The Tale of the Oil Price
Oil. We’re all familiar with the dark, greasy, and of course valuable substance found under the earth’s crust; it’s one of the things that makes the world turn, figuratively speaking of course. Worldwide, approximately 90 million barrels (1 barrel is 159 liters) of crude oil are produced every day, which without exaggerating too much, is a tremendous amount. Hence, the oil industry is huge. Really huge. However, oil is more than just petrol and energy companies refining ancient fossilized zooplankton and algae into consumer products in the form of the magic juice that makes your motorized vehicles work. Aside from fuels – whether that be gasoline, diesel, electricity, or even jet fuel – oil is also used in the production of asphalt, insulation materials, car dashboards, fuel tanks, bumper, plastic bottles , or even fishing rods or umbrellas. The message is clear. The oil industry is immense and any severe upsets could potentially have disastrous consequences.
Some of you may have noticed, some of you have not, but the price of oil has been a hot topic the past year, mainly because the market price for crude oil has drastically decreased. Where it once was even $110 a barrel in July of last year, it has since dropped to about $55 earlier this year. Although the value has stabilized around $60/barrel, this whole ordeal still had and will continue to have some significant consequences.
Firstly though, how did all of this happen? Part of the reason is simple economics; supply and demand. Like in any market, when demand exceeds supply, the market price goes up because sellers are able to charge more and still sell all their products. Inversely, when supply exceeds demand, the market price decreases because suppliers are willing to sell for lower, to ensure that their products are sold. In both scenarios the price increases/decreases to reach a new market equilibrium. Another significantly influential factor is market speculation. This basically works in the form of gambling, and severely impacts the volatility that oil has. Buyers and sellers bet on the future price of oil by buying or selling future barrels at a price that they feel will work in their favor. In reality this causes artificially high prices and creates potentially hurtful amounts of risk. Additionally, if for example sellers start noticing that the “betting prices” are rising, they can opt to store supply for later times when the price is higher, which then leads back to the supply and demand side.
Looking at the global market, there is a large number of oil producing countries, but only a handful can be considered ‘players’, meaning countries with a production value large enough to be of global significance. So, looking at the supply and demand side of the global market, it becomes evident that the excess global supply is a large part of the problem. This has various causes all combining in a large ball of industry misfortune. The current state of the economy, with reduced consumer demand in Europe and China, the fact that Iraq and Syria have managed to get their oil production back on track, despite their current geopolitical climate, and the fact that the United States situations has increased their own domestic oil production, reducing their imports, are all significant elements in the recipe for downturn.
This might be an appropriate time to mention the Organization of the Petroleum Exporting Countries commonly known as OPEC. OPEC, in essence, is a legal cartel comprising of 12 member countries that meets to set the oil production targets, and hence having a major influence on the price. In the past, Saudi Arabia – as a key member of the OPEC organization – for example, would decrease their own production to allow for the price to rise again, but this time they have decided against it, because they are afraid of losing their market share. This angers other oil dependent countries like Venezuela, Russia, and Iran, because a low oil price makes it extremely expensive for countries like those mentioned above to function properly. This also births several conspiracy theories; supposedly Saudi Arabia and the United States are purposely keeping down the price of oil to put additional pressure on Russia for example, which is already enduring economic sanctions, in the hope to reduce its global power and ability to pose a threat to neighboring countries. The latter of which we have already seen with the Crimea situation in Ukraine.
The lower oil price also poses another problem; many investment projects are now unprofitable. It costs Saudi Arabia about US$5-6 to produce a barrel of crude oil, which is a big difference with the costs tied to fracking for oil. The oil produced in the U.S.A. and Canada for example, is a lot more expensive to extract due to the complicated process, and therefore less profitable. Many companies have started backing away from expensive projects to minimize their losses on them, but that does have a negative effect on local employment in those areas. Additionally, the bankruptcy of smaller but largely indebted oil companies will have some negative repercussions on the banks who provided the loans when the oil price was still booming,
The problems do not end there as many other industries are significantly dependent on oil. Along with the oil industry, the chemical industry has also suffered a great deal from the oil price downturn. The magnitude of the downfall, along with the speed at which it all happened, left many chemical companies flabbergasted, so to speak. They were unprepared, and the definitely suffered; mainly on the stock market. For many firms the share prices dropped by upwards of 20%. Despite that, for the European competitors, there is some good news. In the long-term, a low oil price combined with the weak euro help the European chemical companies to compete in the International markets.
Opinions among experts regarding the future of the oil price and the industry as a whole are quite divided. Some believe that it will take a long time before the price will reach even close to where it was last June and foresee further instability and maybe even a full collapse of the market, whereas others are optimistic and believe that slowly but surely the market value will rise to $90-100 a barrel. Either way, one thing is for sure; this whole ordeal was and still is a learning experience, and hopefully also an eye-opener to be more careful with such a volatile and risky industry. At least there is a positive thing to take home from all of this; refueling your car is now cheaper, so that’s something less to complain about.
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