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Oil on the up, again(Economist.com Via Thomson Dialog NewsEdge)The oil price reached $68 a barrel on Friday, January 20th, amid worries about the security of supply from Iran, the world's fourth largest exporter, where there is talk of possible economic sanctions. Adding to the tension, oil firms in Nigeria, the eighth biggest exporter, have been attacked by militants. And Osama bin Laden has released an audiotape threatening more attacks on the west. With demand from Asia as firm as ever, oil is heading in only one direction FOR those with long memories it seems so familiar. Tension in Iran, where America and its allies are squaring up against a tough Islamist regime, coincides with an already-tight oil market. The result is soaring prices and angry consumers across the globe. A war in Iraq exacerbates the problem, cutting supplies and increasing market volatility. The pressures on the global oil price today seem to have much in common with those on the price in the early 1980s, when outsiders struggled to cope with the impact of Iran's revolution and a huge border war between Iran and Iraq. This time round the headline news is that Iran's firebrand president, Mahmoud Ahmadinejad, has reacted to growing criticism of his country's rekindled nuclear programme with threats to withhold all or part of Iran's oil production from world markets. He warns his critics, notably those who dare suggest economic sanctions might be threatened, that they need Iran (or at least its oil, for Iran is the world's fourth largest exporter) much more than Iran needs them. On Friday, January 20th, an unnamed Iranian official told Reuters that the government was shifting funds out of European banks in an attempt to thwart possible sanctions, suggesting that it expects the conflict to escalate further. Understandably, the market has reacted rather sharply. By Friday, the price of oil had crested $68 a barrel, a level not seen since September, after Hurricane Katrina shut down a sizeable portion of American production and refining capacity. It no longer seems impossible that oil prices might once again reach the heights they attained in the wake of the 1979 Iranian hostage crisis, when they hovered around $90 a barrel. The tension between Iran and the West is but one of the worries oil traders must contend with. Iraq has not yet managed to get oil production consistently above its pre-war averages, much less the peak reached in 1979, on the eve of the Iran-Iraq war. The Bush administration recently said it will not ask Congress for further reconstruction funds that mightif the security situation allowedhave enabled Iraq to reach its peak levels once more. Nigeria, too, is suffering from attacks on its oil industry. Last week militants snatched four foreigners from a platform run by Royal Dutch Shell, spurring the company to slash its production by over 200,000 barrels per day (bpd), nearly a tenth of the country's output. On Wednesday they threatened to extend a campaign of kidnapping and sabotage to all foreign oil companies working in Nigeria, producing anxious talk that production could drop further. And to top things off, Osama bin Laden has released another audiotape threatening more attacks in the west, which conjures up unpleasant visions of even greater unrest. It all makes oil traders feel as nervous as a long-tailed cat in a room full of rocking chairs With global production capacity tight and demand still strong, it would be hard for current producers to replace more than half of Iran's output, which averages roughly 4m bpd. If Iran were to pull all of its supply off the market, world oil prices might well flirt with the record reached after the last Iranian crisis. In gas-guzzling America, that oil shock was followed by the worst recession since the second world war. Given the world's current dependence on American consumer demand to drive global GDP growth, this certainly gives one pause. Cut off my nose, spite my face But while it might be technically feasible for Iran to halt production for a timeit might mothball wells or put the oil it produces into storageeconomically it would be disastrous. In the short term Iran would lose the revenue it earns by selling oil. The costs could be greater in the long term. The price surges of the 1970s and early 1980s provoked a collapse in demand, as governments lifted fuel taxes and consumers sought more efficient products, particularly cars. The high prices also spurred exploration in non-OPEC countries, which held down the price of oil even after demand started to rebound. OPEC's oil revenues in 1980 were three times higher than the average annual take in the two decades that followed. While it is not in Iran's interest to encourage others to use less oil, Iran's government may believe demand which has confounded the petroleum pessimists will remain strong in the long term. Since prices broached $40 a barrel in 2004 economic analysts have been waiting for slower growth as consumers tighten their belts, and their petrol caps, in response to higher prices at the pump. So far, however, there is little evidence that pricier petrol is pinching in the household. In America, where owning a gas-guzzling sports-utility vehicle (SUV) seems to be all but mandatory, GDP growth has far outpaced more conservation-minded peers in Europe and Japan. Only in recent months do sales figures indicate that American car buyers might be considering fuel economy as carefully as alloy wheels and towing capacity. But then, only in recent months have oil prices hovered around $60 a barrel, more than double the average in 2003. Until recently, economists have speculated that the current round of high prices may be fundamentally different from the oil crises of the 1970s, because they have been driven by rapid growth in global GDP and demand for petroleum, rather than by external supply shocks like the Arab oil embargo. This makes price increases more gradual, and the resulting effects on GDP more gentle. If GDP growth is hampered by higher oil prices, this should naturally decrease demand for petroleum products, leading to a graceful decline in prices until supply and demand are back in balance. But the troubles in Iraq, Iran and Nigeria concern supply, though hopefully not on the scale that caused so much economic misery in the 1970s. There may be a little economic misery on the horizon. While stodgy big economies like Germany's are finally showing signs of strength, the growth projected for them is nowhere near enough to offset US demand if the American consumer finally starts to flag. And is the American consumer sounding just a bit wheezy? Retail figures for the 2005 holiday season were underwhelming, and many see the first signs of slowdown in the frothy housing market. The latter had helped support the astonishingly strong consumer demand that has underpinned America's rapid recovery from the 2001 recession. Some forecasters are cutting their estimates for 2006. Oil producers haunted by the memory of the glut that followed the Asian financial crisis in the 1990s, when prices headed towards $10 a barrel, have been slow to bring new capacity onstream to meet surging demand. That may be changing. Although America's Energy Information Agency predicts global demand for oil will increase by 1.6m bpd in 2006, and by nearly 2m bpd in 2007, it believes that spare capacity will actually grow during that period, as non-OPEC producers begin pumping more oil. But all that extra supply will be needed if troubles in Iran, Iraq and Nigeria are not resolved. |