Hyderabad: While the world is fighting the deadly Corona pandemic, the developments in the global crude oil market are sending shock waves across the oil producing economies across the globe.
The global crude oil prices once gain went into a tail spin on 6th April 2020,as Brent Crude fell 3.1% to $33.10 and West Texas Intermediate fell 3% to $27.50. This fall is a body blow to the crude oil sector which is already reeling under the pressure of downward price spiral.
The latest fall in these prices came in the wake of the postponement of the 6th April 2020 meeting between Russia and Saudi Arabia to make a deal on cutting the global crude oil supply.
Now this meeting is expected to held on 9th April 2020. This fresh development came in the wake of Russian President Vladimir Putin blaming the oil-price collapse on Saudi Arabia by pulling out of the more than 3-year-old OPEC+ deal and Saudi retorting his claims.
On the other hand U.S. President Donald Trump threatened both the parties that he would impose tariffs on the oil imports to U.S from these countries, if they fail to strike a deal.
Now the world is eagerly awaiting the outcome of this meeting, given the geo-political ramifications it would have to the rest of the world.In this context it is pertinent to understand what brought the oil prices where they are and where it would go and its repercussions to the global economy.
The Supply-Demand Dynamics and Price War:
The rout in the global crude oil prices can be largely attributed to the demand and supply dynamics of the industry that are in play. A barrel of crude oil, that was trading around $70 in the beginning of this year, is now trading at around $30 per barrel in a matter of less than three months.
The first reason is declined demand for the crude oil, due to the outbreak of the deadly COVID-19.The outbreak of Corona Virus, with China as the epicentre took no time to envelop Europe, and United States, forcing majority of global population indoors.
As a result the global economy came to a standstill and the manufacturing and transportation came to a grinding halt. This evaporated the demand for oil, driving their prices towards south. At one stage the prices of crude oil even slipped to nearly $20,the lowest in the last 18 years, which depicts the severity of the situation.
Like an insult to the injury, the price war between Saudi Arabia and Russia aggravated the situation further. This is the second reason for the present state of affairs in the global crude oil market.
The powerful cartel of Organization of petroleum Exporting Countries(OPEC) that dominated the global crude oil supply for decades faced a set back with the increasing capacity of the United States to produce crude oil.
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In order to retain its dominance over the global prices of oil, this cartel formed ‘OPEC plus’, which included the OPEC countries and Russia, another oil producer. In fact they had stuck a deal to limit output and keep prices around $70, in order to keep their economies well off.
On the other hand the American dominance in the crude oil supply kept on growing and by 2018, it emerged as the largest producer, thanks to its shale gas. While the OPEC plus was engaging to tighten their control over the global crude oil market, the Corona pandemic came as a bolt from the blue, where the demand decreased and resulted in a steep fall of prices.
At this juncture, Saudi Arabia, the largest player of OPEC asked Russia to cut down its production, so that the oil supply become lesser, which would help to keep the prices higher.
However Russia declined to do so, as they see the rout in the crude oil prices as an opportunity to give a death blow to the U.S shale gas companies, which could not survive if the prices are below $50 per barrel. Already many shale gas companies would be on the brink of collapse and a sustain fall in prices would wipe them off from the market itself.
However Saudi Arabia retaliated the stance of Russia by taking an extremely step of going for excess production of oil, in such a way that it would drag Russia to the discussion table and accept to the terms they lay further.
In the entire process the crude oil prices plummeted and the U.S shale gas companies faced a collateral damage. This is in fact the real reason behind Trump’s furious response when the Saudi-Russia meeting got postponed on 06th April 2020.
The Challenges:
While the stalemate continues it is widely estimated that Russia could survive the crude prices between $45-50 per barrel, while Saudi could survive even far lesser than this. However the limitation for Saudi is, it needs higher prices to continue in order to fund its exorbitantly expensive domestic budgets.
Thus it is expected that the meeting between them, scheduled on Thursday will bring in production cuts and thus increase the oil prices. However there are challenges here. The first challenge is, how the prices would respond to a supply cut.
It is pertinent because, the price does not depends upon supply alone. Even the demand plays a role. At a time when flights are grounded across the world, major oil consuming economies like China and India under lockdown, demand cannot be expected to renew in the short term.
This leads to the second challenge whether the Saudi would be able to convince the other OPEC members to go for a production cut. Even it is not sure how much quantity of supply Saudi would be willing to forego, given the uncertainty of the price responses.
The third challenge is the role of U.S. Even it has to go for production cut if wants higher prices. But the capitalist system of America does not allow a unilateral decision to cut production, where private sector shale companies operates and in fact the Government may have to face legal challenges if it brings a legislation to do so.
Despite all the factors, even production cuts are agreed upon at the Thursday meeting, it is not going to reverse the present trend. In fact the International Energy Agency estimated that global demand for oil would fall by 90,000 barrels per day in 2020.
Even the Global oil giants around the world expect that prices could plunge another 20-25 per cent. Moreover, the U.S’s domestic issues with implementation of production cuts, and the impact of COVID 19 on demand for oil is neither in the hands of Russia and nor in the control of OPEC.
Thus all said and done, low global crude oil prices is the new reality and the good old days of dreaming of $100 per barrel is a distant dream now.
Stakes for India:
Given this new reality, India has large stakes, given the fact that crude oil is one of the largest components of India’s import basket. India meets around 82% of crude oil needs through imports.
In fact India spent $87 billion on oil imports in 2018-19. Being the world’s third largest oil importer and world’s fourth largest buyer of Liquefied Natural Gas(LNG), a cheap global oil price is a great news for a large and highly populated country like India.
There are positive expectations that lesser oil prices means lower import bill and improved current account deficit for the Government of India. At a time when the tax revenues are expected to fall due to slowing economic growth, induced by the COVID-19 effect, this savings on the crude oil import bill could help India’s fiscal situation to hold a stable ground.
However, the major concern at this point is, domestic fuel prices are not falling to the extent the international crude oil prices are falling, although India has a mechanism that links the global crude oil prices to the domestic prices.
Even after taking account of the refining costs, distribution costs of the oil marketing companies, profit margins of the retailers, the petrol and diesel prices in the country are higher by any count. One argument is that the exchange rate of the rupee has been depreciating over a period of time visa-vis Dollar, and thus making the crude oil costlier.
It is true to some extent but it is to be noted that rate of fall in the oil prices is steeper than rate of fall in rupee’s value. It simply means that India is still making wind fall gains due to low prices of oil.
Thus,even if we take these exchange rate changes into consideration also, still the domestic prices are higher, relative to the global prices.
The fact is that the taxes by both central and the state governments, altogether are contributing to higher prices of petrol and diesel in India although there is a huge decline in the global crude oil prices in the recent past.
While cutting taxes at this point may not be considered by the Government at this point, restraining from imposing new taxes would go long way in benefiting the ordinary retail customers of the country.
Ever since lockdown, the taxes on domestic fuel prices have not been increased and continuing this trend for a longer time, would help transfer the benefits of falling crude prices to the customers at ground level.
(Article by Dr.Mahendra Babu Kuruva. He is an Assistant professor, H.N.B.Garhwal Central University, Uttarakhand. Views expressed above are personal.)
