By Russell Gold
Oil prices posted their biggest one-day drop in nearly two years
Tuesday as a U.S.-led wave of crude has crashed into weak global
demand, threatening the stability of some countries and providing
an economic lifeline to others.
Tuesday's slide of 4.5% by U.S. crude oil to $81.84 a barrel on
the New York Mercantile Exchange left the price down 20% since the
start of June. That was the lowest closing price since June 2012,
and some analysts predict the price will fall as much as $10 a
barrel lower.
The same factors that sank prices Tuesday are behind oil's
four-month tumble, which is pressuring countries from Russia to
Iran to Venezuela. World-wide demand is stagnant, and the
International Energy Agency cut its full-year oil-demand growth
forecast Tuesday to the lowest level in five years.
Yet oil output remains high. In the U.S., hydraulic fracturing
has unleashed a torrent of new crude that is flooding the market.
U.S. output is expected to increase again this year, according to
Ed Morse, global head of commodities research at Citigroup Inc.
Lower crude prices could slow next year's growth.
Despite the steep drop in oil prices, the Organization of the
Petroleum Exporting Countries, which controls about one-third of
global oil supplies, has been unwilling to rein in production.
Saudi Arabia is focused on maintaining market share even if it
means cutting prices, a controversial stance addressed in a rare
public letter Tuesday from Saudi Prince al-Waleed bin Talal to the
kingdom's oil minister. Iran signaled Tuesday that it also would
accept lower prices.
As a result, the retail price of gasoline for the average
American has dropped nearly 15% since late June to an average $3.17
a gallon as of Tuesday, according to Gasbuddy.com, a gas
price-finding app. Many analysts expect prices at the pump to drift
below $3 a gallon in many parts of the U.S. if crude prices keep
sliding.
Every one-cent drop in gas prices means a $1 billion annual
decline in energy spending by Americans, estimates Brett Ryan, U.S.
economist at Deutsche Bank.
"It's like a tax cut that consumers can use to eat out more
often, buy more goods or help save for a new home," he said.
The savings isn't "a huge boost to GDP, but it's a positive for
U.S. corporates and makers of goods and services," Mr. Ryan added.
Tom Kloza, chief oil analyst for Gasbuddy.com, said the typical
American family is saving about $50 a month based on the decline
since June.
Brent, the global oil benchmark, fell 4.3% to $85.04 a barrel on
Tuesday, a nearly four-year low. It was Brent's largest one-day
percentage drop since September 2011.
Other economists warned that the overall impact on the U.S.
economy could be negative, since the recent slowdown in global
growth is one of the biggest reasons for tumbling fuel prices. The
same is largely true in Europe.
"If we don't have markets to sell our exports to, that will be a
drag for the overall economy even if consumers have a little extra
to spend after buying their gasoline" said James Hamilton, an
economics professor at the University of California, San Diego.
The possible economic and political consequences vary widely
around the world. Venezuela, a major oil exporter and OPEC member,
could veer into political crisis because of sharply lower crude
prices, some analysts say.
Venezuela relies on imports for much of its food, cars and other
goods, but the country is increasingly short of hard currency
needed to pay for those staples.
In contrast, energy-import dependent Japan, South Korea and
Taiwan are likely to get an economic boost even if the oil-price
slide ends unexpectedly soon.
Until recently, crude prices stayed high despite the rising
supply because wars and civil strife created disruptions in the oil
market. Now, though, "there is an abundance of geopolitical risk,
but there is an even greater abundance of oil," said Daniel Yergin,
vice chairman of research firm IHS Inc.
The seeds of the supply shock were planted a little more than a
decade ago in north Texas when U.S. companies pioneered horizontal
drilling techniques combined with hydraulic fracturing technology.
The result: wringing oil and gas out of rocks previously thought to
be unworkable.
Since 2004, U.S. oil production is up 56%, the equivalent of
pumping an extra 3.1 million barrels a day on top of the regular
U.S. oil output from traditional oil fields in places like Oklahoma
and the Gulf of Mexico. Last week, Exxon Mobil Corp. Chairman and
Chief Executive Rex Tillerson said North America has entered a "new
era of energy abundance." U.S. demand for gas and other fuels is
down 8% since 2004.
OPEC could face deepening internal rifts if prices remain low,
because some members want to pump more to keep their coffers
filled. Venezuela needs oil prices well above $120 a barrel to
balance its budget, according to a recent Deutsche Bank report.
