UNCOVERING THE STORY BEHIND FALLING OIL PRICES

INTRODUCTION

Unless you have been living under a rock for the last couple of months, you would know about the COVID-19 (coronavirus) pandemic that has ravaged the world and affected industry, commerce and economies all across the globe. Another such thing which has been very adversely affected by COVID-19 is prices of oil.

U.S West Texas Intermediate (WTI), the standard measure of U.S. oil prices, is down 61% from its 52 weekly high of $66.60/bbl (barrel) to $26.08/bbl.The number of barrels of oil produced per day is used as a worldwide measure to calculate the oil output. (represented as bbl/day).

Brent crude, which is also seen as the international benchmark, was down 56% from its weekly high of $75.60/bbl to $33.27/bbl.

(prices are as on 6th April 2020)

GETTING TO KNOW THE BASICS

Crude oil was at its’ all-time high of $147.30/bbl on 11 July 2008. Since then the advancement in drilling technologies and the emergence of the U.S. shale oil industry helped bring down the prices and made the U.S. the world’s largest oil producer since August 2018 (11.3 million bbl/day). The title was earlier held by Saudi Arabia.

The USA (13 million bbl/day), Saudi Arabia( 9.7 million bbl/day, before the price war) and Russia (10.8 million bbl/day) are the worlds largest oil producers. They in total account for 33% of the total daily oil produced worldwide (101 million bbl/day).

The OPEC (Organization of the Petroleum Exporting Countries) is an inter-governmental organisation of oil-exporting countries. OPEC aims to stabilise oil prices in international markets by increasing/reducing the amount of oil produced. At all times lot of attention is also given to ensure a steady income for the oil-producing countries. It includes countries like- Saudi Arabia, Russia, United Arab Emirates, Iran, Iraq, Kuwait etc.

Though cheap oil is good for all countries that rely on importing oil for consumption, it is not good for all those who export it.

THE PRESENT SITUATION

Coming to the present, oil prices have been in a free-fall due to the dropping demand as industries shut operations and people are confined to their houses due to the ongoing lockdown ordered by Governments all around the globe to contain the rapidly spreading COVID-19.

ROLE OF OPEC IN FALLING PRICES

When OPEC failed to make a deal between two of the largest oil producers of the world- Saudi Arabia and Russia, it led to an oil plunge- presumably, the greatest since 1991- after Saudi Arabia announced that it will slash prices and ramp up its oil production to 12.3 million bbl/day from its current production rate of 9.7 million bbl/day.

This followed post the meeting where OPEC recommended additional production cuts of 1.5 million bbl/day which was rejected by Russia. This adjourned the meeting with no clear directive about production and allowed everyone to produce any amount they wished to capture market share. This chain of events has led to the greatest fall of oil price since 1991.

WHO ALL ARE AFFECTED?

U.S. shale oil industry has suffered the most due to the slippage of oil prices in the range of $20-$30/bbl. In order to break even, they would need the price of oil to be at about $50/bbl.

Russia needs a slightly lower price at about $40/bbl to remain profitable.

Saudi Arabia can produce the cheapest oil, but the high spending by the Government has raised the break-even price of oil to about $80/bbl.

Therefore it seems that Russia has the most favourable production cost/break-even ratio among the world’s top three producers.

Impact of falling prices for India

As India primarily is an oil-importing country (India imports about 83% of the oil it consumes), at first glance it would seem that it would benefit this fall in oil prices.

The point to be understood here is that when India purchases oil, it cannot pay in its own currency i.e. in Rupees, but needs to pay in U.S. dollars. Rupee has been falling vis-a-vis the U.S. dollar, therefore making it difficult for Indians to fully capitalise on this fall in oil prices.

Also, as has been the case in the past also, whenever the oil-prices fall, the Government increases the taxes on petrol and diesel, thereby limiting the benefits of falling prices to the consumer.

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