THE oil price has fallen by more than 40% since June, when it was $115 a barrel. It is now below $70 and has now fallen to $50 barrel.
Factors which effect oil prices :
-The oil price is partly determined by actual supply and demand, and partly by expectation.
- Demand for energy is closely related to economic activity. It also spikes in the winter in the northern hemisphere, and during summers in countries which use air conditioning.
-Supply can be affected by weather (which prevents tankers loading) and by geopolitical upsets. -If producers think the price is staying high, they invest, which after a lag boosts supply. Similarly, low prices lead to an investment drought.
-OPEC’s decisions shape expectations: if it curbs supply sharply, it can send prices spiking. Saudi Arabia produces nearly 10m barrels a day—a third of the OPEC total. Organization of Petroleum Exporting Countries controls nearly 40% of the world market.
Much of the new oil coming online is more expensive to develop. At the current price of oil, many of those projects no longer make economic sense. Projects are typically not cancelled immediately, but if prices remain low for an extended period of time, many higher-cost projects will be shelved. Supposedly, too, many recent projects have depended on heavy debt financing. Lenders are less likely to lend aggressively if prices remain low. Lower prices hurt all producers over the short term. But the Saudis may think they will have a much stronger long-term position if lower prices slow the development of new projects. That gives the Saudi Arabia significant incentive to allow, if not engineer, a large drop in oil prices.
Hence the Saudis and their Gulf allies have decided not to sacrifice their own market share to restore the price(what this means is that they are not willing to cut their supply order to help the prices to rise). This is because The Organization of Petroleum Exporting Countries is dominated by Gulf producers, notably Saudi Arabia. They have huge reserves to cushion the impact of low prices. They also hope that the slump will eventually shut down high-cost production, tightening the market again. They could curb production sharply
Other factors effecting the oil market are:.
- Demand is low because of weak economic activity, increased efficiency, and a growing switch away from oil to other fuels.
- Second, turmoil in Iraq and Libya—two big oil producers with nearly 4m barrels a day combined—has not affected their output. The market is more sanguine about geopolitical risk.
-Thirdly, America has become the world’s largest oil producer. Though it does not export crude oil, it now imports much less, creating a lot of spare supply.
- Finally, but the main benefits would go to countries they detest such as Iran and Russia. Saudi Arabia can tolerate lower oil prices quite easily.
The main effect of this is on the riskiest and most vulnerable bits of the oil industry. These include American frackers who have borrowed heavily on the expectation of continuing high prices. They also include Western oil companies with high-cost projects involving drilling in deep water or in the Arctic, or dealing with maturing and increasingly expensive fields such as the North Sea. But the greatest pain is in countries where the regimes are dependent on a high oil price to pay for costly foreign adventures and expensive social programmes. These include Russia (which is already hit by Western sanctions following its meddling in Ukraine) and Iran (which is paying to keep the Assad regime afloat in Syria). Optimists think economic pain may make these countries more amenable to international pressure. Pessimists fear that when cornered, they may lash out in desperation
Will low prices continue?
It looks like it. Some high-cost production is closing, but once wells are drilled, it usually makes sense to keep pumping, even at a loss. It is better to make a little money rather than none. And the shale revolution is marching on.
How low can the price go?
It is something that cannot be predicted, but much below $40 will sharply increase bankruptcies, and the pressure on OPEC to curb production. Cheap energy also leads to higher demand
Who benefits from low prices?
Winners necessarily outnumber losers (imagine a world in which energy was free). Consumers have more cash in their pockets; industry enjoys lower energy costs, makes bigger profits, and pays more taxes. And it is a great time for companies with strong balance-sheets to make acquisitions.
And who suffers?
The oil industry’s immediate reaction is to squeeze costs out of its supply chain. So wages and margins are falling fast. Highly indebted companies are going bust, with knock-on effects on investors. But lower costs help the industry adapt and increase efficiency.
For now OPEC’s wishes of pushing competition out of the market may seem to be coming true over the next year. But adversity will eventually make shale stronger. It will prompt a new round of innovation, from cutting drilling costs through standardization to new techniques that increase output. Dan Eberhart, the boss of Canary, a Denver-based oil-services firm, says the industry has already “pressed fast forward” on saving costs.
And if and when prices recover, new wells can be brought on stream in weeks, not years. America’s capital markets will roar back into life, forgiving all previous sins. “There is always a new set of investors,” says the boss of a one of the world’s biggest natural-resources
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