Heading into 2020, there was already a significant issue on the energy horizon: the International Maritime Organization rule governing emissions, aka IMO 2020. One expert referred to this as “the biggest planned disruption in the history of energy markets.” Little did we know how much 2020 would actually be dominated by unprecedented disruptions. Oil prices have plunged as national economies have been paused. This tumult both reflects—and affects—developments in the global economy.
When China responded to the novel coronavirus outbreak by severely restricting economic activity, its need for oil dropped. And, as the top crude oil importer in the world, when the demand fell sharply, that meant a significant cut globally, which put downward pressure on prices.
Low prices would obviously be bad news for countries that rely on oil revenues. So, to offset this drop in demand, there would need to be a supply cut. But, that begged the question of who would cut production. A key purpose of the Organization of Petroleum Exporting Countries (OPEC) was to reach agreement about how the burden of production cuts would be distributed.
When OPEC had a bigger share of oil production, the process was more straightforward. With major players like Russia and the United States outside of OPEC, however, coordination is more complicated. It was just this dynamic that drove oil prices down further, when Russia refused to cooperate with OPEC and Saudi Arabia responded by maintaining production and kicking off an oil price war.
Complicating matters, the COVID-19 pandemic was wreaking havoc on many of the major economies of the world, further decreasing the demand for oil. Thus, by the time a multinational agreement was reached to cut back on global oil production by 9.7 million barrels per day (roughly 10%), there were estimates that global demand had fallen by 25-35 million barrels per day. And that was looking ahead, based on cuts promised for May.
While this might sound like a familiar story of supply and demand, there are some interesting and important twists to the way this market works—which help explain why the price of operating a truck, plane, or ship may not fall in step with headline oil prices, and how those prices could end up below zero.
Whatever the level of complexity, the dramatic fall in oil prices from the beginning of the year is one of the best real-time indicators of just how much trade and the global economy have slowed. In the United States, 28% of energy use is for transportation of people or things—and yet, there’s much less of that happening these days.
An immediate impact will be a serious budgetary hit on states and countries that rely on oil level–and maybe on those who lend to them. While there should also be a stimulative effect from lower prices of a key input in production, at the moment this may be like the proverbial “pushing on a string”—trips weren’t cancelled and factories weren’t idled because of the cost of oil; and cheaper oil won’t solve the problem.
In any case, the oil market turmoil of the start of 2020 has exceeded all expectations. To hear more analysis of the state of global trade, tune in to our upcoming webinar on May 20.
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