Oil price reflect the world order in a single number. Its price movement reveals the underlying forces which are multiple and so varied that many attempts to build a reliable model to oil price has failed.
Who would have guessed that oil prices will dropped 29% since June 2014 despite geopolitical tension in Middle East, a strengthening US economy (The US Federal Bank has declared to end quantitative easing) and a moderate growth in Asia. Drop in oil prices have kept oil analysts, OPEC member countries and world over Finance Ministers to find the possible causes to define long-term strategy to manage their finances accordingly. This single number is one of the biggest influences to monetary policy of every single country irrespective of whether it is net importer or net exporter.
So, the 1st and foremost question is: Is this price drop a seasonal phenomenon or a structural change? I am inclined towards declaring it as a structural change due to below reasons:
1) US, largest consumer, has observed increased production in-house. Subsequently, its dependency on import has declined, leading to less demand and hence, drop in oil prices. Nigeria, the 5th largest exporter to US, has not exported a single drop of oil since July 2014. It has impact on geo-political equations and US isn’t rushing its forces to fight ISIS.
2) Oil demand has declined in Europe and Japan which has been battling deflation.
3) Growth in China has stagnated. Also, Chinese has been suffering from air pollution which has spurred demand of clean energy and China is going big on clean energy.
While the drop in oil prices is good news for net importers Like India (where central government has linked diesel prices to market and reduced government subsidy bill); the drop is serious concerns for net exporters like Venezuela, Russia and Nigeria because government revenue is plummeting.
The worst impacted is Venezuela where inflation is running at 50% and a drop in oil prices has shrunk government revenue. The investors are jittery that Venezuela government may default on debt repayment.
Nigeria government gets 80% of its revenue from oil. Nigeria had a bad-weather fund to manage drop in oil prices however the fund has only $4 billion (where it ought to have $20 billion) and this is getting messy because government is reluctant to reduce its spending where elections are due in February 2015.
Russia has seen Ruble decline. Putin drives maximum strength from oil prices and oil price above $100/barrel keeps his ambitions floating but this continuous drop may throw Russia Economy in recession coupled with western sanctions after annexation of Crimea.
Venezuela has called meeting of OPEC on 27th November, 2014 to stem acceleration in drop of Oil Prices. OPEC may find difficult to arrest this drop because a 2 million barrel/day production cut is required. There may not be enough members willing to cut production because it will reduce government revenues which will aggravate the member nations’ fragile fiscal position further.
So, we may rule out a production cut to make significant impact on oil prices. We shall find out more on 27th November however meeting may spring a surprise where OPEC members aren’t able to maneuver Oil prices, proving that this drop in oil price is indeed structural.
An open market has self-correcting mechanism. As prices drop significantly, suppliers start working towards increasing price which may take time but will show impact. 2nd, drop in energy prices spur latent demand and it resurfaces, resulting in sustained increasing demand. But, the climate change is also showing impact and world over governments have been investing in renewal energy (India has one of the most ambitious plan to boost solar energy); if so, the oil price drop may continue and stabile around a price which we may not predict as on date.
We must note that mankind didn’t stop using stones because earth ran out of stones. The oil may meet a similar fate. We may be witnessing a tectonic shift in energy consumption pattern in mankind history: The beginning of end of Oil. It may farfetched as on date but there is probability. The time will tell.
Who would have guessed that oil prices will dropped 29% since June 2014 despite geopolitical tension in Middle East, a strengthening US economy (The US Federal Bank has declared to end quantitative easing) and a moderate growth in Asia. Drop in oil prices have kept oil analysts, OPEC member countries and world over Finance Ministers to find the possible causes to define long-term strategy to manage their finances accordingly. This single number is one of the biggest influences to monetary policy of every single country irrespective of whether it is net importer or net exporter.
So, the 1st and foremost question is: Is this price drop a seasonal phenomenon or a structural change? I am inclined towards declaring it as a structural change due to below reasons:
1) US, largest consumer, has observed increased production in-house. Subsequently, its dependency on import has declined, leading to less demand and hence, drop in oil prices. Nigeria, the 5th largest exporter to US, has not exported a single drop of oil since July 2014. It has impact on geo-political equations and US isn’t rushing its forces to fight ISIS.
2) Oil demand has declined in Europe and Japan which has been battling deflation.
3) Growth in China has stagnated. Also, Chinese has been suffering from air pollution which has spurred demand of clean energy and China is going big on clean energy.
While the drop in oil prices is good news for net importers Like India (where central government has linked diesel prices to market and reduced government subsidy bill); the drop is serious concerns for net exporters like Venezuela, Russia and Nigeria because government revenue is plummeting.
The worst impacted is Venezuela where inflation is running at 50% and a drop in oil prices has shrunk government revenue. The investors are jittery that Venezuela government may default on debt repayment.
Nigeria government gets 80% of its revenue from oil. Nigeria had a bad-weather fund to manage drop in oil prices however the fund has only $4 billion (where it ought to have $20 billion) and this is getting messy because government is reluctant to reduce its spending where elections are due in February 2015.
Russia has seen Ruble decline. Putin drives maximum strength from oil prices and oil price above $100/barrel keeps his ambitions floating but this continuous drop may throw Russia Economy in recession coupled with western sanctions after annexation of Crimea.
Venezuela has called meeting of OPEC on 27th November, 2014 to stem acceleration in drop of Oil Prices. OPEC may find difficult to arrest this drop because a 2 million barrel/day production cut is required. There may not be enough members willing to cut production because it will reduce government revenues which will aggravate the member nations’ fragile fiscal position further.
So, we may rule out a production cut to make significant impact on oil prices. We shall find out more on 27th November however meeting may spring a surprise where OPEC members aren’t able to maneuver Oil prices, proving that this drop in oil price is indeed structural.
An open market has self-correcting mechanism. As prices drop significantly, suppliers start working towards increasing price which may take time but will show impact. 2nd, drop in energy prices spur latent demand and it resurfaces, resulting in sustained increasing demand. But, the climate change is also showing impact and world over governments have been investing in renewal energy (India has one of the most ambitious plan to boost solar energy); if so, the oil price drop may continue and stabile around a price which we may not predict as on date.
We must note that mankind didn’t stop using stones because earth ran out of stones. The oil may meet a similar fate. We may be witnessing a tectonic shift in energy consumption pattern in mankind history: The beginning of end of Oil. It may farfetched as on date but there is probability. The time will tell.
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