At this point, we are accustomed to hearing the same news: a disruption of global supplies by members of OPEC due to political turmoil in the Middle East, leading to an increase in the already soaring prices of oil.
Since August of this year, however, the story has changed. Instead of the unrest in Iran causing price spikes, the prices have fallen by more than 25 percent. Gas prices in America have fallen to less than $3 a gallon at the pump, bringing much-needed relief to motorists and automobile owners.
Global oil prices have fallen about 8% in the past four weeks. The price of Brent crude oil has fallen from $115 per barrel in mid-July to under $85 in mid-October. The European oil benchmark closed Thursday at $90.05 per barrel, its lowest point in 29 months. The price of a barrel in the U.S. closed at $85.77, it’s lowest since December 2012.
This drop is not unexpected though. The demand for oil has been constantly decreasing for various reasons: Europe’s stagnant economy, sluggish growth in China, and flat consumption of gasoline in the U.S. According to the International Energy Agency, the global oil demand will grow a mere 1.5 percent in 2015. On the other hand, the overproduction of oil in U.S, thanks to the improved techniques for fracking and the discovery of new reserves, has led to a supply shock. Oil production in states like Oklahoma, Texas and North Dakota has doubled in just six years and has increased U.S’s total production by 1m-2m barrels per day. Once again, America has become a major player in the oil market.
These dwindling values will produce winners and losers. Any country that consumes more than it produces will benefit from the declining import costs. For America, this means around $200 billion annual savings, reducing the export of capital to Saudi Arabia, Kuwait and other foreign nations, which can be used to stimulate the economy. China, the world’s second-largest importer of oil, is likely to save $2.1 billion, which it can use to provide more subsidies for phasing out coal to decrease pollution.
It has been speculated that the American government has formed a coalition with Saudi Arabia against Russia and Iran, as both countries’ economies are dependent on oil revenues, 50 and 60 percent respectively. The logic is that the lowering prices would force Iran’s mullahs to abandon their nuclear power program and rein in Putin’s ambitions for eastern european expansion. There is some precedent for such joint action. The collapse in oil prices in 1985 is though by some to have been orchestrated by the US in coalition with Saudi Arabia. That reduction in price then led to the collapse of the U.S.S.R 8 years later, as it couldn’t sustain its economy due to the lost export revenues.
However, the critics might be too expectant, since Saudi Arabia’s economy is 92 percent dependent on oil revenues and they wouldn’t want to incur losses by dropping the prices. Instead, to keep the prices stable they have decreased their production from 10 million barrels a day in September 2013 to 9.6 million as of September 30th 2014. This hasn’t been overly effective, as increased production from not only America but other OPEC countries like Libya, Angola, and Iran have pushed the total OPEC’s production up by 352,000 barrels a day since last year. Additionally, with America becoming a leading producer, OPEC’s cartel will no longer enjoy the immense powers to regulate global prices that have in the past curbed and even crippled America’s economic growth.
A report by Andrew Kennigham, a senior global economist at Capital Economics, predicts “A $10 fall in the price of oil transfers the equivalent of 0.5 percent of world GDP from oil producers to oil consumers,” and assuming consumers will spend half their savings from cheaper oil will “boost global demand [for goods and services] by 0.2 to 0.3 percent.”
These results are based on receiving a highly optimistic response from the public. Due to the recent recession, people tend to save rather than spend. Additionally, Americans are driving fewer miles and in fuel-efficient vehicles, and thus will not experience windfall savings quite yet. There is also the question of the elasticity of U.S’s newfound supply, as low prices may cause the operation of some oil producing projects to become uneconomical. Furthermore, since oil is a fossil fuel, green energy companies will find it harder to compete, as they will become comparatively costlier. America’s green energy’s already miniscule research funds might also be encroached upon. Thus, addressing the issues of increasing global warming and maintaining environmental sustainability will become considerably harder.
However, the former U.S. Assistant Energy Secretary Andy Krasner remains optimistic and claims that America today has a growing advantage in “the three big C’s: code, crude and capital”. Even though it is too early to be definitive, the decline in oil prices is an economic stimulus par excellence and can be a big positive for the U.S. consumer—at least for the holiday season.