OIL DENOMINATED IN EUROS HITS NEW HIGH, LIKELY TO WORSEN RECESSION
By Walter Kurtz, Sober Look
Here is why crude oil prices, even without further appreciation, may create demand destruction in the EU. Denominated in EU currencies such as the euro or even more so in sterling, Brent crude is now at record highs (see chart 1).
The EU oil consumption has been tightly linked to the region’s GDP growth. The combination of these record energy prices for the EU (given weak currencies) with the Eurozone’s credit crunch will significantly reduce EU’s demand for crude in 2012. That’s why Iran’s stance to stop selling oil to certain EU nations should have zero impact.
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| Brent crude in GBP, EUR, and USD (Bloomberg) |
The chart below shows just how much EU’s demand for oil could potentially drop, given Capital Economics’ forecast for the GDP declines. Geopolitical risks aside, this certainly does not provide support for an extended rally in crude prices going forward.
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| Source: Capital Economics |
As we can see in the charts, the oil prices reached a peak at the end of 2008 after GDP in Europe and the US had already fallen the most in a decade. A link between price and demand is obviously missguided. The oil market is one of the most manipulated market I know.
This time is simply a replay, fueled by a massive liquidity injection from central banks and reallocation by many funds from equities to commodities. One can imagine that it would have the same consequence once again, a massive downward pressure on the economy followed by a crash.
Kobayachi wrote:
“A link between price and demand is obviously missguided. The oil market is one of the most manipulated market I know.”
No, you’re dead wrong.
The oil supply has mostly(but not completely) stagnated since late 2004. Basic economic theory states that as demand rises, and supply fails to catch up completely, prices will rise as the commodity becomes more scarce. And indeed, this is exactly what has happened.
True, speculation play a minor part(10-15 %) and QE around the world has also added to this. But neither explanation can survive without leaving out the most crucial part, which is the relative stagnation of oil. Most of the new oil has come from NGLs and refined products that you get from oil production anyway. Shale oil has had a very minor effect of lifting production. (Shale’s much bigger in natural gas than in oil).
The Saudis have never failed to use their much vaunted spare capacity. 2004, post-Iraq oil shock, was the last time they did it.
Many do not remember this now but President Bush back in early 2008 actually went to the Saudis personally and asked(begged) them to turn on the taps. He came back, humilated. He was asked on national TV why they won’t increase production and he did a gaffe(as defined when a politician accidently blurts out the truth). “It’s hard to produce something you don’t have”.
The Saudis have always come to the oil markets’s rescue when it was necessary. After 2004, when oil supply has stagnated relatively speaking, they have failed this.
They failed again when Libya went under. Now, the very definition of a ‘spare capacity’ is to use it in emergencies when supply is suddenly ripped away from the market. This is the most basic function of a ‘spare capacity’. Did Saudi Arabia turn on the taps? Again, as in 2008, no. The pattern post-2004 and post-stagnation is the same.
Oil prices has gone from the lower 30s and upper 20s which held for 20 straight years to triple digit oil prices. The only time they fall is when demand destruction sets in when the price is too high, which is now happening in Europe and slowly in America too.
Under normal conditions, prices decrease when there is more supply. When there isn’t more supply, the economy reaches a natural ceiling when oil prices act as a depressor and demand destruction sets in, the economy slows etc.
The West can’t have 3-4 % growth which is needed because then more oil will be consumed and that oil, precious little available, goes to China and India instead.
People just really read up on this because I find the ignorance astounding.
This is a good place to start:
http://www.theoildrum.com/node/8959#comment-875461
And now that the SPR is in the news again, this might be of interest:
http://www.aspousa.org/index.php/2011/04/pick-one-spr-or-recession/
@Mr. Smith
In the long term is quite obvious that oil will be scarce BUT now it’s not and all people posting your aguments are still unable to justify the fact that after LTRO 1 in december, BRENT skyrocketed 18% and this despite the fact the oil from Lybia is now returning while Iran export to US and UK is zero and negligible for all Europe except Greece. In the short term speculation is not 10-15%
Yes, it is. Brent has been around 110 dollars and went to 123~ ish. That’s within the 10-15 % range.
You need to understand what you are talking about.
But you don’t. And that’s the problem.
Mr Smith,
I’m sorry if reality doesn’t match your worldview, but that is no reason to simply dismiss any contrary perspective. You seem to confuse fundamentals with the short term price finding mechanism. What you point out is that oil supply is flat or decreasing since 2004 and therefore, on the long run, price have only way to go. I agree with that view and also think that the means will be higher than what we’re used to.
My point is that the short term price finding mechanism in the oil market is in the hand of a fistful of interconnected organizations which are dependent on capital movements. Those organizations seek to take advantage of those capital movements by directing prices in order to attract more investors, before they finally pull the plug and start over again.
Just take a peek at the charts, demand is diminishing or even collapsing right now but prices go up like we were in the midst of the greatest boom in a decade. Does that sound a functioning market, where price is defined by offer and demand to you?
Sincerely,
OK. So the Euro and the Pound were both much higher in 2008 during the last oil peak. One might even say anomalously high for both currencies. Since oil is a global commodity and is supply constrained, I don’t see how the prices in Euros has much bearing on global oil demand going forward. Especially with EU tax policy keeping the prices of gasoline high permanently in order to suppress demand. Now Chinese demand or the lack thereof, and demand in the US might be more significant to the global oil market.
100% untrue. Graph the SPX vs. the price of crude. You want crude to be RISING as when it has dropped the SPX has dropped with it and with that, the fortunes of the economy. Crude rising is a GOOD thing. I know it sounds distasteful, but the facts are the facts when you graph them.
Lagging or leading indicator? Correlation does not imply causation. Actually is the other way around, higher oil prices prelude economic contraction. And no, higher prices are not good for spending and consumption.
Get your facts straight.
The energy content of “all liquids” has been going down for years – ethanol and other non-crude liquids contain less energy per volumetric unit. Even for crude itself, which has become heavier over the years, the amount of energy per unit has been decreasing.
With respect to speculation, if one person buys a futures contract somebody else has to sell it. The total is always zero. So is the P/L (in absence of commision and margin costs).
If you were to lease a couple of VLCCs and fill them with crude you might drive up the price somewhat. But when you unload them, which you’ll do at some point, you’ll drive down the price somewhat.
I don’t understand how anyone can proclaim that the price of X good is Y percent determined by speculation. How can one determint this?
I don’t understand how one can think speculation isn’t a significant factor. http://www.timesnews.net/article/9042699/speculation-not-demand-or-regulation-behind-dramatic-gas-price-increases
How did oil go from $140 to $40 in 6 months a few years ago? Did that make sense from a supply and demand basis? Look at all the commodity ETFs that have been launched. LOTS of new money has come into commodities recently that correspond very well with price inflation.
1.80 Euros for a Litre of Petrol in Italy , Holland & Denmark now…….
http://www.energy.eu
Less credit money in your pocket + higher prices = demand destruction.
yeah – rising crude can’t be good for rising market
15kr a litre here … ouch. Thank god spring is around the corner so I can get out the bicycles.
No mention of peak oil as a factor?
http://www.youtube.com/watch?v=klvsD9AUSFc
Once the USD start rising again against the EUR, then we could see oil go down as well, AGAIN. Remember what happened in the 2nd half of 2008 ? In this regard the 1st quarter of 2012 resembles the 2nd quarter of 2008. And we all know what happened in the 2nd half of 2008 with e.g. oil. Right ?
When I look at the graph of oil then it seems to be heavily overbought.
One more factor is the expectation of rising oil prices arising from a possible Israeli attack on nuclear facilities in Iran.