Last week, oil prices were at a two-month low of less than $100 per barrel. Many analysts termed the drastic fall in prices a result of the domino effect
GIUSEPPE MARCONI | 2011/05/16
The price of crude oil is closely watched by market analysts and the common man alike. This is because the uncertainty associated with it brings frequent fluctuations depending on factors like the strength of the dollar, global politics, and natural disasters. This year has been a particularly unpredictable one and even the most seasoned speculators are having a tough time. Last week, oil prices were at a two-month low of less than $100 per barrel. Many analysts termed the drastic fall in prices a result of the 'domino effect'.
Causes for Decline
Oil had been trading at about $114 at the start of the week and this dropped to $97 by Friday. This fall came in the wake of reports of the death of wanted terrorist Osama bin Laden at the hands of the American forces. In just one week, the price per barrel fell by about $17. It was also the biggest weekly decline in more than two years.
Demand and Supply
The other elements that contributed to the fall in prices of oil were an increase in domestic stockpiles reported by the US Energy Department. The US stockpile stands at 367 million barrels which is the highest in about six months. It shows an increase of about 1.5 million barrels which has been partly due to a significant decrease in demand as compared to the previous year's figures for the same period.
Commodities investors exited from oil after being burned by declining silver and gold prices. The increasing popularity of energy efficient vehicles and cars using alternate fuels has given rise to speculation that the dependency of Western nations on oil will decrease significantly and there will be no way for oil prices but down.
There is also a theory that holds the psychological factor responsible for making the oil market an unstable one. The perceptions that the Middle East has about world issues are thought to be largely responsible for determining their trade policies with regard to oil.
The strengthening of the greenback also helped keep oil prices at bay. The performance of the dollar is inversely proportional to oil prices. For instance, if the dollar weakens by about .05 percent the dollar price of oil will rise by .05 percent since oil is traded in dollars. It is the same for other commodities such as gold and silver.
Hence, when the dollar weakens, these commodities appeal to holders of foreign currency. That is when they buy these items and sell it when the dollar rises as commodities then appear expensive.
US unemployment figures compounded the matter further and caused oil prices to stay down. News that OPEC (Organization of Petroleum Exporting Countries) may possibly increase their output targets after a meeting in June 2011, has also factored in determining oil price.
Oil Price and Recession
It is a fact that a strong economy translates into higher prices of oil since there will be a significant increase in demand. However, a sharp rise in oil prices can have an adverse impact on the economy and even bring about recession. When recession sets in, people choose to reduce their driving in an effort to cut costs. For instance, many employees will seek work from home options in an attempt to avoid commuting expenses. If more and more people do this, it will lead to a dip in demand for oil.
Similarly, during times of recession, people tend to cut down on spending in all spheres of life including home needs, grocery, gifts, and the like. When the demand for goods decreases, the need for retailers to ship items to buyers also goes down. Shipping in products from manufacturers is also reduced as a result.
The drop in oil prices has brought relief to many analysts who were worried it would worsen the economic situation globally. They opine that high prices will be a hindrance to economic recovery.
Oil producing nations hope that the demise of bin Laden might help ease tensions in the Middle East which will help increase oil prices. They had increased production after the breaking out of civil unrest in the Middle Eastern and North African nations. However, it is being seen that demand is falling though supply has risen. This is a strong indication that prices are likely to drop even further.
Many experts expect oil prices to drop to $80-$85 in the imminent future. Economic conditions the world over are steady and no drastic changes are being foreseen by analysts. Combined with the disaster in Japan, this is likely to cause crude oil prices to stay low for some more time. Though this may not appear to be good news for investors right now, it is a positive indication that economic recovery is on track.
Others contend that the dip in oil prices is just a temporary one. They opine that once the economy strengthens, there will be a spike in demand and the price of oil will inevitably begin to inch upwards. This school of thought also says that the present supply is insufficient to meet the needs of booming economies such as India and China, which will boost the price of oil soon enough.
Dramatic fluctuations are predicted to continue through summer 2011, with the rate staying somewhere between $90 and $120. This will be largely due to the rise in inventory, the lackluster US labor data, and the possible repeal of Oil tax breaks.
Published on 2011/05/16 by GIUSEPPE MARCONI