Oil Prices Continue To Fall, But Don’t Expect It To Last Forever
The price of oil is continuing to fall, but it won't last forever.
The price of oil continues to fall:
LONDON — Oil prices continued to swoon on Tuesday, tumbling about 3 percent in early trading after dropping more than 5 percent on Monday.
Brent crude, the main international benchmark, was down about 2.7 percent to $46.14 per barrel on Tuesday and has fallen about 8 percent this week. The American benchmark fell almost 3 percent on Tuesday to $44.78 per barrel.
A central factor in the sharp price drops, analysts say, is the continuing unwillingness of OPEC, an organization of oil producers, to intervene to stabilize markets that are widely viewed as oversupplied. Prices of OPEC’s crude benchmark have fallen about 40 percent since the organization declined to cut production at a late November meeting in Vienna.
The oil minister of the United Arab Emirates added to the downward pressure on prices on Tuesday when he told reporters at a conference in Abu Dhabi that it was up to shale oil companies in the United States and other high-cost producers to cut their output.
“Those who are producing the most expensive oil, the rationale and the rules of the market say that they should be the first to pull or reduce their production,” said the minister, Suhail Al Mazrouei.
As this chart shows, the per barrel price of oil is reaching the low point that it hit in the wake of the 2008 financial crisis that brought on the Great Recession, although it’s worth noting that back then prices were starting from the much higher peak of roughly $140/barrel:
What’s been something of a mystery are the reasons that prices have fallen so precipitously over the past several months, and why it is that most analysts believe that they are likely to continue falling for the foreseeable future. The 2008 price drop was fairly easy to understand, of course. In that case, worldwide demand dropped like a stone thanks to the fact that the worldwide financial crisis had sent the economies of much of the world into recession, and even economies that didn’t go into recession such as China and India saw economic growth slow significantly because of what was going on in the rest of the world. The world’s oil markets began to recover as the economy of the world began to recover, and prices also began to rise once markets began to once again factor into the price the other factors associated with the price of oil, such as limited supply and the fact that the largest reserves of oil continue to exist in one of the most volatile parts of the world.
This time around, it’s hard to pin down exactly what it is that’s motivating such a large price drop this time around. While there are some indications of softening in the world economy in recent months, there are no signs of the kind of economic collapse we saw in 2008. The Middle East certainly isn’t any less tense than it has been in the past and, indeed, if anything, the situation there is becoming more tense thanks to the rise of ISIS and other regional conflicts. For the most part, it appears that we’re looking at simple supply and demand, helped along by increased production in the United States and Canada:
Why is the price of oil dropping so fast? Why now?
This a complicated question, but it boils down to the simple economics of supply and demand.
United States domestic production has nearly doubled over the last six years, pushing out oil imports that need to find another home. Saudi, Nigerian and Algerian oil that once found a home in the United States is suddenly competing for Asian markets, and the producers are forced to drop prices.
On the demand side, the economies of Europe and developing countries are weakening and vehicles are becoming more energy-efficient. So demand for fuel is lagging a bit.
In the past, OPEC would be able to stem price drop like this by dropping production, but the nations of the cartel find themselves in conundrum:
The price of oil, as with other commodities, goes up and down. And in the past the Organization of the Petroleum Exporting Countries, known asOPEC, has frequently cut production to firm up prices. Iran, Venezuela and Algeria are pressing the cartel to do so again, but Saudi Arabia, the United Arab Emirates and other gulf allies are refusing to cut. At the same time, Iraq is actually pumping more.
Saudi officials have said that if they cut production and prices go up, they will lose market share and merely benefit their competitors.
They say they are willing to see oil prices go much lower, but some oil analysts think they are merely bluffing.
As long as the Saudis and the UAE refuse to cut production, it’s unlikely we’ll see the price of oil rise any time soon. It’s worth noting, though, that oil markets respond the same way other markets do. At some point, the price of oil will hit a floor as supply and demand continue to adjust. At that point, the price drop is likely to stop and the question will become where the the new equilibrium level might be. Many have suggested that it’s unlikely that we’ll see a return to $100/barrel oil any time soon, but it strikes me that it’s silly to say such a thing. After all, given the ever increasing demand from the west, India, and China, the ever present threat of Middle Eastern tensions, and cuts in production. Until then, I suppose we can enjoy the falling prices and the benefits that come from them.