Causes of rise in oil prices
A major reason for the rise in oil prices is due to the supply and demand situation. On the supply side oil producing countries have been suffering from problems. Nigeria had been the 6th largest oil producing country but it has been experiencing a lot of political unrest. Local communities seized at least 15 oil stations which they considered was a pay back for their perceived losses. One of these stations belongs to Shell which is a major oil company and its output has declined sharply. This turmoil has cut down at least 75 of the 500,000 barrels that it produced.
Second Oil output in Venezuela has declined by almost a million barrels per day since Hugo Chavez became the president. Huga Chavez was also elected as the president of OPEC. At that time OPEC has become weak and had lost its influence. Oil prices were hitting a record low as countries were producing above their quota limits and countries like Russia were expanding their industry. So Hugo made sure that the countries produced oil according to their quotas, this reduced production and several other factors lead to the increase in oil prices. Also in December 2002 a strike was done to topple the president which resulted in a loss of almost 3mn bpd of crude oil. This brought a sharp increase in oil prices, the effects of which had lasted till 2005.
Recently a severe shortage of water has taken place in Venezuela it is the worst drought in 50 years and has dried up rivers and streams that generate hydroelectricity causing electricity shortages in the country. 73 of the electricity of the country is provided via dams. To prevent long hours of blackouts Chaves might decide to divert electricity from oil production. According to CIAs world Fact book Venezuela is the 10th largest producer and exporter of crude oil in the world and contributes about 2.19 mnbpd to the global market (2007). It has 3.5 of the world oil supplies. Another source mentioned that Venezuela is just weeks away from shutting down 75 of the nations electricity production this will cost nearly a million barrels per day of oil imports to USA.
Third, the war in Iraq has caused oil production to decline substantially. The corruption in the government has also hampered any infrastructure development to take place. Crude oil production is important to Iraq due to the revenue it brings in but despite all the efforts the production remains below pre-war level. One main reason is that the key export pipeline has not been operating properly. The Northern route has been sabotaged which means that a third of Iraqs production capacity has been cut off from international market. It was expected that Iraq will be able to start producing 3.5mnbpd within 18 months and 5 or 6 mnbpd in a few years. However this has not happened and production remains at 2mnbpd. This has further fuelled the increasing oil prices.
Fourth, the recent tensions following Israels attack on Lebanon has increased the risk that the Middle Eastern countries will get involved in the war. Iran has made it clear that it is will use oil as a weapon by cutting off its exports, just as it did after the Iranian revolution in 1973, which overthrew the US friendly Shah Pahalvi. With Iranian exports of nearly 3 million bpd another such cutoff will result in another price spike.
Fifth, the devastating hurricanes in the Gulf of Mexico have caused further problems. The normal production in the Gulf of Mexico is 547.5 mnbpd of oil, in Hurricane Katrina alone, the production fell by 1.4mnbpd. This accounted for 95 of the daily production. This also contributed to the oil price hike.
Another problem is that many oil fields are passing their peak output. Oil fields rise to a peak, which is the point where more than half of the oil has been extracted. Once an oil field in past its peak the decline is very rapid and each barrel becomes more difficult to exploit and is more costly although the oil is there it becomes difficult to exploit it. Many of the oil fields have been giving less and less output. For example a very large oil field discovery in the Western Hemisphere in 1991 was made by 2002 its production had declined from 500,000bpd to 200,000. Numerous others examples exist. So it can be said that the increase in oil prices is also due to a oil fields reaching their peak and no discovery of new fields.
Along with the supply side issues demand side issues have also emerged. China and India have been going through a process of industrialization. China has a GDP growth rate of almost 8 to 10 which makes it the fastest growing economies of the world. Its need for energy is expected to increase by 150 by 2020, to sustain its growth rate china requires more and more oil. Its oil consumption grows by 7.5 per year which is 7 times faster than US. The industrialization, however, has a price to pay by way of tripling of the oil demand. In china the demand has tripled since 1980 which has converted a self sufficient country into an importer of oil.
China form almost one-third of the population. Demand for China and India alone is expected to double in the coming decades as their economies grow, people will demand more automobiles and will move to urban areas. This is disturbing the energy balance of the world profoundly.
Today China consumers only a third of US, which consumes a quarter of the worlds oil each day. By 2030, India and China together will import as much oil as US and Japan do.
American demand for oil is constantly on the rise too. Europe has managed to control its demand by high taxes on gasoline and efficient cars but America has not. Oil consumption of the US has jumped to 21 mnbpd from 17mnbpd in the 1990s.
If China and India were to consumer as much oil per person as an Americans do the consumption of oil would be more than 200 mnbpd.
Global demand of oil is expected to rise to about 115mnbpd by 2030 and the demand is expected to outpace the supply.
Another argument is speculation, some people go as far as to say that all the other goe-political causes are a farce and speculation is the only true cause. Goldman Sachs and Stanley today are the two big leading energy trading firms in the US. Citigroup and JP Morgan are the major players and fund numerous hedge funds. In June 2006, oil was traded in the futures market at 60. It is estimated that at least 25 was dye to speculation. One analyst even suggested the real crude prices were 25 not 60. So much so that of the 115 price 50 to 60 was due to pure hedging and speculation. However given the unchanged supply and demand of oil in recent months and the rise in oil futures prices traded in Nymex and ICE exchanges in New York and London, it is likely that at least 60 of the oil price was due to speculation.
Speculators have given oil refineries an incentive to buy and store crude oil. They have pushed the price of the futures contracts so a refiner buys the oil now if the futures price is even higher. Because of this crude oil is being stored and its inventories are growing, this has lead to a situation where both the supply and prices of oil are higher.
Recently the price trend has seen a reversal and oil prices have started dropping. Today the price stands at around 75 after having reached a peak of 150. The reasons for the price drop are various.
Firstly the price hike led to a decline in demand. US, which is the largest consumer of oil experienced a decline of 5.4 in 2008 as compared to 2007, this meant a decline of 1.1 mn bpd. Americans started driving less, it was reported that this decline was around 5.6. Asian countries also started removing the subsidies on oil that they had made to dampen the effect of the price hike, governments started passing on the price hike to the consumers which led to a decline in demand. Also the economic slow down also had its effect, this time the oil demand was dependent on the business cycle boom bust, and the economic slow down has caused a decline in demand of oil from the business sector.
Second, the price hike led to more exploration and discovery of new oil fields for e.g. Canadian oil fields now produce 1.1 mn bpd. And new deep water rigs like Tahiti (125,000 bpd) are about to come online. Governments are also making an effort to encourage exploration, Russian government has announced tax cuts and tax holidays which would result in an increase if 45 million tons, an additional 10 above their current output.
Explorations in Brazil are also proving fruitful. Brazil has recently discovered a huge offshore field that contains around 5 to 8 bn barrels of oil, enough to expand the countrys reserves by 50. Brazils offshore oil is being found in Espirito Santo, Campos and Santos Basins, these explorations are likely to increase the supply of oil as well. Thus declining demand and increasing supply are the major reasons behind the fall in prices.