An escalation of geopolitical tensions in the Middle East, Libya and Ukraine will continue to add risks to the global oil markets, although oil prices have been largely stable since 2013, owing to a glut in supplies and a weaker-than-expected growth in demand. Global oil prices are an important economic indicator for businesses and consumers, as it affects inflation, households’ purchasing power, and industry’s production costs, thus having far-reaching implications for economic growth prospects.
Key points
- Regional political unrests have been on the rise since early 2014, with growing tensions from Iraq, Syria, the Gaza strip, Libya and between Russia and Ukraine. This will fuel the risk of disruptions in global oil supplies, as the Middle East and Russia are among the world’s largest oil producing countries/regions. The Middle East made up about one-third of global total oil production in 2013, according to BP Amoco;
- Nevertheless, global oil prices have remained subdued in the first half of 2014, driven by rising production and flat oil demand. The average spot price of Europe Brent crude oil stood at US$107 per barrel in July 2014, representing a month-on-month decline of 4.4%;
- The USA’s oil production capacity rose to 10.0 million barrels per day in 2013, soaring by 47.5% since 2008, due to a surge in shale oil extraction. Saudi Arabia is also extracting more oil to offset shortfalls caused by production disruptions in some countries in the region. Meanwhile, growth in oil demand has slowed, as a result of weaker-than-expected economic data from the eurozone and the USA in the first half of 2014;
- However, the outlook for global oil prices in the short term will continue to depend largely on geopolitical situations in the Middle East, North Africa and Ukraine, as well as on growth in global oil demand. A spike in global oil prices will affect economic growth prospects, reducing consumers’ purchasing power and putting downward pressure on company profits.
Rising geopolitical tensions impact global oil supply
An elevation of political turmoil in oil-producing countries recently has fuelled the risk of disruptions in the global oil supply:
- Unrests in the Middle East region have intensified since early 2014 with an escalation of the military conflict between Israel and Gaza, while the rise of the new Islamic State (formally known as ISIS, the Islamic State of Iraq and Syria) has boosted further turmoil in Iraq and Syria. This puts a significant upward pressure on global oil prices, as it can result in disruptions of oil production in the region. The Middle East accounted for 32.2% of total global oil production in 2013, according to BP Amoco’s statistics;
- Meanwhile, political conflicts in some parts of North Africa have showed signs of deepening, posing a threat to security and economic activities in the region. Libya is on the brink of a civil war, as fighting between rival militias has raged on since 2014 and the country is experiencing the worst violence since its 2011 revolution. Crude oil production in Libya already dropped significantly from 1.8 million barrels per day in 2008 to 1.0 million barrels per day in 2013;
- Tensions between Russia and Ukraine have escalated, as a rebel group in eastern Ukraine is believed to continue receiving support from Russia. The European Union (EU) has, therefore, tightened its sanctions on Russia, including a restriction on the export of certain oil exploration and oil drilling related products to the country. This may slow Russia’s new oil projects, leading to supply disruptions. Russia has been one of the largest oil producers in the world, with crude oil output reaching 513 million tonnes of oil equivalent in 2013.
Crude Oil Production in Selected Countries: 2008 and 2013
Source: Euromonitor International from BP Amoco, BP Statistical Review of World Energy
But increased production and moderate demand help to cushion prices
Despite the rising geopolitical tensions, global oil prices have remained subdued since 2013:
- In 2013, the average spot price of Europe Brent crude oil – a major benchmark price for oil purchase worldwide – stood at US$109 per barrel, representing a year-on-year decline of 2.7% over 2012 on the back of weak demand and rising oil production;
- The declining trend continued during the first quarter of 2014, whilst the crude oil spot price rose only slightly in the second quarter, driven by concerns over the Ukraine-Russia crisis and the Islamist insurgency in Iraq. However, in July 2014, the average spot price of both WTI Cushing and Europe Brent declined again by 2.1% and 4.4% month-on-month to reach US$103 and US$107 per barrel respectively;
Global Oil Prices: January 2010 - December 2015
Source: Euromonitor International from national statistics
Note: 1) Brent crude is a major classification of oil, used to price two-thirds of the world's internationally traded crude oil supplies. West Texas Intermediate (WTI Cushing) also known as Texas Light Sweet, is a type of crude oil used as a benchmark in oil pricing. (2) Data refer to average monthly prices. (3) Data are not seasonally adjusted. (4) Data from August 2014 onwards are forecasts.
- Ample supply from the USA has been a major factor containing global oil prices. Thanks to increased production of shale oil, the USA’s oil production capacity rose by 47.5% during the 2008-2013 period to reach 10.0 million barrels per day by the end of the period. Higher crude output has helped meet domestic demand, while cushioning global markets, as it helps to free global supply for other markets, such as Europe;
- Also, Saudi Arabia has been pumping more oil to offset a global shortfall caused by disrupted production in crisis countries, such as Libya and Iraq. In 2013, Saudi Arabia produced on average 11.5 million barrels per day, increasing by 8.1% since 2008;
- In addition, growth in oil demand has been flat since 2014, primarily due to weaker-than-expected economic recovery in the USA and the eurozone in the first half of the year. Economic growth in the developing world has also slowed on a broader basis since 2013. Annual real GDP growth for developing and emerging economies as a whole reached 4.7% in 2013, down from 4.9% in 2012.
Implications for the global economy, businesses and consumers
Global oil prices are an important economic indicator, as they affect inflation and have far-reaching implications for the cost of living, industrial production costs, as well as households’ purchasing power. Fluctuations in oil prices are thus an important factor for economic growth prospects:
- Largely stable oil prices throughout 2013 and in the first half of 2014 have helped to constrain inflation; increase consumers’ disposal income; and reduce industries’ production costs. The world’s inflation rate was stable at 3.8% in 2013 (compared to 3.9% in 2012), while global annual disposable income grew by 1.2% in real terms to reach US$6,718 per capita in 2013;
- Nevertheless, geopolitical risks from the Middle East and Russia will remain a significant factor influencing global oil prices in the short term. A further flare-up of tensions in these regions can cause a supply shock, as output falls back, due to the destruction of oil infrastructure or a halt in production, due to security concerns. This could result in a spike in global oil prices;
- Higher oil prices could hurt global economic growth, especially in the USA and Europe where recovery is fragile. A rise in energy prices will add to production costs and put pressure on households’ purchasing power. The eurozone posted a contraction of 0.4% in annual real GDP in 2013, while its growth was flat in the first half of 2014;
- Major emerging economies including China and India are also highly sensitive to rising oil prices. China’s imports of petroleum and petroleum products amounted to US$287 billion in 2013, the second highest level in the world after the USA. India’s consumption of crude oil increased by 21.1% during the 2008-2013 period.
Prospects
- Political turmoil in the Middle East, Libya and Ukraine could continue throughout 2014, while expectation for an ease in tensions is uncertain for 2015. Increasing geopolitical risks will, therefore, continue to counter ample oil supplies and anticipated weak demand from Europe and the USA in the short term. Euromonitor International forecasts that the average Europe Brent crude oil price will stay at around US$109 per barrel in 2014, before it climbs up to US$114 in 2015;
- According to BP Amoco’s forecasts, the global energy demand will continue to rise, driven by growth in emerging economies. However, the pace of growth will slow, rising by 41.0% during the 2012-2035 period. Growth in oil consumption is expected to expand the slowest among the major fuels to 2035, as consumption of other energy sources increases. Shares of the major fossil fuels, including oil, natural gas and coal, are still expected to make up around 27.0% of the world’s total energy mix by 2035.