Oil Speculation: Always Tricky
Some weeks ago this column wondered aloud whether conditions in the oil market were a bit too quiet, considering the turmoil in commodities across the board, which had veered heavily to the downside.
In the intervening period oil prices have leant the other way, prodding the upside upon declining Opec production in June and regional tensions in the Middle East, but not really straying very far from an established channel in the low $100s.
The pick-up in WTI has reflected the rebalancing of physical distribution in the US, while the Brent and Dubai series have firmed upon the US Federal Reserve’s reconsideration of imminent monetary tapering.
That hasn’t stopped analysts contemplating a world in which economic conditions are somewhat softer than the relatively soft state they have already been in recent times, with lower oil prices resulting.
Research firm Capital Economics has even posited Brent prices down to $85 on a fairly straight-line basis out to 2015, with uncomfortable knock-on effects implied for the Gulf economies and their budget sustainability. If that’s not falling off a cliff, it’s still oil prices and prospective earnings sinking into the sand.
That forecast is “significantly below consensus, partly due to our outlook for a weaker global recovery, and greater prospects for supply, even on the conventional side, such as from Iraq, Iran and Venezuela,” Tom Pugh, commodities economist at Capital Economics told me last week. “We’re very much committed to a structural decline in the oil price, including as to the [relevance of] alternative sources, like shale.”
It means, though, that the prediction statistically is not among the central mainstream, and presumably denotes an inability on the part of Opec to apply corrective force.
So much does depend, of course, on where the global economy is heading, given tentative recovery in the US and unmistakable slowdown in China, where incidentally the authorities nevertheless show encouraging signs of restructuring policy in favour of stimulating the private sector, thus the economic supply side, and tempering the demand-side stimulus that has generally inflated growth figures to date.
That type of shift, potentially complemented in the Far East by the reformist side of Abenomics, might actually provide useful fillip to the world economy and oil requirements for the medium term.
In the West, by contrast, governments and central banks seem still to be in thrall to rekindling credit and debt-based expansion, arguably confusing volume with value as the root of economic growth, and heeding short-term over the longer-term need.
We can only guess whether the world economy is going to find itself on a sounder footing and moving nicely along.
Oil prices themselves function naturally as a thermostat, partly regulating that process. Market interest rates have the same characteristic, as the yield curve reacts up and down if conditions respectively strengthen or weaken, so moderating the outcome.
Nobody with an eye to business could have missed how the Fed’s communication malfunction — over the proposed diminution of quantitative easing if real conditions improve further – jolted bond investors, sending yields higher.
Gulf officials doubtless find the current range of oil prices very palatable, neither too cold nor too hot in terms of likely revenue generation.
As per the Goldilocks analogy, Opec’s public pronouncements in recent months have suggested it is overtly sanguine about the possibility of successive market bears turning up to put a dampener on proceedings. Their last summit in Vienna was ostentatiously dotted with bullish remarks.
Indeed the organization’s latest monthly oil market report, for July, was fairly hopeful about the outlook, to be supported, though uncertainly, by the expectation of continued recovery in global growth.
Regional policy-makers will remain very conscious, however, of the growing, medium-term challenge of balancing the call on energy domestically and the call by others (as preferred, in terms of procuring foreign exchange receipts) on their exported production.
A study published this January by Cambridge University’s Electricity Policy Research Group explained how the choice for governments “is one of short-term political stability versus longer-term economic sustainability”. Reportedly, officials in the Gulf basically accept that analysis and are working on how to alleviate the issue.
Unfortunately, though, the global financial crisis and its aftermath are no fairy tale, no simple cyclical intermission, and the chances of a happy ending are possibly limited. Both the US’s and Asia’s outlooks are unreliable, aside of a certain innate resilience, making rebound a matter of time, while Europe’s woes are plain frightening, except as a derivative of the fortunes of the other blocs.
The Gulf, therefore, cannot count so much on demand carrying on in the same way. As in the pending resurrection of the Western economies, the realisation of wealth creation will be a supply story; about how scarce resources are managed. That’s a qualitative matter, not a function of a quantitative model, and happens also to be a definition of economics.