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Plummeting oil price is not all good news

WHILE it is temptingly easy to assume that the recent plunge in oil prices means only good news for motorists and the economy, analysts warn the drop also presents a catch-22 for the economy and man on the street alike.

Oil prices have recorded a steady decline this year, tumbling from about $115 a barrel at the height of the geopolitical tension between Russia and Ukraine, as well as the turmoil in Iraq, to about $82 a barrel this month, as world attention turned to oversupply.

The Organisation of Petroleum Exporting Countries (Opec) last week said this equates to a 28% slump in the price of oil between June and this month.

"In a nutshell, the US keeps producing more and more oil, and some conflict-ridden countries are starting to pick up production. Libya, for one, is boosting its oil output after civil war had shut things down for a spell. All that new crude is flooding the market, causing global prices to dip," says Vox energy analyst Brad Plumer.

Investec chief economist Annabel Bishop says local fuel prices could fall even more if the commodity continues its decline. "But the price of petrol depends both on the rand exchange rate and the international oil price.

"A slump in the oil price would only equate to a dip in the petrol price if the rand price of oil falls, that is, if the rand does not lose value to the point of cancelling out any dip in the oil price. Lower rand oil prices are definitely a positive for the consumer."

Standard Bank chief economist Goolam Ballim says there were both positive and negative consequences to the drop in prices.

"On the one hand, a lower oil price translates into lower inflationary pressures. Indeed, a sustained $10 drop in the oil price can shave about half a percentage point off inflation, in the absence of any other shifts like changes in monetary policy.

"However, one is also mindful that falling oil prices signal, in part, weak global aggregate demand. This implies that SA faces weak export markets."

The headline consumer price index (CPI) for September came in at 5.9% year on year. An important component of CPI is the transport index which fell 1.5% between August and September‚ mainly due to a 67c/l fall in the price of petrol. The central energy fund has calculated that at the present exchange rate and oil price, the price of petrol could fall by as much as 68c at the end of this month.

Economists at Barclays and JPMorgan Chase estimate that in the US, the drop in the fuel price due to the lower oil price will free up as much as $60bn in the next year, that consumers can spend on other goods and services.

In the short term, the Chinese economic slowdown and stagnant European economy will limit the potential for growth in oil demand. These factors could make it harder for global oil prices to rebound to their previous levels.

"Another dimension relates to Africa; weak oil prices will undermine oil-dependent economies like Angola and Nigeria and this, in turn, could weigh on SA given increased intra-continental trade in recent years. Nigeria and Angola may even suffer sovereign credit downgrades because of the risk the low oil price presents to their fiscal health," says Mr Ballim.

Nigeria requires a higher oil price to cover its budget and current account deficit. SA’s trade with Africa has flourished in recent years and is now close to 20% of the country’s global trade.

In the World Bank’s most recent Commodity Markets Outlook last month it says prices are expected to average $102 a barrel this year reflecting "the easing of geopolitical tension, ample supplies, moderating demand, and the strengthening of the US dollar on the macro side". It says oil prices may ease to $96 a barrel next year.

Reuters reported on Wednesday that with oil prices down 30% since June, delegates in Opec are starting to suggest they may push for an informal output cut of about 500,000 barrels a day when they meet in Vienna on November 27.

But they have warned an agreement within Opec will not be easy, and many oil traders and analysts doubt members will take a decisive stance as members compete to hold onto market share.

Saudi Arabia says its oil production was little changed last month, even as the group forecast demand for its oil next year will drop to 29.2-million barrels per day — almost 1-million less than it is presently producing.

Business Day
Published on:
November 13, 2014
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