Dying Oil Prices – Who are the winners and losers?

Global oil prices have fallen sharply over the past eight months, leading to significant revenue shortfalls in many oil exporting nations, while consumers in many importing countries are likely to have to pay less to heat their homes, drive their cars or run their energy houses.

From 2010 until mid-2014, global oil prices had been fairly stable, at around $110 a barrel. But since June prices have more than halved. Brent crude oil has now dipped below $50 a barrel for the first time since May 2009 and US crude is down to below $48 a barrel.

The reasons for the decline – China slowing down coupled with US surging production & shale gas revolution, OPEC’s determination to not to cut production and Iran edging towards entering global trade, black market sales from Iraq & Syria which means additional supplies.

So who are the WINNERS?

Mainly those countries that need to import oil. Within Asia, China, India, South Korea, Japan and Thailand have been the gainers. The benefits, cutting them short, lower inflation, lower business costs, improved purchasing power, correction of balance of payment and cut in interest rates!

Cheaper oil translates into lower inflation. Oil is used as a raw material in various industries such as petrochemicals, fertilizers and etc. As oil prices decline, the logistics become more economical and hence consumers will have to pay less. This will also make these products more internationally competitive. However, most of the agro economies in Asia continue to rely on imports of both petrochemicals and fertilizers due to increasing demands, unusual weather patterns and logistic issues due to poor infrastructure.

Both India and Indonesia have taken the opportunity to cut energy subsidies and raise taxes on energy. India imports 75% of its oil, and analysts say falling oil prices will ease its current account deficit. At the same time, the cost of India's fuel subsidies could fall by $2.5bn this year - assuming oil prices stay low.

Consumer inflation has hit a 5-year low in China. However, lower oil prices won't fully offset the far wider effects of a slowing economy.

Who has lost and why?

Most of the big oil producers like Malaysia and western Asian countries. For Malaysia energy exports account for 20% of the national economy, so cheaper oil is a problem.

Saudi Arabia, the world largest and the most influential oil exporter, needs oil prices around $85 in the long run, but seems less interested to cut down supplies in order to pressurize the US shale gas industry and it can afford to continue this way for long as the country sits on a reserve fund close to $700 billion. Gulf producers such as the United Arab Emirates and Kuwait have also amassed a considerable foreign currency reserve, which means that they could run deficits for several years if necessary.

Europe is an interesting case here. A lot of analysts believe that Europe in general will benefit from the collapse in oil prices but its exposure to Russia jeopardizes the benefit realization. A recession in Russia and depreciation of the Russian Ruble will reduce investments in Moldova, Armenia, Belarus and all those European states which are vulnerable to dislocations in the Russian labor market because of the reliance on remittances from Russia.  Plus most of these countries import oil to process into other products such as petrochemicals and fertilizers, for which oil accounts for major portion of the cost. A decline in oil prices means fall in prices of these commodities too.

Will the World enter in to a global financial crisis like it did in 2008, due to another Oil upsurge?

Why is oil so important to the global economy? Has its importance gotten greater or lessened over time?

Undoubtedly, there has been huge progress in lessening the world’s dependence on oil as a commodity, from energy-saving innovations to the fracking revolutions. But the fact is that global demand for energy keeps on rising at a greater pace as the populations achieve higher standards of living. For example how many Chinese drove cars a decade ago? Now it’s the world’s biggest auto market.

In Libya the ongoing skirmishes between the government and rebel group have reduced the daily production of crude oil dramatically from 1.6 million bpd to an estimated below 200,000 bpd. In Iraq there has been an upsurge in conflicts between various militias which has interrupted production. In Nigeria, production has fallen due to leaks caused by the trouble makers. Moreover, Syria is in chaos and Egypt is still unstable.

The Oil price has a record of plunging the globe into recession. Kirk Spano, the founder of Bluemound Asset Management, assessed that the spiking oil prices in 1973, 1980, 1991, 2001 and 2007 contributed to a greater or lesser degree to the economic recessions of 1973-74, 1980-81, 1991-92, 2001-03 and 2007-08 that were painful for all equity investors. The global financial crisis of 2008 was no different with a sudden spike in oil prices to $147 a barrel that broke the back of several economies.

It’s a problem when a country like Japan which is technically advanced has to shut down its nuclear stations post the earthquake or when a country which does not fall in the fault line, Germany, has to do the same post the public vote on the matter. Oil is abundant, safe and easily consumed at a price.

Are we not sensing a déjà vu this summer?

Iraq plays an important role for market stability. With current production of 3.3 mbpd Iraq is the second largest producer in the OPEC cartel and it has the potential to become larger player. Current predictions by the International Energy Agency (IEA) show Iraqi production growing to 4.4mbpd in 2015 and to nearly 6mbpd by 2020.

An eventual decline in Iraqi exports would mount pressure on energy hungry economies of China and India to increase their imports of Iranian oil. Russian oil exports would become crucial for global markets, potentially further strengthening the former Soviet Union’s position in Ukraine. Finally, a major spike in oil prices would help regimes like Venezuela too. If Iraq falls, oil prices would shoot up breaking previous highs and spread unrest in the region.

Ukraine Crisis: Time for Europe to give (clean) coal a bigger share

Did anyone of us ever think that switching from coal to imported gas could pose a major risk to the security of energy supplies in Europe?

At least six European countries rely exclusively on one country for natural gas supply – Russia. During a recent press conference Donald Tusk, the Polish prime minister called for changes in the EU energy policy and added that “Germany’s dependence on Russian gas may effectively decrease Europe’s sovereignty”.

