According to Luay Al-Khatteeb, a visiting fellow for the Brookings Institution, despite the political instability in parts of the MENA region supply has managed to keep up with demand.
This is largely due to the emergence of shale oil in the US, which has ramped up production to 8.7 million bpd, 1 million bpd more than last year. Some commentators even suggest that US oil production may reach up to 12 million bpd by 2015. Meanwhile, Russia has also been putting record volumes of crude oil on the market.
Al-Khatteeb holds that the recent debate over falling oil prices has become an oversimplified economic question of supply and demand, ignoring other interrelated economic theories. Despite the global recession, oil demand has remained at 90 – 91 million bpd over the past five years. However, Western nations have slowly reduced their demand. Meanwhile, low growth, fuel efficiency, and demand in Asia has risen to compensate for this fall. The International Energy Agency (IEA) has reduced its growth forecast for 2015, suggesting that demand may grow modestly by 1 million bpd to nearly 93 million bpd.
A decrease in demand and an increase of supply has caused oil prices to fall over the past five years from an average of US$ 110 to US$ 85/bbl this year. The oil and gas media are full of pessimism about how these prices are unaffordable for the Middle Eastern nations, who will now rack up budget deficits if the current price level persists. Some media outlets have even placed the blame for the price fall on OPEC’s shoulders, citing the revival of production in Libya and Iraq for the current demise.
However, OPEC has consistently produced approximately 30 million bpd, reaching a peak in 2012 of approximately 31 million bpd, and it remains near that today. However, the largest increase in world supply was brought on by the US and its drive for self sufficiency. The US’ investment in shale oil has lead to an ever increasing supply coming onstream. This ultimately reduces the US’ need for high price imports, and leaves large quantities of West African oil looking for buyers, Al-Khatteeb highlights.
Under these conditions, the US may soon be exporting oil to the market, although many commentators remain skeptical that the US export ban will be lifted any time in the near future. Yet with or without the ban, the US is already exporting record amounts of refined products and incidental condensates from its shale oil, leaving great impacts on prices in the oil markets.
A case of double standards?
With Western media suggesting that OPEC should reduce production and avoid deficit financing, Al-Khatteeb suggests that there seems to be an issue of double standards arising. Should we also ask the US to abandon plans to export oil? Surely, the MENA countries could follow America’s lead and ask China to finance its deficit as well and allow market capitalism to run its full course. The competition theory in economics tells us that high costs and inefficient producers will be driven out of the market as prices fall. Doing so would eventually drive out the high cost and environmentally threatening deep water, arctic, tarsands and shale oil fields. In the long run, higher output at lower prices will finance and in time reduce the deficit of low cost oil producers. In addition to this, the true cost benefit analysis of these environmentally threatening, high cost shale oil fields might be recognized if we follow this path, Al-Khatteeb highlights.
Arguably, many economic commentators are failing to see the benefits of lower oil prices. Virtually all businesses will benefit from lower transportation costs by expanding their profit margins or passing the benefit to consumers at lower prices. The lower income groups, who spend a higher proportion of their income on transport, will see their disposable incomes rise, benefiting retailers who serve their needs and thereby increasing demand in the economy.
Food prices are also likely to fall, as food production, processing and sales distribution are energy intensive activities, thereby benefiting lower income groups further. Increased consumption will stimulate aggregate demand, creating investment opportunities and economic growth. Governments in the West may also have the opportunity to increase fuel taxes to cover the real cost of the negative externalities of carbon emissions, or raise revenue to improve public transportation systems. Furthermore, governments in the Middle East and Asia will reduce spending on their fuel subsidies and may take the opportunity to improve the workings of market forces, which the IMF and Western power have been seeking for them to do.
If we can enjoy a period of sustained low oil prices where consumer disposable incomes rise and increase world aggregate demand, we may witness recovery in Europe and rising growth rates again in Asia, Al-Khatteeb emphasises. This would fuel economic activity again at a time when a generation has been lost to unemployment, and maybe allow them to regain for a better future. In this case, oil prices will either recovery or rise in demand may equally bring about a rise in supply, ultimately increasing the revenues of oil producers.
For this reason, the US would benefit more in the long run from encouraging world economic growth, rather than trying to protect its high oil price by fair means or foul.
Adapted from a report by Emma McAleavey.
Read the article online at: https://www.hydrocarbonengineering.com/refining/30102014/a-question-of-economics-1536/