Angola has a budget based on $98 a barrel.
While the U.S. has slashed oil imports, China has steadily
increased its dependence on foreign crude. More than 61% of the oil
China consumes will be imported next year, according to official
estimates.
The drop in global petroleum prices comes as China's economic
growth engine is slowing. Economists widely believe China might
miss its economic growth target of 7.5% for the year. Low oil
prices could help by bringing down production costs for a wide
range of industries and keeping inflation tamed.
"Lower oil prices act as an easing mechanism for the Chinese
economy as its economic growth slows," said Société Générale CIB
economist Wei Yao. "It's a relief to Chinese policy makers."
India's politicians and central bankers are also happy about the
downturn, which helps shrink India's huge fuel subsidy bills and
eases inflationary pressures. India imports about 75% of its
energy. Fuel prices have fallen enough that state-run fuel stands
aren't suffering losses on each liter of diesel sold.
In Venezuela, President Nicolás Maduro's government is
struggling with a collapsing currency and shortages of everything
from baby diapers to toilet paper to medicine to car parts.
Venezuela already was running low on hard currency because of
rampant spending at home and other problems.
When prices of oil were close to $100 a barrel earlier this
year, Venezuelans across the country rose up to protest shortages
and what many leaders of the demonstrators called the government's
bungled management of the economy.
"Venezuela's oil prices have been high for several years now,
and the country is still struggling to pay its debt at those
prices," said Russ Dallen, a partner at brokerage firm Caracas
Capital Markets.
Asdrubal Oliveros, head of Caracas-based consulting firm
Econanalitica, said Venezuela has few options. "Venezuela can
generate as much noise as it wants within OPEC, but it's Saudi
Arabia that calls the shots," he said.
Venezuela's central bank and finance ministry didn't respond to
requests for comment.
On Tuesday, Russian President Vladimir Putin acknowledged that
the national budget is "stressed" because of the fall in oil
prices. Russia's central bank is working on a "shock scenario" that
envisages a drop in oil prices to $60 per barrel. Russia relies on
revenues from oil and gas exports for about half of its federal
budget revenues.
Economists say falling oil prices could kill off Russia's
flagging economic growth, forecast at no more than 0.5% this year.
Evgeny Nadorshin, chief economist at Russian conglomerate AFK
Sistema, said Russia's economy could begin contracting by the end
of this year if oil prices remain near $90 a barrel.
Leading Russian politicians and executives believe the Saudis
are pushing down prices to target Russia's oil-export-dependent
economy and Mr. Putin, as an extension of ongoing sanctions.
Speaking on Russian state television last week, former Russian
Finance Minister Alexei Kudrin suggested there could be "a kind of
agreement of leading countries, importers and exporters, the U.S.
and the Middle East, that production will be increased and the
price will be kept low." Such claims are reminiscent of Russian
theories about the 1980s price drop that some historians believe
played a role in the fall of the Soviet Union.
The impact of falling crude prices in North America will likely
be positive because motorists could wind up with additional
discretionary income.
But if the number of rigs drilling wells declines, there could
be resulting pockets of economic contraction in places such as
Midland, Texas, or Fort McMurray, Alberta, the home of the oil
sands.
Of course, falling prices would eventually force companies and
countries to cut production, many analysts predict. But it isn't
clear who would make the first move. "We're in uncertain territory"
because the global oil market has changed so much in the past few
years, said Richard Mallison, an analyst with research firm Energy
Aspects.
When oil prices cratered in the late 1990s, a long lull in
investments followed. And by the time the financial crisis erupted
in 2008, demand for crude outstripped supply--and oil prices hit a
record $145.29 a barrel.
This time around, oil prices could rebound if production is cut
and the global economy improves. Iain Pyle, an analyst at Bernstein
Research, said he expects oil prices "certainly north of $100 next
year." A lot depends on whether producers of U.S. shale or OPEC
members curtail production. Shale can be especially expensive to
produce.
If the rebound in crude-oil prices is slow, it could hurt large,
Western oil companies. Bernstein estimates that Royal Dutch Shell
PLC and BP PLC need oil to be above $85 a barrel for their current
operations to break even. Any sustained drop could mean the
companies have to scale back development.
Benoît Faucon, Ezequiel Minaya, Mark Magnier and James Marson
contributed to this article.
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Write to Russell Gold at russell.gold@wsj.com
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