“What goes up, must come down
Spinning wheel got to go round
Talkin’ ‘bout your troubles, it’s a cryin’ sin . . .”
Blood, Sweat & Tears
In November 2014 the Organization of the Petroleum Exporting Countries (Opec) decided not to cut production quotas to protect its market share. This resulted to the halving of oil prices to settle at $51 per barrel last year and the price is expected to average at $42 per barrel this year. Last month saw oil prices breaking the $30-per-barrel floor. So, what is causing this and what will this mean for
Basically, movements in price are driven by the play between supply and demand. It has been reported that there is excess supply. This excess supply may be traced to the interplay of three factors—the Opec’s decision to keep production quotas; the increasing production from fracking (an extraction technique in which rock is fractured by a hydraulically pressurized liquid made of water, sand and chemicals to extract natural gas and petroleum) in the United States; and the slower growth of the world economy, particularly China.
Some analysts suggest the political and economic conspiracy theories. This refers to the US and the Middle East out to get political gains from the fall of Islamic State in Iraq and Syria and Russia, both of which are heavily dependent on oil income, as the root cause of the unusual behavior of oil price. Some even speculate that the Middle East might take over Russia’s gas supply to Europe.
In its December 2015 forecast, the International Monetary Fund (IMF) expects average oil price to remain below $60 until 2021. However, an economist friend cautioned me that the IMF forecasts are accurate for only about one to two years in the light of the highly volatile commodity prices due to the unpredictability brought about by sudden disruptions in supply. Thus, oil price may stay low in the foreseeable future.
While there may be increasing sovereign risk to oil-producing countries (principally the Middle East countries like Saudi Arabia and Qatar), a number of them have large foreign reserves built from years when oil was $100 or more per barrel. The same economist friend told me that if stress tested, the reserves will last about a decade even if these countries do not cut their spending.
Low oil price leads to possible losses of companies engaged in oil-related products.
Banks with exposures to such companies are also at risk. Some high-cost oil fracking companies may have to temporarily stop operations or shut down, translating to financial challenges.
For the common Filipino, low oil price means lower inflation, including the recent reduction in public-transport fares and electricity prices (the country still has diesel, liquified natural gas and coal-engine turbines, with the latter two’s prices also fluctuating in the same direction as oil’s). But as with all good things, this comes at the price of increasing the incentive to buy cars and more frequent use of cars that leads to more traffic as road construction fails to keep up. This will add on to the pollution concerns.
So, oil price whether up or down, there are problems. As the song goes:
“You got no money and you got no home
Spinning wheel, all alone
Talkin’ ‘bout your troubles and you, you never learn
Ride a painted pony, let the spinning wheel turn.”
Dr. Conchita L. Manabat is the president of the Development Center for Finance and a Trustee of the Finex Research & Development Foundation. A past chairman of the International Association of Financial Executives Institutes (IAFEI), she now serves as the chairman of the Advisory Council of the said organization.
She is also a member of the Consultative Advisory Groups of the International Auditing & Assurance Standards Board and the International Ethics Standards Board for Accountants.
She can be reached at email@example.com.