Rise in oil prices: Inevitable

The Christendom’s observation of the Lenten season the past forty (40) days is over. Capped by a weeklong vacation or family reunions of urban dwellers in their provincial residences or preferred holiday destinations, it ended yesterday, Easter Sunday. It culminated with a rush back home amidst throngs of faithful and vacationers who tried to compete for every available public transport bed or seat just to get a night rest before plunging into the usual regular day routines.  

On the other hand, apart from the crowded beaches, those who preferred to remain in the metropolis enjoyed roads totally devoid of traffic jams and illegally parked vehicles. The scarcity, however, of public transport presented a little concern for the faithful who wished to pay homage to the Great One. 

While everyone was setting aside their normal hectic schedule and heaps of paper works, the one-week respite offered situations and facts that may be useful by our country’s economic planners. 

During the week, the White House (USA’s seat of power) announced that after a tumultuous six-month descent, the economy is finally showing some signs of leveling off. Though still in troubled levels, the US economy is depicting some favorable economic indicators. Notably, the Americans’ sense that the US economy is in a free-fall is slowly diminishing. Apparently, therefore, consumers’ confidence is slowly but surely coming back. Knowing fully well that consumer confidence and spending account for more than two-thirds of the US economy, then this bit of positive news is totally refreshing for the rest of the world.

Economic managers of the USA agree that they’ve gone through the most difficult part of the recession. They further agreed that, though there are signs of leveling off, the world’s biggest economy will not be growing in the second and third quarter of this year. More importantly, while they are one in predicting that their economy will start rebounding gradually starting in the fourth quarter of this year, they can’t reasonably predict how high it shall be.

While the favorable developments in a country where the rest of the world’s economy largely depend are very encouraging, these are not worth rejoicing at all. While it is true that exports to the USA may soon pick up, the downside could pose a problem to countries, like the Philippines, that are largely dependent on oil imports.

It can be recalled that last year, oil prices had a free-fall after its meteoric rise to an all-time high. After its meteoric rise to nearly US$150.00, oil went down to as low as US$37.00 per barrel. Its price decline is never difficult to comprehend. It is primarily due to a sizeable drop in the demand for oil in the USA. Undeniably, the world’s biggest consumer is the USA. They consume more than 20 million barrels a day or more than ¼ of the world’s output. Therefore, demand for oil is largely influenced by USA’s industrial and personal consumers’ behavior. 

Precariously, the USA was in dire economic crunch the past six months. In fact, then, all indicators point not just on recession but deflation as well. With its sheer size, its economic turmoil traverses all over the globe. Manufacturing and financial companies are closing down. Foreclosures of mortgages remained unabated. Consequently, economic activities like manufacturing have largely slowed down. As these manufacturing outfits used to consume sizable quantities of oil, its demand therefore has substantially dropped.

On the other hand, as 88% of the US workforce travels by car, a sizeable chunk of the country’s consumption is eaten by this sector. As more of them are losing jobs and are opting to use public transport instead, their oil purchases have considerably dropped as well. 

Obviously, therefore, when the US economy starts rebounding in the fourth quarter of this year, the demand for oil will certainly increase. Logically, oil prices will again shoot up. However, while looking at the fourth quarter, we should not be complacent these second and third quarters. The fact is, before reaching the fourth quarter, oil prices will still certainly move upwards. There are many reasons why.

First, oil producing countries have different preferential prices. As much as possible, they would like to impose their prices, in whatever means possible, to sustain their economies.Deutche Bank, for one, calculated late last year how high oil prices have to be for OPEC countries to maintain their budgets. Iran and Venezuela, two of the most vocal and seemingly arrogant countries who are often the first to call for production cuts, need the highest price per barrel of US$95. Russia needs about US$70, while Saudi Arabia, OPEC's largest producer and de facto ruler, needs about US$55 a barrel. But taking all these measures together, the bank says US$60 a barrel seems like a probable place for oil prices to level off. 

Secondly, we should factor in the oil drilling activities in the USA and the companies’ expected returns on investments and operating costs. For instance, six months ago, while the majority of the rest of the USA was in distress, the oil producing town of Bradford in Western Pennsylvania was booming. With prices now below their operating costs, this “boomtown's bustle is as quiet as the surrounding late-winter forest”.   The oil price collapse was simply unbearable and sent some producers packing. For these oil producers to sustain their operations, oil price should not go down below US$75 a barrel. They find no sense to maintain their wells with oil prices below this level. Consequently, the number of drill rigs in the USA fell almost 50% since October of last year. 

With these figures on hand and the ability of Saudi Arabia, Russia and the USA to impose their will, even before the expected rebound of the US economy in the last quarter of this year, oil prices will certainly move upwards. In understanding these numbers, we must prepare for the effects on our economy of oil prices to be hovering between US$55.00 and US$75.00 a barrel. 

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