Oil and the Global Economy
Prices rose steadily through Thursday last week as the threat to supplies from worsening Middle Eastern situations outweighed slackening demand from the weakening global economy. On Friday prices retreated a bit on profit-taking, after a $16 a barrel gain in the last five weeks, and a strengthening US dollar. London oil closed the week at $106.83 and NY at $91.83.
NY gasoline futures continued to climb all week and are now up nearly 50 cents a gallon since late June and at $2.94 a gallon are approaching the circa $3.05 highs seen last April. Average US retail gasoline prices have hardly moved at all in the past month however. The weekly US stocks report showed US gasoline inventories falling by 1.8 million barrels the week ended July 13 in the face of a 700,000 barrel increase expected by analysts. US gasoline demand over the past four weeks was about 3.3 percent lower than last year. This is an improvement from the 4 percent drop seen in recent weeks giving the markets some hope that things may be improving.
US natural gas futures hit six-month highs last week above $3 per million BTUs as high temperatures continued across much of the US increasing the demand for air conditioning. Forecasters are saying that the extreme weather conditions will continue through much of August.
A litany of economic gloom was sounded across much of the world last week as one senior official after another warned of more economic hardships ahead. In Washington, Federal Reserve Chairman Bernanke offered a gloomy outlook for the US economy in testimony before Congress. He failed to offer any hint that the Fed would soon resume the quantitative easing that could stimulate the economy and raise oil prices.
The IMF warned that risks to global growth “loom large” as it trimmed its forecast for 2012 global economic growth slightly to 3.5 percent. The fund warned of larger than normal downside risks later this year due to a slowdown in emerging markets and fiscal turmoil in Europe. The fund cuts growth estimates for China to 8 percent, India 6.1 percent, and Brazil to 2.5 percent. The IMF also warned that some Eurozone countries could suffer a debilitating deflation in coming months and called on the ECB to pump more money into circulation.
The sentiments in Washington were echoed by China’s Premier Wen Jiaboa who noted that economic difficulties may continue for some time. These remarks came after it was reported that Beijing’s economic growth in the second quarter fell to a 3 year low of 7.6 percent.
2. Middle East in turmoil
The Syrian uprising reached a turning point last week when rebel forces entered Damascus and engaged in heavy fighting with government forces. This action was accompanied by the assassination and wounding of several of President Assad’s inner circle when a bomb exploded in the midst of a key meeting. The rapid deterioration in the security situation has resulted in mass exodus from the cities to the relative safety of neighboring countries and rural areas. President Assad’s Alawite tribe which has ruled the country for the last 40 years comes from the coastal mountains north of Lebanon. Many Alawites are fleeing to the relative safety of the region in fear of the revenge that the Sunnis are likely to exact if they gain control of the country.
Also of concern is the large stock of chemical weapons that the Assad government has stored as a deterrent against the Israelis. Israel and most other concerned countries fear that at least some of these weapons may fall into the hands of extremists who will use them in their ongoing confrontation with Israel and the Western powers. Israel is ready to conduct military raids into Syria to secure the chemical weapons if the government collapses.
The repercussions of the deteriorating Syrian situation are likely to play out across the Middle East for many months. With Russia and Iran whole-heartedly backing the Assad government, Assad’s fall is likely to have many short term implications including the fate of the thousands of ethnic Russians who have married into Syrian families during the 40 years of close Russian – Syrian friendship.
The confrontation between the Kurds and Iraq’s government has become worse following the Kurds decision to tanker oil into Turkey. Relations have deteriorated to the point that the Kurds are refusing to allow additional Iraqi troops into Kurdistan to secure the border against Syrian refugees.
The bombing of a tourist bus filled with Israelis in Bulgaria last week, which is being blamed on Hezbollah and Iran, is thought to be in retaliation for the murders of Iranian nuclear scientists. If history is any guide we should be hearing of Israeli retaliation for the Bulgarian attack shortly.
There was little news concerning the Iranian oil embargo last week. Iran’s Parliament, which has little say in the matter, keeps announcing legislation to close the Straits of Hormuz in retaliation for the embargo. The US seems to have rounded up 20 countries to take part in a minesweeping exercise in the Straits of Hormuz. The number of participants in the force should give some pause to Tehran before it attempts to shut off a sizeable share (17 million b/d) of the world’s oil exports.
3. The drought worsens
The forecasters say the drought in the Midwestern US will likely continue through August causing considerable damage to summer crops. Some are already suggesting that the US corn crop could be down by as much as 30 to 50 percent this year. This situation obviously will have an impact on the oil markets before the summer is over and may well be a factor behind the 50 cent a gallon increase in gasoline futures we have seen in the last few weeks.
US capacity to distill corn ethanol is now approaching the 15 billion gallons per year mandated by Congress and ethanol currently provides about 10 percent of the US’s “gasoline” supply. Crop failures of the magnitude currently anticipated will certainly lead to higher food prices and pressures to stop burning our food supply in automobiles. With corn prices at record highs of $8 a bushel, the economics of corn-based ethanol is also questionable. The 46-cent a gallon subsidy to ethanol producers expired at the end of last year so the markets are fully exposed to the forces of supply and demand. If food prices get too high, there is likely to be pressure to relax the federal mandate on using ethanol.
There are issues beyond US food and fuel prices however. US corn and soybean prices are already above those seen in the 2007-2008 food crisis, although world wheat and rice prices remain relatively low and supplies of these commodities are adequate. How the corn and bean shortages play out over the rest of the crop year will be interesting.
Quote of the week
"I agree with Maugeri that new production from places like the United States and Iraq is going to be very helpful. But I think he substantially overstates the case for optimism. If we are counting on sources such as shale/tight oil, oil sands, and deepwater to replace production lost from mature conventional oil fields, the days of cheap oil are never going to return."
- James Hamilton
The Briefs (clips from recent Peak Oil News dailies are indicated by date and item #)