By Ante Batovic for Global Risk Insights
The 50 percent fall in oil prices continues to rattle energy markets and shape global economic trends. In the past week, the markets experienced another drop after prices temporarily recovered, standing at the moment at $50 and $60 per barrel of WTI and Brent crude respectively.
With such strong volatility it is difficult to predict in which direction oil prices will move, and how long the period of low prices will last. However, there are growing signs that it might last longer than expected, due to low demand and increased production, which makes a perfect oil glut scenario.
For this reason, the OPEC tactics of oversupplying the markets with cheap oil, which is primarily aimed at US oil producers, will without a doubt harm the US oil sector and other non-OPEC producers, but it will also prove to be costly and potentially more time-consuming than initially expected.
Despite the steep drop in the number of US oil rigs in the past several months, and the slowdown in production rates, according to the Energy Information Administration (EIA) both the US oil inventories and production are at a record high.
The US production in January averaged 9.2 million barrels per day, compared to 8.6 mb/d in 2014. The EIA estimates an average 9.5 mb/d production in 2016, which is close to the historically highest US production levels of 9.6 mb/d in 1970.
The direct impact is a drop in crude imports from 60% of the US liquid fuels domestic consumption in 2005 to 27% in 2014, and estimated 20% in 2016. At the same time, the stockpiles of crude have reached an 80-year high with critical levels of around 425 million barrels.
According to some estimates, the full-storage ceiling hovers around 450-460 million barrels. On a global level, around 80-85% of storage facilities are already full, and oil stocks are expected to rise by another 300 million barrels in the first six month of 2015.
Simultaneously, non-OECD production will rise in 2015, primarily due to increased output from Russia and Iraq, according to the OPEC’s February report. This will add additional barrels to already saturated markets and with global production expected to exceed demand both in 2015 and 2016, oil prices could remain at current levels of around $50-60, or even drop further.
The energy consultancy Wood Mackenzie estimates that prices must fall to $40 or below per barrel of Brent crude for significant reduction in global oil supply to occur.
The key lies on the global demand side, and at the moment there are no definite signs that consumption might pick up in 2015. According to the Chinese National Petroleum Corporation (CNPC), Chinese oil consumption will grow by 3% in 2015, to 10.68 mb/d. However, this is still lower than previously expected, and it only highlights the continued weakness in the Chinese economy.
This scenario will be equally damaging for both OPEC producers and oil industries in non-OPEC countries. However, while the OECD economies and oil importers will overall benefit from low oil prices, a long list of oil exporters will have difficulties adjusting their budgets to new market realities.
The current depression in oil prices not only reveals the flaws in OPEC’s logic of preserving market share at the cost of price stability, but more importantly it signifies the loss of the cartel’s central role as the global energy anchor, and the largest structural shift in the geopolitics of oil since the early 1970s.