US to Keep Oil Strong in 2008
Brian Durrant - Wed 19 Dec, 2007
This year has been an incredibly volatile year for oil prices. The low in 2007 was $49.90 per barrel and the high has been $99.29, a range of almost $50. So to try forecasting the average oil price next year has become an increasingly tall order....
This year has been an incredibly volatile year for oil prices. The low in 2007 was $49.90 per barrel and the high has been $99.29, a range of almost $50. So to try
forecasting the average oil price next year has become an increasingly tall order.
Funnily enough, over the last five years as a forecaster, I could have done pretty well by taking the last digit of the year to be the first digit for the average oil price in that year. The oil price averaged $31.5 a barrel in 2003, $41.5 a barrel in 2004 and $55.7 a barrel in 2005. This pattern continued in 2006, with $66.2 and so far in 2007, the oil price has averaged $72.5. So are oil prices going to average $80-90 next year? It's possible.
The recent fall in oil prices from a high of $99.29 looks like a correction in a market that had got ahead of itself. Certainly there have not been any major changes in current market fundamentals.
The oil price remains underpinned by strong demand from India and China, where the presence of fuel subsidies prevents higher market prices choking off demand for
energy. India, for example, estimates that it will pay 500 billion rupees, or $12.7 billion, in fuel subsidies in the fiscal year ending in March 2008. The Indian government has been trying to eliminate controls and subsidies of petroleum products for some time, but the jump in oil prices in recent years has made this impossible. In order to stave off civil unrest the subsidies on kerosene and cooking gas have been extended indefinitely.
Meanwhile in China, state-set diesel and gasoline prices have not been raised since May 2006 because of government concerns that pricier energy could fuel already rising inflation rates or spark unrest. Private sector companies are increasingly unwilling to supply energy at prices way below market rates. So the burden has fallen mostly on the state-owned companies. Sinopec, which for the past two years has received hundreds of millions of dollars in year-end compensation from Beijing for losses, has upped its imports and refining last month to alleviate fuel shortages.
The IEA forecasts that oil demand will increase by 1.9 billion barrels per day next year after an advance of 1.0 billion barrels per day this year. Some commentators believe that this forecast is over-optimistic because the US economy is poised to slow markedly. But as we argued recently, strong US export growth is offsetting the downturn in the US housing market and so we believe the forecasts are plausible.
At the same time the oil exporting cartel OPEC agreed at its latest meeting in Abu Dhabi not to increase oil production from its current level of 27 million barrels
per day. The cartel, which controls around 40% of world crude oil output, has decided to sit on spare capacity which has risen from about one million barrels a day to four million barrels. This is an indication that OPEC may be concerned about a change in sentiment in the oil market.
It is interesting that it wasn’t until last Wednesday that the positive recent news flow for oil prices, provoked a sustained rebound from the correction low of $88 a barrel level. US crude oil inventories are at their lowest since March 2005 ahead of the peak winter season. Worse still, on November 29 there was an explosion that briefly shutdown the pipeline system that has the capacity to supply 20% of US crude oil imports and OPEC has resisted pressure to increase output.
All of a sudden the market seems less concerned about shortages. This is a world away from the frenzied bullish tone in the market as oil prices pressed ahead towards $100 - a time when even tenuous news stories like the threat of a Turkish invasion of northern Iraq provoked speculative buying. So with the oil market apparently less concerned about shortages, attention has focused instead on the outlook for demand. And this is where the outlook for global growth is critical.
It is the fear of a US recession that has dominated sentiment. America consumes one in four of the world's barrels of crude oil. And this was why oil prices stubbornly held below the $90 a barrel mark until Wednesday this week. With the demand side of the equation taking the lead on price action, it was hardly surprising that oil prices spiked higher as the Fed eased again this Tuesday and as central banks agreed an unprecedented joint action to head off a global downturn.
It is our view that concern about a US recession is overdone. It follows that we are not on the verge of a collapse in oil prices. The consensus forecast for next year is an average of $74 a barrel, which might turn out to be a little on the low side. Even if this consensus forecast is correct, it means that 2008 will be another bumper year for energy exporters.
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