Even with the crude oil price bounce seen in the past few weeks, it seems that the long-term slump is far from over. After all, officials of oil-producing nations have been unable to see eye to eye, particularly when it comes to imposing a freeze on output levels.
The price of the commodity has tumbled sharply in late 2014, triggering a massive downturn in global inflation. This has also resulted to declines in investment and hiring among oil companies, hurting commodity-driven nations such as Canada and Australia. The drop carried on throughout most of 2015, bringing WTI crude oil below $30/barrel back then.
Price suffered another sharp drop early this year, with WTI crude oil dipping to new lows around $26/barrel, fueling speculations that another industry tumble might be in order.
Market factors such as supply and demand have both contributed to this drop in prices, as the rise in supply due to the increase in US oil drilling operations and the drop in demand due to the slowdown in China and other emerging nations have been blamed as the main culprits. While members of the Organization of Petroleum Exporting Countries (OPEC) usually agree on adjustments to stabilize prices, top producers have refrained from lowering production in order to drive out the competition from US oil firms.
It doesn’t help that Iran has recently returned to the oil export market, after the sanctions on its nuclear program have been lifted by the US and EU. Because of that, the country has been set on regaining its lost market share by ramping up production levels, contributing to the supply glut.
Iran has pledged to boost production by 4 million barrels per day, which is its highest level since 2008, before deciding to join other nations in a proposed output freeze. According to its oil minister Bijan Zanganeh, output already rose by 100,000 barrels per day to 3.2 million in March, which is its highest levels since May 2008.
This has caused some US oil rigs to shutdown or temporarily halt operations, leading to slightly lower stockpiles and lower rig counts in the past couple of months and providing an opportunity for a price bounce. In addition, speculations that oil-producing nations such as Russia and Venezuela would continue to lobby for production caps have also kept prices afloat. WTI crude oil was able to bounce back to the $40/barrel level in March.
However, the odds for an oil output freeze agreement are looking slim as leaders of energy ministries have been pretty stubborn when it comes to committing to any proposals. Most leaders have noted that they will only participate in a production freeze only if other oil-producers cooperate. Iran, on the other hand, has said that these ideas are unreasonable.
Leaders of OPEC and non-OPEC nations were set for a meeting last month but this was postponed, spurring concerns that the countries aren’t quite ready to reach an accord just yet. Rumor has it that another meeting is scheduled for April, although comments from energy officials suggest that a compromise might not be reached anytime soon.
Recently it was reported that Saudi Arabia is blocking vessels containing Iranian crude oil from entering its waters, limiting Iran’s ability to export oil. It has also imposed restrictions on ships that have docked in Iran’s ports, causing some storage to be left at sea or returned. Saudi Arabia’s deputy crown prince Mohammed bin Salman said that if any country raises its output, it will respond by raising sales.
WTI crude oil has revisited monthly lows below $36/barrel this week on fresh concerns. Meanwhile, Russia’s oil production has reached a high in March and Iran’s oil minister said that he will attend meetings only if he finds time.
Saudi Arabia has a lot on the line, as this suggests that its golden age of relying on oil may come to a close. Economists such as John Maudlin of Maudlin Economics project that the kingdom may run out of money by 2020 if prices don’t recover soon. Federal cuts in spending have already been made in relation to the price slump, affecting the majority of the population working in government.
Over in the US, stockpiles and oil rig counts have continued to tumble, suggesting that Saudi Arabia’s plan to drive the US competition out of the market might actually be bearing fruit. Nearly 50 oil companies in the country have filed for bankruptcy, as most have been unable to maintain profitable operations at current oil prices. For most analysts, the oil market will rebalance by next year at the earliest.
Analysts have also pointed out that the capital-intensive nature of oil production could wind up hurting the performance of loans tied to this industry. Several companies might default on their obligations to banks and lending companies, creating risks for the financial system. Still, the risk to the banking industry appear manageable at the moment, with the 2015 Shared National Credit review assessing that the share of energy-related loans is only 7.1% or $276.5 billion compared to the bulging $1.3 trillion in student loans.
At the moment, the new wave of losses is already weighing on commodity currencies and higher-yielding assets, particularly the shares of oil-related companies. Large declines have been seen in Asian markets and in Canada’s stock market, as traders fear another employment downturn before a recovery is even seen.
A lot hinges on the meetings between oil producing nations, as the refusal to budge would mean further declines for the commodity while willingness to compromise might lead to a boost.
On the upside, the drop in crude oil has led to lower energy and transportation costs, much to the benefit of consumers. This could yield larger disposable incomes, paving the way for a boost in consumer spending and eventually production and overall economic growth. In addition, a low inflation environment could lead central banks to adjust interest rates lower or dole out additional easing measures, creating conditions for cheaper credit and reviving investment activity.
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