Economic Recession and Oil

Oil prices across the globe are characterized by major swings and fluctuations, which have attracted considerable attention from scholars, policymakers, and practitioners. The increased attention in oil prices are attributable to the fact that they have significant impacts on the global economy. Based on academic literature, oil prices fluctuate for various reasons including supply disruptions, changes in global demand, and precautionary intentions. For instance, in the aftermath of the 2008 global economic recession, oil prices fell because of an overall decline in global demand (Lee & Huh, 2017). Fluctuations in oil prices have been evident since 2012 to the end of 2016 because of various factors that contribute to changes in these prices. Despite these various factors, there are several measures that are utilized to predict oil prices in the future. This paper discusses the reasons for changing oil prices, oil price fluctuations between 2012 and 2016, and prediction of oil prices for the next five years.

Reasons for Changing Oil Prices

As previously mentioned, oil prices have been characterized by major swings and fluctuations, which have received considerable attention because of their potential effect on the state of the global economy. According to Caldara, Cavallo & Iacoviello (2016), a decline in oil prices despite of whether its caused by supply or demand factors depresses economic activities worldwide, especially in emerging economies. Policymakers, practitioners, and scholars have continued to examine factors that contribute to fluctuations in oil prices. These attempts have been geared towards understanding oil price fluctuations and making predictions on future prices of oil in order to promote growth in the global economy. The existing academic literature highlights several reasons that contribute to changing oil prices including changes in global demand, precautionary intentions, and supply disruptions (Caldara, Cavallo & Iacoviello, 2016). The changes in global demand, which in turn contribute to major swings in oil prices, are fueled by different economic factors. For instance, in 2008, the world experienced a global economic recession, which contributed to an overall decline in demand that in turn resulted in decline in oil prices. According to Lee & Huh (2017), oil prices during this period fell and started to increase in early 2009 after the impacts of the economic recession. When supply disruptions occur, they affect the global demand for oil, which in turn generates major swings and fluctuations in oil prices across the world. Similarly, precautionary measures undertaken by industry players in handling this commodity affect supply and demand aspects, which contribute to fluctuations in the prices of oil. The other factors that contribute to fluctuations in oil prices include decrease in the revenues of economies or countries that produce oil and uncertainties regarding the maintenance of future oil producing capacity. Moreover, oil prices experience major swings/fluctuations due to decrease in the assets of major international oil companies and decline in investments in crude oil development by the major stakeholders (Asia Pacific Energy Research Centre, 2016).

Oil Price Fluctuations between 2012 and 2016

In the aftermath of the global economic recession in 2009, oil prices increased following an increase in global demand of industrial commodities including oil. During the 2008 global economic recession, economies across the globe experienced a significant decline in oil prices because of decline in global demand for industrial commodities. The decline in global demand for these commodities was fueled by the significant negative effects of the economic recession. Since then, oil prices have been affected by relatively smaller supply and demand shocks in the oil market, especially in the period between 2010 and 2014. For instance, in 2011, oil prices increased and experienced major swings because of the uprising in North African countries, particularly Libya. Oil prices between 2012 until the end of 2016 have been affected by supply and demand factors. In 2012, oil prices increased between $0 and $9 because of tensions in Iran, which caused supply and demand shocks in the oil market (Baumeister & Kilian, 2015). As shown in Figure 1 below, the period between 2012 and early 2014 was characterized by stability in oil prices by close to $110/bbl (The Oxford Institute for Energy Studies, 2016). While there were some market imbalances brought by supply shocks in the oil market, the prices of oil remained relatively stable during this period. This stability occurred after a period of price surge because of the Arab uprisings, which caused supply shock and affected the global demand for oil. According to Baumeister & Killian (2016), oil prices prior to the period between 2012 and early 2014 had increased by approximately $62/bbl.

Source: The Oxford Institute for Energy Studies (2016). https://www.oxfordenergy.org/wpcms/wp-content/uploads/2016/08/Oil-Price-Shocks-A-Measure-of-the-Exogenus-and-Endogenous-Supply-Shocks-of-Crude-Oil-WPM-68.pdf

After this long period of relative stability, a sharp decline in oil prices occurred i.e. from $112 to $47 between June 2014 and January 2015. This decline was attributable to several factors including a decrease in real economic activity across the globe. This decline was foreseeable as of June 2014 and evident in the prices of other industrial commodities. Additionally, the decline was brought by shocks to the actual and anticipated oil production measures and capacities before July 2014. The supply shocks that contributed to the sharp decline in oil prices was a reflection of the unprecedented growth of shale oil production in the United States. A $9 decline in oil prices occurred in the second half of 2014 because of a shock to the storage demand for this industrial commodity while a $13 decrease occurred during this period because of the unprecedented weakening of the global economy. According to The Oxford Institute for Energy Studies (2016), this period was characterized by price collapse by 73% due to market volatility. As shown in Figure 2 below, the period between June 2015 and the end of 2016 was characterized by relatively stability in the prices of oil because of stable market conditions.

Figure 2: Crude Oil Price

Source: Investment Mine (2017). http://www.infomine.com/investment/metal-prices/crude-oil/5-year/

Predictions of Oil Prices between 2017 and 2022

With regards to the rate of growth, it is projected that there will be an overall descending trend in the growth in demand for oil until 2040. This is attributable to various factors including structural changes of worldwide economy, the development of shale gas in the United States, changes in government policies, and consumer reactions (Lee & Huh, 2017). However, oil prices are expected to increase between 2017 and 2022 as shown by recent trends and statistics. According to predictions by The United States Energy Information Administration, oil prices will average $55/barrel in 2017 and $57/barrel in 2018 (Amadeo, 2017). The predicted increase in oil prices it attributable to decline in market volatility unlike in 2016. On the other hand, commodities traders forecast that oil prices between 2017 and 2018 will range from $46/b to $63/b (Amadeo, 2017).

In the period between 2018 and 2022, the prices of crude oil are predicted to average between $50 and $70 per barrel (Arab News, 2017). These predictions are based on the fact that the global demand for oil outpaces supply on average during the period of forecasting. As reported by the Bank of America Merrill Lynch, the global demand and consumption of oil has increased by 3.6 million barrels per day over the last two years, which represents the best demand rate since 2010/11. The expected recovery in oil prices within the next five years is attributable to various factors including the decision by OPEC and non-OPEC countries to end a two-year price war and agreement to lessen production by 1.8 million barrels per day. Following this agreement, OPEC is now accelerating a balance in the global oil market through reducing a three-year surplus by lessening production. Secondly, the expected recovery of the shale oil production in the United States will enhance efficiencies and contribute to long-term oil prices of more than $50 per barrel.