The black gold, or to be precise, fluctuations of its prices, have had a
substantial impact of world’s economic history in recent decades. Surges in
crude oil prices plunged economies into recessions or exacerbated economic
downturns which were about to come to a pass, yet on the other hand helped the
resource-rich grow their fortunes. Oddly enough, the price of crude oil was
very volatile in its history, implying quotations of the commodity have been
prone to overreact to variations in fundamental factors driving oil prices.
Brent crude oil quotations over the last decade saw period of both stability and volatility. The rapid increase set off in 2007 and then price soared in the first half of 2008. The underlying of the 2008 rally still remains puzzling to me. In early- and mid-2008 the banking crisis began to unfold and monetary policy in most economist was already tight, in response to partly oil-driven inflation. Bear markets took over on almost all stock exchanges in the world, as equities already anticipated the imminent economic misery (but not its scale). The only asset classes to have stayed immune to the turmoil were emerging markets currencies (upshot of carry trade) and… commodities. The collapse of Lehman Brothers Bank in September 2008 spilt over to both financial markets and real economies and incited speculators to unwind their long positions in emerging market currencies and commodities. Both assets classes saw their valuations plummeting. As a consequence, Brent oil price fell from 148 USD per barrel in July 2008 to less than 40 USD in late December 2008. Over the next months, in the wake of unprecedented monetary easing, financial markets were flooded with hollow money and oil quotations rebounded. Since late 2010 until September 2014 Brent crude oil traded in a fairly stable range between 100 and 120 USD per barrel… The was no bubble in sight, so no bubble could burst.
In mid-September 2014 one still had to pay almost 100 USD per barrel,
but in the second half of the ninth month quotations started to decline. At
first drop in oil price was offset by appreciation of the US dollar. Since the
correlation between the two assets is highly negative, the first explanation
for drop in oil price was the strengthening of the American currency, buoyed up
by the relative out-performance of the US economy. Then the scale of the plunge
only got deeper. Currently, the 3-month rate of return reached –37%, justifying
even the use of word ‘crash’ to describe this downward price movement.
There are several theories and factors which are said to be have
contributed to the sell-off of the black gold. One could mention:
(1) increasing supply and inventories,
(2) lower dependence of the US economy on imported oil,
(3) discord between OPEC members, unwilling to cut extraction,
(4) a “conspiracy” aimed at enfeebling countries reliant on oil exports,
(5) unwinding speculative positions and taking opposite ones.
(2) lower dependence of the US economy on imported oil,
(3) discord between OPEC members, unwilling to cut extraction,
(4) a “conspiracy” aimed at enfeebling countries reliant on oil exports,
(5) unwinding speculative positions and taking opposite ones.
The last cause cannot be played down when analysing the recent
panic-driven continuous slide.
A sudden drop in oil prices is a classic example of positive supply
shock; an external factor which, holding everything else unchanged, should
boost the economy. Price of crude oil is a component of price of virtually any
other good, so a drop in Producer Price Inflation should result in drop in
Consumer Price Inflation and in current macro environment in intensified
deflation. Because producers will definitely try to seize some of the decline,
their profits should rise, increasing investment spending, consumption, but
remain neutral for government proceeds (higher corporate income tax inflows to
be offset by lower VAT inflows). Lower oil prices will also be passed on to
customers whose discretionary income will rise; they in turn will be able to
spend or save more.
A place where decrease in oil prices is most visible are petrol
stations. Back in mid-2012, one had to fork out almost 5.90 PLN for a litre of
unleaded-95 petrol. The price of the same petrol crossed the barrier of 5.00
PLN in the third decade of October (my benchmark is the local petrol station by
Auchan hypermarket) and descended to 4.39 PLN this weekend (down from 4.61 PLN
last Tuesday). The decline grew apace when USD/PLN quotations levelled off
between 3.30 and 3.40 and after the last week’s 8% plunge there is still room
for petrol prices to go down and nearing the 4.00 PLN barrier is conceivable,
albeit it would take a further sell-off in London, where Brent is traded.
