Why the big oil price slump matters
The price of Brent Crude oil slumped below US$76 last week — a fall of 12 per cent in just a few days. The oil price has been falling for a month and, at the time of writing
(on Friday), is off almost 25 per cent since the start of November.
At its peak, in the wake of the invasion of Ukraine, it was US$123.
This is all good news for those worried about inflation, although not such a positive indicator if you are more concerned about recession.
It means that despite big geopolitical moves (like new Russian oil restrictions and signs of China’s economy re-opening), fears about a global recession next year are winning the war of market sentiment.
Recession is bad but inflation is the more pressing problem right now so, on balance, it’s good news.
For starters, it means you’ll be getting a break when you next fill up the car. .
Not only has the crude oil price been falling but the Kiwi dollar has risen against the US dollar this month.
That adds up to cheaper local petrol. And, to be fair, prices do appear to be falling around New Zealand.
Whether they are falling fast enough and far enough is fairly contentious, to say the least.
But it is a complex equation and I won’t get into the consumer price debate today.
What interests me more is what oil prices say about the global economic situation.
Despite our desires to be less reliant on the stuff, oil is still so fundamental to the price of everything that it remains a good barometer.
Some weeks, like the one just past, I get obsessed and check the oil market with a frequency I’d normally reserve for test cricket.
It provides an instant snapshot, like a scoreboard for the epic battle between inflationary and deflationary forces.
It is more like watching the Black Caps batting for a draw on a slow wicket than a Twenty20 slogfest — but that’s some of my favourite cricket. Like cricket, the odds can shift wildly in the space of a few minutes with a batting collapse or a sequence of big boundary hits.
If we were looking at stocks, the fall of the past month would be described as a bear market and the past week as a crash.
We still talk about oil shocks — a term attached to the first truly worldshaking spike in 1973.
But it takes a bit more to shock oilmarket observers.
I suspect the reason local economists haven’t been quick to make a big deal of the oil price slump is that it might not last.
The trend might even have shifted by the time you read this, of course.
The big cloud hanging over all commodity markets right now is China. If China’s economy roars back then it will create renewed demand for oil and every other commodity, pushing prices up again.
That needs to happen at some point. It is a last inflationary punch that the world can not avoid.
Timing is everything and a slower Chinese economic rebound would allow central banks to get inflation under control in the next few months.
We’ll likely be facing a recession by then and the return of Chinese demand will be welcome.
If it opens faster then the impact on global commodity prices may make beating inflation harder.
Regardless, if we do face more inflationary pressure, then clearly it is preferable to be starting from a lower base for oil prices.
But it wasn’t the fact that oil has slumped more than 20 per cent in the past month that shocked me.
It certainly wasn’t the fact that petrol companies seemed a little tardy in bringing retail prices down.
What shocked me was finding a column I wrote about the price of oil this time eight years ago.
In December 2014 I was also writing about a big price crash.
“The world is in the grip of a new oil shock. The shock is that prices are collapsing. Last week, crude oil dipped briefly below US$70 a barrel. That’s about one-third cheaper than in June. Prices are back at levels not seen since September 2010, when demand was still in a post-GFC slump.”
At US$70 a barrel back then and US$75 a barrel on Friday, the prices aren’t actually so far apart, but the world was in a very different place.
It is amazing how important context is to a specific price at any given time. It’s easy to forget how real deflation fears were a few years ago.
In 2015 the oil price kept falling — down to around US$60 a barrel.
It was a slump that put so much deflationary pressure on the local economy that the Reserve Bank was forced to unwind its three previous rate hikes.
Here’s hoping for that kind of deflationary shock in the next few months. It wouldn’t solve all our inflationary woes but it would be a big help.
Suddenly, tradeable inflation, the kind we import from overseas, would be near zero.
That would buy us valuable time to let the domestic economy cool more slowly. Interest rates wouldn’t need to rise so high and the pain of rebalancing the economy might not need to be so acute.
So that’s why I’ll be watching oil markets obsessively over the next few months — at least when there’s no cricket on.