EU relies on Russia for 30% of its natural gas imports, with 80% of that delivered through Ukrainian pipelines. Ukraine is a major gas transit nation for supplies from Russia to EU. Earlier this month Russia warned it could stop distributing gas to Ukraine over unpaid bills and any such move can have dramatic consequences for the EU.  With Europe’s main natural gas supply route at risk this provides the policy makers in the EU re-think and direct more attention to Europe’s indigenous coal resources as well as secured and reliable coal imports.

Source: BBC News

Coal accounts for 90% of the EU’s fossil fuel energy and natural gas accounts for only 7%. Hence, it is not surprising at all that Europe imports almost 70% of its natural gas and as per a report from European Commission it will have to import close to 80% by 2030.

Coal continues to remain integral to EU, as it creates jobs, keeps the domestic producers in business and more importantly reinforces the continent’s energy security. Imported coal has been a reliable source of energy for Europe. Unlike natural gas coal imports are not dependent upon transport infrastructure such as LNG terminals or pipelines so any drop in supply from one country can be easily filled by another supplier. Currently, 60% of EU’s coal imports come from the USA, South Africa, Australia & Colombia & 25% is sourced from Russia.

There is a strong security argument against over-reliance on natural gas imports from Russia and this should be given more attention in the EU’s 2030 framework for climate and energy policies. None of the targets, measures & policies proposed as part of this package should force Europe into a position where it is slowly abandoning the most abundant, affordable and secure energy fuel it is endowed with to the benefit of imported natural gas.

Ukraine - China to the Rescue ?

Ukraine prior to the crisis:

• Aging industrial sector, eastern Ukraine, primarily engaged in manufacturing of steel for Russia
• Elephant size debt of USD 35 billion
• A politically and ethnically divided population
• The private sector mainly or fully controlled by oligarchs
• Endemic Corruption
• Massive Inequality (the rich are too rich and the poor too poor)
• Energy Crisis
• Low foreign reserves mainly due to poor export figures

The US and IMF has offered billions of dollars, contingent on energy subsidies & opening up the economy. Ending energy subsidies is to ensure that the loan amount facilitated by the West does not end up in Russian banks as Ukraine is reliant on Russia for its energy needs. However, ending energy subsidies also means close to double increase in price of energy, which means many Ukrainians would freeze next winter and the aging industries would go out of business. The EU bloc will not do a favor buying not so competitive goods.

Ukraine was the fourth largest corn exporter in 2012-2013, behind Brazil, the US and Argentina. It is also the sixth biggest supplier of wheat and exported 7.1 million tons in 2012-2013. The financial crisis may affect the production of crops with farmers having trouble to pay for fertilizer, after the Ukraine’s currency decline against the dollar.

In the current scenario, the survival for Ukrainians lies in the production and export of grains. The country which has expressed interest in Ukraine’s grains is China. Ukraine is expected to become China’s largest overseas farmer in 3 million hectare land (i.e. 7% of Ukraine’s land). China cannot grow enough grain to feed its billion+ population. The good thing about the Chinese is that they don’t mingle with the internal affairs of the countries where they develop infrastructure. Their funding and support is not contingent on beneficiary countries engaging in the sort of austerity that the IMF, Europe and the US prefer to impose on any country who goes them for financial support. For China, food security for the future generations is critical and it will be ready to pay a premium for the same.

Ukraine has got two core issues; one is debt and the other is inequality. The West will not allow a massive restructuring on default of debt & yet rain dollars. Ukraine cannot even afford to cut its ties with the Russians as it is heavily reliant upon Russia for its energy needs. Ukraine will have to maintain friendly ties with Russia to secure gas supplies at discounted rates. Ukraine will have to turn to China and improve its productivity and head to become the biggest exporter of grains.

Let me summarize the above in a manner where it becomes easier to understand the dynamics surrounding Ukraine post Crimea annexation. Ukraine’s western back government will soon have to put more focus in diplomacy with Russia and furthering ties with China than relying on Europe and the IMF who have no history of pulling out ordinary men from unemployment and poverty.

History Repeats Itself

I was going through the newspaper a few days back and I was surprised to read that an unemployed Chinese turned to a millionaire when he borrowed money from the bank to trade in 100 tons of garlic. To my surprise he made a profit of 125%…Wow!!! so is this a better investment than gold ? My answer is YES!…
Reasons: the demand for vegetables tends to be inelastic which means whatever happens to your income there will be a negligible impact on the amount you spend on food items. The second reason which I want to bring to your knowledge is that what exactly happened in the 1930′s “Great Depression”. There was a transition in an economy , a clear shift from the agriculture sector to the manufacturing sector and then in the 90′s when the Asian stock markets (known as the tiger economies) declined there was a shift from manufacturing to service industry. So what will happen now? Is there another sector left to exploit ?NO…The present scenario suggests that most of the non-oil producing countries will gradually shift to the traditional industry – YES the agricultural industry. Russia which is currently experiencing negative growth asked its steel workers to start potato cultivation on state owned lands. China is providing its farmers with cheap credit so that they can afford luxuries in order to encourage agricultural production, and EU pays excessive subsidies (under the Common Agricultural Policy) to its farmers. Agriculture sector will further grow due to increase in investments made by Saudi Arabia in Australian lands for crops and many other Non-Agricultural industries are investing in countries like Pakistan, Bangladesh and etc.
More importantly this will also serve to the basic need of every human being and that is to live in an environment free from carbon, but nevertheless it will have drawbacks attached to it.