Why Oil’s Fall Is No One’s Gain

Predicting oil-price movement is proving to be slicker than the commodity itself. Oil-price prognosticators are pondering how low oil prices, having already crashed to $27 a barrel, could plunge. Such lows have not been plumbed in the last 13 years.

On the flip side, barely four years ago, Indians were battling high oil prices of a throttling $140. Forecasters were then predicting future oil prices topping $150. In just three years, however, oil has plummeted a huge 81 per cent. So, what’s driving oil prices crazy?

Fresh discoveries of shale oil and new technologies such as “fracking” are producing much more oil than the 93 million barrels the world is consuming today, leading to a globe awash in oil. Slower economic growth and more “green” energy have resulted in a slower rate of oil consumption. Iran, which had been locked out of the world oil market, is sliding back into the game; it is likely to produce around 3-4 million barrels of oil a day, further drowning us in oil.

Will the global economic engine need an oil change? It’s hard to say how supply-side economics will play out in the next few months, but a clearer picture should emerge once the fresh supplies have been absorbed by the market.

At some point, producers will begin to feel the pinch of pumping out oil at a loss and oil wells will begin to be capped. Already, Russia has announced it would shut down a few wells. But the price of oil could continue flattening, at least in the first half of 2016, till present supplies have been exhausted.

So what happens to the producers? Some of the world’s biggest countries and producers are no doubt being hit by the low oil prices.

Globally, some oil producers are having to write down huge inventory losses and their balance sheets are awash in red, hit by the black gold. Credit ratings on debt of oil companies are going for a toss as yields on debt paper are rising, making it more expensive for them to borrow, and this is leading to a Lehman-like shrinkage in global credit flows. The huge capital expenditure of oil companies are being cut back. No one can persistently produce at a loss.

For the oil-producing countries, it’s more or less the same story. Their governments have to cut back on expenditure if the price of oil holds at these levels for some time.

Curtailed spending by these countries could slash the already-sputtering global growth.
The larger problem, though, is if low oil prices persist for a protracted period, many, many people working in the oil and gas industry and allied sectors could be in for more than a “hair cut” and huge job losses may be looming on the horizon.

On other notes, for a gas-guzzling country like India, the low oil price is a boon, but not ultimately so.

First, the good note. On the macro-economic front, the shrinking oil price has been a boon. The government is collecting huge revenues from periodic hikes in excise duties. Market observers estimate that this is likely to add over Rs 180 billion to government revenues in FY16; and if oil prices continue at these levels, they could add a further Rs 350 billion to government coffers in FY 17. This adds to a bit of stability on the macro-front.

But the ugly side is that the global deceleration and economic roller-coasting partially due to lower oil prices is badly hurting Indian businesses, particularly exporters and those relying on them. Exports are floundering, having shrank by 14.8 percent in December after 13 consecutive months of contractions.

Second, consumers are not directly benefiting from the fall in prices. When India needs a boost to domestic consumption to counter-balance falling exports, and lower retail inflation to boost savings, much of the gains from the fall in oil prices are not being passed on to consumers.

Third, the markets are in an acute case of “fall”ingitis. Sovereign funds are pulling out from global markets such as India to cover losses in their oil holdings. Across the world increasing uncertainty thrusts global markets further into bear paws.

Ultimately, neither the Indian consumer nor investor, for now, is benefiting from falling oil prices. Maybe time will tell a better story.