Since late November oil prices have essentially been in freefall. From $147 US a barrel in June to just under $67 a barrel at the time of writing, a fall in price of that magnitude hasn’t been seen in over half a decade, since the oil crisis of December 2008 when prices briefly fell as low as $32 a barrel.  However back then prices rebounded relatively quickly, thus far this current drop although now steady, shows no real signs of reversing any time soon.

What caused the slump?

Quite simply it’s a case of oversupply, the Organisation of Petroleum Exporting Countries (OPEC) is committed to produce some 30 million barrels of oil a day but is overproducing by 600,000 barrels daily. A summit at OPEC headquarters was held in late November in an attempt to rectify this situation, but no agreement was reached, as a result prices continued to fall. The reasons for a lack of action are many, with the main call of resistance coming from OPEC’s largest member, Saudi Arabia, which is responsible for more than a third of the cartel’s daily production. In addition, new sources of oil are making their way to market, such as the emerging shale industry in the US, as well as the rapid development of the oil industries in Brazil and Nigeria.

OPEC HQ in Vienna

OPEC HQ in Vienna

Why no cut in production?

It was Saudi Arabia that resisted the call for a cut in production at the OPEC summit last month and while a cut in production would certainly raise the price of oil, it’s actually advantageous for certain exporters that the price remain low. Saudi Arabia in particular is being accused of using its clout in this regard as a political weapon. With large reserves and a diversified economy, along with several of the other more developed producers, it can ride out a period of low prices. The same cannot be said for Saudi Arabia’s main political rival, Iran, with its economy already ravaged by international sanctions, low oil prices promise little for Iran other than recession which suits Saudi Arabia just fine.  Equally, keeping prices low means that there is less investor interest in exploratory shares and emerging energy sources like shale, thus putting a squeeze on the United States’ shale development plans.

What else could this mean?

One good piece of news to come out of this is that consumers may soon be enjoying the lowest pump prices in years. But on a grander scale, if prices remain low, Iran isn’t the only country that’s going to feel the pinch. Venezuela is another OPEC nation that requires high prices to break even, has been in deep economic trouble for many years now and Russia is undoubtedly going to be stung by the sudden drop as well. While a non-OPEC member, it is an oil exporter and has relied on high energy prices to drive its economy. With the drop in price, Russia’s economic development ministry has had to revise its expectations for next year, predicting a 0.8 per cent contraction rather than the earlier hopes of 1.2 per cent growth for 2015. Ramifications will be felt further afield as well, Nigeria in particular had been enjoying the benefits high oil prices were bringing to its somewhat vulnerable economy. This seismic shift in the market will surely hamper development goals.

Lower prices at the pump are almost guaranteed.

Lower prices at the pump are almost guaranteed.

More worryingly though, signs of slowdown in the Chinese economy and a continuing lacklustre showing by the Eurozone economies, may in fact point to a drop in demand for oil which isn’t a great sign for the health of the global economy. But the long term consequences will take some time to become clear.

 

Insert image of OPEC HQ By DALIBRI (Own work) [CC-BY-SA-3.0], via Wikimedia Commons, all other images public domain.