7/23/2015

DecodingtheoilpricefallTheHindu

Decodingtheoilpricefall
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RAGHUVIRSRINIVASAN
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PumpjacksdrillforoilintheMontereyShale,California.Filephoto.

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Reuters

Year2015willbecrucialasshaleoilfirmsbegintofeelthepinchof
lowprices

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economy,business
andfinance
economy(general)
energyand
resource
oilandgasupstream
activities

Arefallingoilpricesgoodorbadfortheglobaleconomy?Andhowdotheywork
forIndia?Tillrecentlythesequestionswerenobrainers.Cheaperoilisobviously
goodfortheglobaleconomyforanenergyintensiveeconomysuchasIndias,
whichalsodependsonimportedoilformeetingfourfifthsofitsneeds,afallin
oilpriceislikemannafromheaven.
Yet,thebiggestfallinthestockmarketinfiveandahalfyearslastweekwas
triggeredbycrudeoilpiercingthe$50abarrelmarkonitsunrelentingdownward
journey.Isntthatironic?

ThebenchmarkS&PBSESensexfellby3percentor855pointsinjustasingletradingsessionon
January6.TobesuretherewereothercausestoosuchasfearsoverGreeceexitingtheeurozoneand
slowdowninChina.Butyet,thefactisthatglobalstockmarketshavebeennervousinthelastone
monthoverslidingoilpricesandinvestors,intheirdesperationtofindreasonsfortheslide,have
somehowarrivedattheconclusionthatthisisindicativeaglobaleconomicslowdownorworse,even
recession.
Nothingcanbefartherfromthetruththough.Yes,thereareissueswiththeChineseeconomywhichis
seeingaslowdowninmanufacturinggrowth(mindyou,thisisnotthesameasarecession)andtheeuro
zonestroublescontinuewithGreeceheadedforsnappollsamidstfearofarunonitsbanks.Butthe
positiveimpactoffallingoilpricesoutweighstheseworries,atleastatthispointintime.
ArecentIMFstudysaysthatevery$10fallinoilpriceadds0.2percentagepointstoglobalGDPgrowth.
Andthatshouldmeanaboostofaover1.2percentagepointstoglobalGDPgrowthgiventhatoilhas
droppedfromaround$115abarrelsixmonthsagotolessthan$50abarrelnow.Sowhereisthebasis
forfearofaglobalslowdownorarecession?
Anatomyofthefall
Itissimplistictoassumethatoilpricesareslidingonlybecauseoffallingdemand.Therealityisthatthe
plungeisduetoacomplexinterplayofseveralfactors,including,ofcourse,lowerdemand.
Theinability,orunwillingnessrather,oftheOrganisationofPetroleumExportingCountries(OPEC),
whichaccountsforabout40percentofglobaloiloutput,tocutproductiontomatchthedemandisa
majorfactor.
OPECmembersarecaughtinadifficultspotascuttingdownproductionwillmeanlossofrevenue.They
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arealsoconsciousaboutholdingontotheirmarketsharescuttingoutputwillmeanalossofmarket
share,especiallyiftheU.S.shalegasproducerscontinuetopumpaway.Yet,everybarrelthattheyare
unabletocutisaddingtomarketsurplusanddepressingtheprice.
SaudiArabia,whichdominatesthecartelwiththehighestshare,appearsdeterminedtostayinaraceto
thebottomalongwithU.S.shaleoilproducers.
Thekingdomisgamblingthatshaleoilwillbecomeeconomicallyunviabletoproduceifitalreadyhas
notaspricesheadbelowthe$50abarrelmark.Firstsignsofthatgamblepayingoffarejust
beginningtoappearonthehorizon.Drillingactivityforshaleoilisbeginningtoslowdownasproducers
begintofeelthepinchofunremunerativeprices.Americasoiloutputmaynowbeatathreedecade
highbut2015willbeacrucialyearasshaleoilproducersbegintocutdownonoutput.
Demandsupplyequations
Ifbasicdemandsupplyequationsareonefactorforslidingoilprices,theotherisfinancialmarket
equations.Theoilmarketwasfundedinamajorwayinthelastfewyearsbycheapdollarsflowingoutof
theFederalReservesquantitativeeasingprogramme.Withinterestratesatnearzero,surplusfunds
flowedintothecommoditymarkets,notablycrudeoil,drivingtheirpricesupwards.
WiththeFedwindingupitsstimulusprogrammeandaninterestratehikeintheU.S.possiblyjust
roundthecorner,fundsarenowflowingoutofcommodities,drivingtheirpricesdown.Itisnota
coincidencethatoilpricesstartedfallingataroundthesametimethattheFedfirstindicatedthe
possibilityofaratehikeinthenearterm.
Oilpricesarelikelytostaysoftforatleasttherestofthisyearthoughperiodicminorspikescannotbe
ruledout.Thisis,assaidatthebeginningofthispiece,goodnewsfortheworldeconomyandalso
Indias.Cheaperfuelpriceswillputmoremoneyinthehandsofconsumerswhichwill,inturn,beeither
investedorspentelsewhere.
AccordingtoMoodyschiefeconomist,MarkZandi,quotedinarecentBloombergreport,ifoilstayedat
$60abarrel,Americanconsumerswouldsaveawhopping$150billionontheirfuelbillswhich,
accordingtohim,willbespentelsewheredrivingeconomicgrowth.Thiswouldholdtrueforother
countriesaswell,includingIndia.
Ofcourse,weareassumingherethatgovernmentsacrosstheworldpassonthebenefittoconsumers
andnotappropriateitastaxes.SofarasIndiagoes,alotdependsonhowwellthegovernmentexploits
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thelowoilpricescenario.Forone,itshouldusethechancetocleanupitssubsidyactonceandforall,
mainlyincookinggasandfertilizers.Itshouldpushfortransparencyinpricingoffuelbytheoil
companies,somethingthatisnowabsent.
ThegovernmentshouldalsoensuremarketpricesfortheoilproducingPSUsONGCandOILso
thattheycaninvestinexplorationandproduction.
Itshouldresistthetemptationtoraisetaxesexcisedutyhasgoneupthriceinthelasttwomonths
deprivingconsumersofthebenefitoflowerprices.Tothecontrary,thegovernmentshouldpassonthe
benefittoconsumerswhocantheneitherspendthesurpluselsewhereorsave.
Costsacrosstheeconomywouldalsodropactingasastimulusbyitselfifthegovernmentcutsfuel
prices.Thebenefitsfromalargermacroeconomicperspectiveinthelongtermwouldbebiggerthan
theresourcesraisedfromfreshtaxesintheshortterm.Wemissedtheopportunitytodoallthisthelast
timewhenoilpriceswereatsimilarlevels.Wecannotaffordtomissitagain.
raghuvir.s@thehindu.co.in
Keywords:oilprice,shaleoil,crudeoil,OPEC,PetroleumExports

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