Factors Affecting Oil Prices in the Global Market

Oil and its prices are very significant for the growth of economies. The demand of the fossil fuel is extremely high across the world and due to limited reserves, the price of crude oil is quite high and it determines the economic growth of the nations, especially those having control on the oil supply in the global market (Sodeyfi and Katircioglu 2016). Almost all the industries are dependent on crude oil, transportation being the prime one. The oil price is determined by the demand and supply of the resource and since, various political and economic factors are associated with the oil supply, the price of oil fluctuates quite frequently. This has severe consequences for the economies. According to a report by Dempsey (2019), the Brent crude price increased by more than 4% giving a boost to the equities, which was facing a downturn due to uncertainties in the global economy resulting from the slowdown in China and slowing down manufacturing industries in the USA and Europe. The paper will present an analytical essay on the oil price, its trends in the past years, and the factors affecting the oil price in the global economy. The essay will also focus on the growing investment in renewable energies and its impact on the economies.

Crude oil is the most traded commodity in the global market. It is such a powerful resource that it can influence the growth of the economies positively or negatively. Oil is also a significant determinant of economic and political power of the nations in the framework of international economy. Oil price also influences the investment decisions and declining oil price often result in financial imbalances (Jain and Biswal 2016).

Global demand and supply determine the crude oil prices. One of the major influencing factors of oil price is the global economic growth. When the economies grow, demand for oil increases from various industries, transport being the primary one, followed by energy or power sector, food sector, manufacturing etc. (Baumeister and Kilian 2016). Demand and supply of oil determine the market price of oil and hence, if the supply side faces economic uncertainties or turbulence in the economy or society, the demand as well as price of oil goes up, creating pressure for the oil importing countries and benefits for the exporting nations. On the other hand, when the supply is more and certain, the prices drop. On the other hand, since November, the fears of oversupply of oil and the retrenchment in the global economic growth started to kick in and this resulted in a very sharp fall in the oil prices, dipping to the lowest.

Impact of Growing Investment in Renewable Energies on Oil Prices

Thus, from the trend analysis of oil prices, it can be inferred that similar to any other normal good, excess demand for oil pushes its price up, while excess supply pushes the price down. The rise and fall in the oil prices due to excess demand and excess supply in the market are depicted in the figures below. 

Figure 2: Excess demand for oil and effect on its prices

 

Figure 3: Excess supply of oil and effect on its prices

At the same time, low oil price would make the renewable energy sources less competitive in the market and would hamper the investments in those. Thus, speculation for future lower prices and shortage of supply had resulted in steadily rising oil prices till October 2018. Oil price is a significant factor that affects the investments in the renewable energy sources. At the same time, increasing investment on the renewable sources possess a threat for the oil industry. The fossil fuel and the renewable energies are close substitutes for each other, and hence, the demand and price of one product can be influenced significantly due to changes in the demand or price (Caldara, Cavallo and Iacoviello 2019).

Due to raising awareness on the sustainability of the planet, the production and usage of renewable energies are encouraged by the economies. Hence, its demand is increasing. However, as the level of production of renewable energies is still lower than the oil supply, excess demand prevails in the market and the price is much higher than the traditional energies. The level of investment from large corporate houses and individual investors has been growing significantly in the recent years. Thus, by providing money they are promoting infrastructure for higher production and greater supply of renewable energy (Bloch, Rafiq and Salim 2015).

Hence, when the supply of renewable energies would increase in the market, its price would fall due to excess supply and its demand would increase. This would affect the demand and price of crude and Brent oil. On the other hand, lower price of oil would lead to increased demand for it as per the law of demand (Davies 2019). However, despite lower prices of oil, the renewable energy market will continue to grow in the future due to emergence of advanced technologies as that would lower the cost of per unit production of renewable energy and supply it at a lower cost (EnergyWatch 2019). Thus, increasing investment in renewable energy is a challenge for the oil and gas industry.

