By Juan Cole
Brent Crude has fallen to $90 a barrel as China’s and Asia’s slowing economic growth has reduced oil demand and production remains high. All this despite the subtraction of Libyan and Syrian oil from the market and the big reduction, via sanctions, in Iran’s exports. Saudi Arabia and Kuwait are pumping more oil than they had been.
If oil goes lower and stays there for a while, what are the implications?
1. The impetus for Canadian tar sands production will be much reduced. It is expensive to produce and lower demand will being into question its rationale.
2 The Gulf oil states such as Kuwait and Saudi Arabia could face difficulties because their budgets and investments were assuming long term higher prices. Many projects could be idled and unemployment could rise, with negative implications for security.
3. Russia’s wealth and power could decline, with implications for Ukraine policy.
4. Iran’s cushion against sanctions will become thinner. It has had to reduce exports by a million barrels a day because of the US financial blockade, but high prices made up for some of the shortfall. The full force of the sanctions could start to bite. Will that make Tehran more cooperative and willing to negotiate? Or will it produce anger and violence?
5. US oil fracking could slow because of poor demand and difficulty recouping on the very expensive and water-consuming porcess.
Cheaper oil is typically good for non-oil producers, making it less expensive to transport goods to market in vehicles. The downside is that the slight movement to electric vehicles could slow. (That would be irrational, though. Combining an electric car with solar oanels allows you to have virtually no gasoline bill, which is much better than $3 a gallon – if that is what it goes down to. Plus you are avoiding carbon emissions that damage the earth.)
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Latest Brent price is about $88. For the moment, Saudi Arabia and Kuwait have announced plans not to lower production but instead to sell at lower price in order to compete for market share. Kuwait has announced $76-$77/bbl as bottom limit to price reductions; KSA said it could tolerate $80/bbl.
Note that Professor @dr_Davidson on his Twitter TL in past 10 days has argued that Saudia Arabia and GCC governments are keeping oil prices artificially low in order to undermine Russian economy (i.e., anti-Assad measure). Your blog may wish to examine this argument.
If I could, I would post an image with this. As it is, if you go to link to nasdaq.com
and select 10 years for the graphic of Brent Crude prices you will see that the decline is only a short term decline and more of a correction. What is apparent is that Brent Crude prices are highly volatile. This means it is a risky commodity and future cash flows an investment would earn would be discounted highly–all the time. In terms of pricing analysis, what I would suggest is to fit (regress) a line to the data. In that case, I would say current prices are very near long-term projected prices. The latter prices are those that policy makers and those in the business for the long-run will base long-term decisions upon. Note that your implications are long-terms. True, you qualify your judgments by assuming it “stays there for a while” but anyone could say anything they want about the future. So that assumption is not something we–the rest of us–reasonably should consider.
If I was day-trading Brent-Crude on Wall Street, as that last peak was forming, based on my long-term regression of prices, I would have been looking to sell short at a certain price point anticipating the next drop–I would be looking for enough of a bump to profit from a much smaller drop. At any rate, part of the precipitous decline is likely due to program trading putting in lots of sell orders for this reason driving prices down “precipitously.”
At any rate, will its nice to talk about “what-if” scenarios, there is nothing to support what you believe is implied in the numbers at this point.
I also do not believe that policy makers over the Ukraine are driven all that much by short-term projections. The name of the game is to acquire reserves as a long-term investment, recouping profits over many decades. Your “for awhile” would have to be more like “permanently” — and no one is going to be convinced by that in the market given pricing history.
In other words, I doubt present Brent Crude trading prices are causing anyone to flinch other than speculative day traders. Anyone else was expecting this in advance–it requires only the most basic knowledge to glean this from the data. Wall Street investors and policy planners have more sophisticated models of course but this so-called naive time series analysis will be a major component of them all.
You will of course find all kinds of hoopla about price movements in the media. This is because Wall Street makes more money off of volume than they do prices. They are what is called “skimmers’. They earn a small slice from everyone’s trades by serving as market makers–taking no net position. The more stuff trades–the higher the volume–the more they make. So the literature is full of spin (political science) and puffing (marketing), encouraging trading (when finance 101 is that no one can ever have knowledge of what a good or bad trade is in a free market)
So any movement is prices is going to attract a lot of media attention. Don’t take what you read in the news relative to investments all that seriously.
Individuals go along every day, blissfully unaware of all the many physiological functions that keep them moving and breathing and able to steal from their neighbors, diddle their pleasure centers and occasionally do a good deed. Most of that is called “homeostasis,” and we take it for granted that those feedback loops that manage chemical balances, nerve functions, respiration and circulation and all that just do their quiet thing. And when that complex meta-stable system gets disturbed, it’s called “disease.”
Too bad there’s no provision in our physiology to balance and moderate, or just shut down, the ability of a few of us to get really really rich and potent, with impunity and without consequences, at the expense of the vast majority of us and the house we all have to live in — where the few can go off into their private suites, where their environment is perfectly controlled, where they get the best possible health care and food and drink and toys. And where their particular predatory and parasitic dysfunctional (for the larger group, the species, or even “nations”) adaptations let them “succeed,” in the same way that disease organisms and cancers “succeed.”
Not too many good prognoses for most of us, out there in that “unpredictable financialized future,” where those “good” and “bad” trades get valued by those who have figured out how to force and enforce their “values”… Interesting that so many of those whose backs and endurance are facilitating that so aptly named “oil BOOM” seem to be aware that their tiny bit of day-labor “success” comes at a huge price — but that the need to feed trumps any negative-feedback behavior to shut the burning down: link to juancole.com
World’s financial system is supported by four bubbles. The biggest is the oil market. Usually world banking system together with governments do not allow a bubble to burst until they find a substitute bubble.
What are the other three?
Remember, Saudi Arabia, joined by Japan and later China, have been propping up the US $ by purchasing dollars with their export earnings for 40 years. Saudi Arabia uses its voting plurality in OPEC to maintain the US $ as the currency for all transactions. So we can’t be sure what falling oil prices & a slowing Chinese economy would do to the dollar – the Saudi-Reagan engineered ’86 crash preceded the ’87 Wall Street crash and the recessionary Bush I era.