Brent crude oil closed below $30 on Friday, January 15, 2016. This is the first time Brent crude has traded below $30 in over twelve years. Oil prices have plunged recently despite reports of Mideast instability, that terrorist groups have attacked storage facilities in two major Libyan ports and the threat of spreading hostilities in Iraq, Iran, Bahrain and other countries in the Persian Gulf.
The price decrease is primarily the result of supply and demand. Typically oil prices go up when the global economy is strong and world demand for oil and gas is rising. In response, response suppliers increase production and deplete stored reserves to take advantage of the increased price. When the global economy is stagnant or struggling, energy demand decreases and producers typically decrease production in line with the falling demand and also increase reserves or stockpiles. Not so this go round. In order to maintain cash flow, many oil companies are currently producing all they can.
Between 2008 and 2013, China’s petroleum consumption had increased from 8.0 million barrels per day to 10.8 million barrels per day due to economic stimulation plans by the government to invest in roads, bridges, highways and other infrastructure and construction projects, according to The New York Times. These government programs have been expiring over the course of the last two years, and no new source of demand has taken its place. Recently, China released economic data showing slower growth, or in some areas actual decrease, in heavy industry and construction — two areas that helped drive China’s increase in consumption over the last eight years. During the same period, fuel efficiency programs in the United States and Europe were also beginning to have an effect. Under the bailout agreement with GM and Chrysler, the vehicle manufacturers agreed to tougher efficiency standards, such as a fleet average of available vehicles of 54.5 MPG by 2025. It’s been estimated that this would decrease oil consumption by twelve billion barrels between 2012 and 2025.
At the beginning of 2014, production from unconventional fields in Canada and the U.S. was beginning to have a large impact on the market. Production in the U.S. alone had almost doubled, from 5.5 million barrels in January 2010 to 9.6 million barrels in July 2015. Canada’s production increased 35% between 2008 and 2014, from 3.2 million barrels per day to 4.3 million barrels. Deep water projects near West Africa and Brazil were also beginning to produce enough to have an impact on the market. In the U.S., gasoline stockpiles increased by 10.6 million barrels to a total of 232 million barrels. Stockpiles of oil and gasoline reached record levels.
The Organization of the Petroleum Exporting Countries (OPEC) has also increased oil production, further increasing the available supply. OPEC’s most recent vote on December 4, 2015 was to keep production quotas at their current levels. Part of the reason for OPEC’s refusal to reduce production is an attempt to drive rivals out of business, with the Saudis arguing the hardest against production cutbacks. Due to their low cost of production, the Saudis believe they are better positioned than any of their rivals for surviving a long term price decline. The Saudis have also announced that they intend to maintain a price below the break even point of U.S. shale producers and other unconventional producers, which is approximately $40-50 per barrel. The major reason for increased production by OPEC is that by keeping the price of oil depressed by oversupply, the amount of funds available to Iraq and other terrorist nations is decreased. The Saudi royal family would rather tighten their belts than see their arch enemies realize increased profit with which to sponsor terrorism.
The oversupply of oil as a result of increased production worldwide is not going to wane anytime soon. Word on the street is that it may be as long as two years before oil prices increase to a level where oil companies can once again make a profit and not have to lay off workers and/or file bankruptcy. This situation is one more component of the general economic malaise we are experiencing in this country right now.