Trends in Oil Prices in the Past Year

The Organization of the Petroleum Exporting Countries (OPEC) is the controlling organization of oil supply in the global market by deciding the production level of its member countries. OPEC contains some of the major oil suppliers of the world. The OPEC members control around 72% of the total oil reserves of the world by 2018 and they provided 41% of the total crude oil supplies (Eia.gov 2019). The oil production and supply from the member countries are controlled by OPEC by setting target, quotas, which helps in deciding the market price for oil (Griffin and Teece 2016).

The trend in the oil prices in 2018 is shown in the graph below. There are significant fluctuations in the oil prices over 2018. While it increased steadily and reached highest in October 2018 at $76.41 per barrel, there is an immediate sharp fall in the oil prices in November and December of 2018, reaching the year low to $42.53 per barrel (Eia.gov 2019). The average nominal price in 2018 was $58.15 per barrel and average inflation adjusted price was $57.77 per barrel (Inflationdata.com 2019).

 

Figure 1: Oil price trend in 2018

(Source: Tradingeconomics.com 2019)

According to Rapier (2018), the oil prices increased for most of the year in 2018 due to factors like threats of sanctions on Iran, consistently increasing global demand for oil, declining economic situation in Venezuela, and one of the most significant is ‘The Trump Effect’. US President Donald Trump has been advocating for keeping oil prices low even if US becomes one of the largest producer of oil. However, according to the experts, low oil price would be a major threat for the US economy as that would reduce the incentive for more production and would reduce the net exports and surplus (Mohaddes and Pesaran 2017).

OPEC leaders decided to increase oil production by around 1mn bl/d, in spite of Iran’s opposition. As a result, the supply of oil increased from Saudi Arabia and its OPEC allies, which compensated the lower production from Venezuela, Libya and Iran (Manasseh et al. 2018). Apart from that, the US-China trade war resulted in the halting of the US oil imports to China, which was a major blow for the US oil producers. The inventories of Brent and crude oil increased in the US which further pushed down the prices.

References

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Bloch, H., Rafiq, S. and Salim, R., 2015. Economic growth with coal, oil and renewable energy consumption in China: Prospects for fuel substitution. Economic Modelling, 44, pp.104-115.

Caldara, D., Cavallo, M. and Iacoviello, M., 2019. Oil price elasticities and oil price fluctuations. Journal of Monetary Economics, 103, pp.1-20.

Davies, R.E., 2019. Laws of Demand and Supply.

Dempsey, R., 2019. Oil prices jump 4 per cent on strong economic data | Financial Times. [online] Ft.com. Available at: https://www.ft.com/content/02cbfa04-cf32-11e9-b018-ca4456540ea6 [Accessed 25 Oct. 2019].

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Griffin, J.M. and Teece, D.J., 2016. OPEC behaviour and world oil prices. Routledge.

Inflationdata.com, 2019. Historical Crude Oil Prices (Table). [online] https://inflationdata.com/articles/inflation-adjusted-prices/historical-crude-oil-prices-table/. Available at: https://inflationdata.com/articles/inflation-adjusted-prices/historical-crude-oil-prices-table/ [Accessed 25 Oct. 2019].

Jain, A. and Biswal, P.C., 2016. Dynamic linkages among oil price, gold price, exchange rate, and stock market in India. Resources Policy, 49, pp.179-185.

Macrotrends.net, 2019. WTI Crude Oil Prices – 10 Year Daily Chart. [online] Macrotrends.net. Available at: https://www.macrotrends.net/2516/wti-crude-oil-prices-10-year-daily-chart [Accessed 25 Oct. 2019].

Manasseh, C.O., Abada, F.C., Ogbuabor, J.E., Okoro, O.E., Egele, A.E. and Ozuzu, K.C., 2018. Oil price fluctuation, oil revenue and well-being in Nigeria. International Journal of Energy Economics and Policy, 9(1), pp.346-355.

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