumption has continued to spiral upwards – the main example being China, which increased on average yearly by nearly 10% since 2003, and in 2013 stood at 10.12 million barrels per day – more than half of the US consumption. There are some indications that this consumption level will flatten out in the next few years, partly because of green technologies coming on-stream, but it is still number 2 to the USA in the world. China and the other BRIC countries are the main reason why world oil consumption continues to increase, but there is some hope that this will also level off as we move into the 2020s, especially if other economic and political conditions make further oil exploitation difficult.
We have seen that oil production continues upwards despite these trends – and the reason and consequence is that countries like China have been busy stockpiling oil whilst the prices are low, so that it can be used in the following years when the prices are thought to rise again. The tanker business has soared in 2015 with a 25% increase in oil deliveries over the previous year, bucking the downward trend in 2013 and 2014 (Fairplay Magazine January 2016). But then the problem comes when all oil storage facilities become full. The US and China are lead countries in this effort to hedge against the future price by trying to build in more and more storage. But this has also the affect of keeping prices low. And the reason for building more storage becomes self-defeating if the world's economy also starts to stall. Now the oil companies can no longer operate and invest, nor do they want to, in future exploration or even usage of existing discoveries. The Brazilian fields are a good example – plenty of unused potential but the oil-glut and local economic crises (and these are related) have led to a halt in investment.
The main consequence of having over-production and so much stored oil will be to keep the oil prices low over the next year at least. The demand for oil always dips in summer, so come late spring time we may see prices going below their present record levels. When asked to forecast the future price of oil, market experts gave a range from lows of $10 a barrel to a maximum forecast of $60-70 by the end of 2016 (BBC4 PM Show 25.1.16). The price will definitely not climb to the point where the Oil Companies will consider it worth pushing ahead with new exploration.
This has a number of effects on the stock markets and the real global economy. Let's look at the winners first of all. Clearly the motorist and the transport sector will be the first beneficiaries of cheap petrol and oil, and this includes the major shipping companies who can deliver their goods more cheaply world-wide; flights too are becoming cheaper, and therefore people will travel both short and long distances more - with negative consequences for global warming and pollution. But there are not many other winners, and in fact transport companies will NOT benefit in the long term because of the general downturn in global markets. As we have not escaped the consequences of the last crisis in 2008 and 2009, the transport sector is still depressed and freight rates are at their lowest for years. This has squeezed the sector almost dry, and the container business has imploded with over-capacity (in particular, with too many monster container ships having been built, and the scrapping of perfectly workable smaller but not very old ships, and resulting consolidation and takeovers of the smaller companies), and further years of cheap oil will not really help to balance the books if there is not enough to carry.
The crisis in the real world coming from low oil prices mostly first affects producing countries, particularly the slowly developing BRIC countries such as Brazil and Russia. But it also affects smaller countries such as Venezuela, Nigeria and Indonesia, all big oil producers whose economies and development rest primarily on oil sales. Continued lack of demand means that all these countries are going into major economic crises. But these countries are also the export target markets for the high value-added products, which are mostly produced by the most advanced countries - US, Europe, Japan and South Korea. Saudi Arabia, the Gulf states and the newly emerging Iran will also be hit hard by continuing low price, with a slowing of their incredible (up till now) pace of development. Most of the new cities in these countries have yet to be paid for, but a stalling of their economies will probably mean only the banks will become the major property owners as companies are driven into debt. So the knock-on effect will hit us all, even China, which though not a major oil producer, makes profits from the applied oil industry, and whose exports and investments also go to these countries. None of these countries have diversified their economies away from oil (and coal) dependency so as to be able to make more money in other industries and make up for the loss in profits on oil-based products. It will take some time for them to do so, though the rich middle eastern states and China can clearly see the problem and are trying very hard. This slowing of the global economy is part of the reason why politicians and financiers, investors and economic experts are cautious about the recovery continuing into 2016 & 2017, and why stock markets remain volatile. It is just not a good time to invest. Dry bulk prices for raw materials are also at an all time low after over-saturation of products such as iron-ore, coal and bauxite in the world markets. Many of these primary products are produced by developing countries and also Australia, and the slumpin prices has disastrous consequences for their economies, and then again, ours.
The reaction of the stock markets and their different sectors is very complex and confusing, simply because cheap oil in everyone's mind is normally associated with a booming market and business expansion. The oil companies' shares go up and down, but mainly down because of fears of future inactivity and loss of markets; they go up, because profits are still good, they are still selling oil to an overfed market, and they do not pass on the whole price-fall to consumers. Transport companies also are seen to benefit from cheap oil in the short term, but because of the instability and overcapacity, their shares also go down. They too try and maintain profits by not reducing transport pricing (especially where they have near monopolies), but competition in many markets mean that they are forced to lower freight rates and passenger fares. Energy companies too are reluctant to pass on the reduction in the oil price to customers, they need to rebuild old infrastructure and maintain profitability in the face of lessening demand (party because of global warming and competition from alternative energy sources). But their shares too are affected by the market volatility. The general fears in the market are directed to the future state of the Chinese economy, but this is not the real culprit, and as we have seen, it should still grow at a reasonable rate, partly on the back of cheaper fuel and energy, and also because of real attempts at diversification into secondary industries and the green sector. Having a one party state certainly helps the speed of this transformation, despite the illiberal consequences.
Cheap oil should boost the profits of all companies that transport their goods or supply energy and fuel, but as we have seen it is not that simple. The real block is in the loss of export markets in the developing world, and these markets are vital for the next stage of capitalism, both in the west and for the resulting creation of consumers and tax payers in the poorer countries. Governments everywhere are losing out because of the massive loss of revenues from oil and fuel. Therefore already unbalanced books become more unbalanced.
Another crazy result of cheap oil is that many countries (most significantly the UK) are going back on their previous promises to switch to alternative green energy sources, and reduce their emissions of greenhouse gases and toxic emissions. The short term gain of using cheap oil rather than longer term investment in the green industries (as in Germany and Scandinavian countries) will be extended by right wing politicians (who still gain tremendous party payments from oil companies) so long as the oil price remains cheap – and this could be at least two or three years longer. Job losses in green enterprises will continue to increase and many companies go bankrupt in these countries before the new green shoots are big or strong enough to compete with the oil giants and associated energy companies. But this is a terribly short-sighted policy with disastrous consequences for the planet. Obama's encouragement of local green companies and the cancelling of the Alaskan-Gulf of Mexico pipeline is a heroic counter to right wing interests - but will it still be the US policy after the next election, especially if oil prices remain low and the Republicans take power?
The last major geo-political consequence of cheap oil may be an increase of the present already high level of global conflicts. As the economic situation continues to get worse in South America, the Middle East, Africa and Indonesia, this will probably result an increase in extremism – both in terms of Islamic fundamentalist extremism in the last three countries, and right wing reaction in South America, and also European countries affected by continuing and new areas of civil strife. Refugees, economic impoverishment and war has often in the past led to more right wing power in both developed and under-developed states. If this also leads to a Donald Trump US president, God help us all. But somehow I think this turn to governmental and populist right wing extremism is very much a temporary phase that will lead to a strong reaction in the other direction, once its consequences are seen. These consequences – more global warming, and civil and international conflict, will surely lead the human race to join in the search for peaceful resolution to conflicts and a greener world. In this Germany is still a beacon of hope in a bleak global situation.