Oil producers profit and loss accounts will suffer a one-off shot of downward
inventory revaluation (reported as cost of goods sold under IFRS), however
their long-term profitability should not be undermined, since it hinges upon
different factors (margins earned on refining and differentials between types
of oil, for Polish oil behemoths, PKN Orlen and Lotos, spread between Russian
Ural oil and Brent oil) and those parameters have been enormously favourable
for the oil industry in the recent weeks.
Disinflation or deflation spurred by fall in oil prices is an external
factor and as such should be cautiously taken into account by central banks in
their decisions on pursuit of monetary policy. Drop in oil price must not give
rise to monetary easing, since the very decline in oil prices already bolsters
economies and seeking excuse in prolonged deflation to further cut interest
rates is adding fuel to the fire rather than fostering economic growth.
Nevertheless, plunge in oil prices may prompt the Federal Reserve to put back
monetary tightening. For no apparent reason, stock markets’ reaction to oil
crash was underperformance (although only the oil and gas industry might be actually
aggrieved) and since unsurprisingly the US Central Bank has recently targeted
financial markets more than real economy, policy of near-zero interest rates
might be kept up in a horizon of more than a few months.
One of not implausible explanations for the oil price collapse is the
US-steered conspiracy to afflict Russia. It somehow takes my fancy, although I
will not dare to guess how much truth is in it. Economic sanctions imposed on
Russia, by nature ludicrous since they hit more the West, only uncover a
free-market failure. Had the sanctions not been in place, trade between Russia
and Western entrepreneurs would have thrived, heedless of Crimea invasion and
war in Eastern Ukraine. But when Russia suffers on account of balancing supply
and demand and free market mechanism lays bare Russian economy’s reliance on
resource exports, I judge matters fall into place. I personally favour more
sophisticated economic weapons than simple trade restrictions.
And having said all that, I confess plead I am not particularly
delighted to observe Russia being knocked down by low oil prices (the scale of
disaster is offset by unmatched depreciation of Russian Rouble). Russia faring
well was less perilous to the world than Russia economically kneeling. The less Mr Putin has to lose, the more unpredictable political bets he will be inclined
to make to shield his rule and underline supremacy of Russia in world politics
might be.
2 comments:
Using very little petrol (one trip a week to the shops and a motorbike that sips 2.3 litres to 100km), I'm not that fussed whether a litre of 95PB costs 3 zlotys or 6 zlotys.
But the impact of 3 x 63 (63 roubles to the dollar, 63 dollars per barrel of oil, and Mr Putin's 63rd year on earth) will have on Russia is intriguing. Conspiracy? Why of course, the powers-that-be are pulling in all sorts of favours with the Saudi, Iraqis and Nigerians to ensure that production is full-on... In terms of demand-side, OK, the eurozone and Japan are languishing, but elsewhere around the world, there are signs of life. I can't see a natural cause for such a dramatic price crash in such a short space of time...
The problem in Russia is that Putin has spent 15 years removing any potential opposition to his reign. When Russia implodes, there will be no one to pick up the pieces. Messy.
I'm more concerned since kilometrówka is fixed and I happen to drive more for business than private purposes - more left in the pocket and deducting cost of petrol and motorway tolls.
It's not just the infrequent use of car (you count in only your trips, leaving out your wife's) or motorbike that affect your household's spending. Whether the fuel costs 3 or 6 zlotys has a noticeable impact on inflation.
Three times sixty three scenario has just materialised. Inside, Russia is falling apart, but it is determined to keep a bold face. Russian people, fed by propaganda and seasoned in lasting out misery, will persevere another period of austerity.
But look at this. When in mid-September oil stood at 100 USD/bbl and Russian Rouble could buy 38 dollars, one barrel of oil was worth 3,800 Roubles. Today oil stands at 61 USD/bbl, USD/RUB appreciated (RUB as base currency) to 63, one barrel of oil is worth 3,843 Roubles. So in terms of oil only, the oil price crash was fully offset by domestic currency depreciation. Such indifference does not come into play when it comes to imported goods.
And even if there was opposition to take away power from Putin, how would it be capable of turning around the Russian economy? Lack of democracy is one of many problems of Russia...
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