Over the past six weeks, U.S. crude oil prices have dropped from close to $75 a barrel to below $50, the lowest since October 2017. It is almost inconceivable that just a few weeks ago, President Trump was urging Saudi Arabia to increase production because of fears that oil would top $100 per barrel because the U.S. imposed oil sanctions on Iran in November.
Initially, oil analysts predicted that Iran’s oil exports would drop from 2.5 million barrels daily to about 1.7 million barrels. But because Iran has taken meaningful steps to avoid sanctions, Iran is exporting some 2.2 million barrels daily. Two of Iran’s biggest trading partners are India and China, which have gotten waivers from the Trump administration to import Iranian oil.
Last Wednesday, the U.S. Energy Information Administration disclosed that U.S. oil inventory had increased by 3.8 million barrels over the past week, the 10th consecutive week it had risen.
In response to the dramatic decline in oil prices, the Organization of Petroleum Exporting Countries might announce a production cut of 1.3 million barrels daily at its meeting scheduled for Thursday. In order to make a meaningful reduction, two of the world’s largest producers, Saudi Arabia and Russia, would have to take concerted action. To date, Russian President Vladimir Putin has stated that his country can accept current Brent prices at $60 barrel. Brent is the major benchmark price of oil outside the United States.
Saudi Arabia’s ability to drive prices higher has been impaired because of the politics surrounding the killing of journalist Jamal Khashoggi. Tariq Zahir, managing member of the investment-advisory firm Tyche Capital Advisors said: “I think the Saudis are really painted in a corner.”
Because the U.S. has not built up sufficient infrastructure to export its oil production, U.S. crude oil prices are about $10 below Brent levels.
Oil prices have a bifurcated effect on the U.S. economy.
Because the U.S. is now the world’s largest oil producer, the petroleum industry is a major employer in states such as Texas, Oklahoma, North Dakota, New Mexico and Pennsylvania, where drilling crews, loader operators, truck drivers and diesel mechanics are needed.
In the past, because the cost of producing oil from shale in the U.S. is more expensive than the simple pumping method used in most of the rest in the world, a sharp drop in oil prices has financially hurt many of the financially leveraged U.S. operators. According to estimates by Barclays, a research consultancy, a $20 drop in oil prices results in a 20 percent drop in earnings before interest and depreciation for U.S. oil companies.
On the other hand, a drop in fuel prices means lower transport costs, cheaper airline tickets and reduced utility and manufacturing costs. Since the U.S. consumes some 20 million barrels daily, a $25 reduction saves the American consumer some $500 million a day. This economic benefit should boost consumer expenditures for other goods and services.
Oil prices have certainly been volatile in 2018. Depending on your seat at the table, your opinion about oil prices varies.
Certainly, lower oil prices reduce inflation and put more money into consumers’ pockets. One rule of thumb is that every penny of reduction in gas prices puts more than $1 billion into the hands of consumers. A $1.50 reduction in the price at the pump stimulates our economy by $150 billion a year. It isn’t just motorists who benefit mightily from low energy prices. Energy is the fundamental input in everything we produce in America.
On the other hand, now that we are the largest producer of oil in the world, we need to recognize that the United States is extremely dependent on the strength and health of the oil and gas industry. If oil can remain above $50, we might have reached a compromise between helping the consumer and providing sufficient economic incentive to U.S. oil producers.
Originally published in the Sarasota Herald-Tribune
