This week, oil prices surged past $106 per barrel. What’s behind this spike? The answer lies in tightening global supplies coupled with increasing consumption.
“Energy economists are closely monitoring how the recent unrest in Libya, Bahrain, Yemen, and Syria will impact oil exports from a region that accounts for 27 percent of global oil production,” reports AP.
These events are likely to negatively impact exports. Currently, Libyan oil exports have halted entirely. Without the contributions from Libya and other North African oil producers, we could see significant fluctuations in oil prices—especially as demand starts to rise more substantially.
“According to Platts, China’s oil demand increased by 10.1 percent in February compared to last year, reaching its second-highest level on record, just behind the all-time high set in December. China is the world’s second-largest oil consumer, following the U.S.”
As supply stagnates and demand continues to rise, speculators are likely to drive prices even higher, reminiscent of 2008 when oil peaked at $140 per barrel. We can expect this trend to continue.
Cutting Off the Economy at the Knees
Iraqi Oil Minister Abdul-Kareem Luaibi stated on Tuesday that $120 a barrel is an “acceptable price.” However, market sentiments may differ. According to Merrill Lynch commodity analyst Sabine Schels, reaching that price could signal a crisis point for the global economy.
“Historically, whenever the energy sector’s share of the global economy hits 9 percent, we face a major crisis. This occurred in the 1980s and again in 2008. If prices exceed $100 per barrel and approach $120, we reach that critical 9 percent threshold,” Schels explains.
At $106, we are dangerously close to that limit. Given the efforts to revive the economy over recent years, it’s crucial we avoid reaching another breaking point. Many sectors have yet to recover fully; as economist Gary Shilling pointed out, the recovery has been “two-tiered.”
“The past few years have seen the revival of markets impacted during the recession, benefiting those involved in that rebound. Meanwhile, broader segments of the economy, particularly those with higher unemployment rates, continue to lag behind,” remarks Shilling.
As the job market shows signs of improvement, a sharp increase in oil prices could stifle the economy just as it begins to gain momentum.
Removing All Doubt
Undoubtedly, oil prices are influenced by geopolitical events in the Middle East and concerns about supply disruptions. However, the primary factor driving oil prices upward is the Federal Reserve. Their intentional policies of dollar devaluation are clearly reflected in rising oil costs.
On November 3, 2010, Federal Reserve Chairman Ben Bernanke announced a plan to purchase $600 billion in debt, with oil prices hovering around $85 per barrel. Since then, prices have surged over 24 percent. Yet, many Federal Reserve leaders continue to support Bernanke’s approach.
“If [the increasing oil prices] end up impacting the broader economy in a way that suggests a recession, I would advocate for more accommodation,” stated Dennis Lockhart, President of the Atlanta Federal Reserve Bank. It’s concerning that he seems unaware that such policies contribute to rising oil prices; more accommodation is likely to exacerbate the situation.
Amidst the Federal Reserve’s strategies, a voice of dissent has emerged. Dallas Federal Reserve Bank President Richard Fischer recently stated, “The Fed has done enough, if not too much, and we should refrain from further action after June, whether that be tapering off Treasury purchases or initiating new ones.”
Despite his call for caution, Fischer faces considerable opposition. For instance, New York Federal Reserve President William Dudley recently provided an erroneous example while discussing Fed policy, claiming inflation isn’t a concern. He cited the price of an iPad, emphasizing that one can now purchase a newer model for the same price as the previous version.
To which an audience member aptly retorted, “I can’t eat an iPad.”
Sincerely,
MN Gordon
for Economic Prism