Impact of Low Oil Prices on the Global Economy

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Impact of Low Oil Prices on the Global Economy

The unexpected fall in world market prices for oil in the last three years since the summer of 2014 is comparable to other similar episodes in global oil prices in 1986 and 2008 to 2009. The decline in oil price form the year 2014 could be attributed to the critical increase in the supply of oil, but more recently, the lower price of oil has evinced weaker global demand. A broader look at the suppler side shows that significant technological innovations and investment, especially in the shale oil extraction resulted in a surge in oil production at a time of weakening growth, particularly in emerging energy-intensive market economies, thus, leading to a downward pressure on oil prices. A concurrent decision by the OPEC in 2014 to maintain production quotas also intensified the decline in prices of oil amid rising oil inventories. These are plausible explanations that this paper will explore in order to determine the cause of the low oil prices. More importantly, this paper will explore the global implications of low oil prices with an aspect of Saudi Arabia’s role as a leading net oil exporter and special focus on the economic and production merits and demerits in discordant nations or economies with an aim of providing a vivid view of the impact of low oil prices on global economy.

 

 

 

Impact of Low Oil Prices on the Global Economy

 

 

LITERATURE REVIEW

Fall in Oil Prices

Fluctuations in oil prices have played a prominent role in driving economies into recession, with some regimes even collapsing. It is for this reason that movements in oil prices are closely watched by investors, economists and policymakers globally (Majumdar, 2016). Historically, the volatility in oil prices was attributed to shocks in supply and demand of oil based on a combination of geopolitical factors, technological changes, business cycles and the discovery of novel oil fields (Majumdar, 2016). However, in the past one and a half decades, there has been an interplay of all these factors that has resulted in oil price fluctuations. For instance, there was a surge in oil prices in the period between 2003 and 2008 due to an unanticipated global economic boom, particularly in the emerging Asian economies such as India and China. While there was a boom in these Asian economies, oil producers failed to keep up with the increasing demand. Moreover, the rising stock in anticipation of increasing demand only added to the prevailing demand pressures (Majumdar, 2016). As a result, by May 2008, oil prices nearly doubled reaching a figure of $113 (Majumdar, 2016).

It is imperative to note that the year 2008 was marked with a financial crisis that resulted in a brief fall in oil prices. Nonetheless, the oil prices quickly picked up due to strong economic growth in some of the emerging countries. This provisional rise in oil prices after the 2008 financial crisis was quickly met with sporadic oil supply disruptions due to the civil wars and political uprising in some of the Middle East nations. Based on this political and civil atmosphere in the Middle East, in 2010 oil prices were $100 per barrel and remained steady at $90 to $120 in the period between 2011 and 2014 (Majumdar, 2016).The biggest drop in oil prices was experienced in the period between June 2014 and January 2016 whereby oil prices dropped by over seventy percent.

According to Husain, Arezki, Breuer, Haksar, Helbling, Medas and Sommer (2015), there was a decrease in oil price by approximately fifty percent between June 2014 and January 2015. This decrease in price can be defined through discordant phases. For instance, the initial gradual fall in oil price was from $110 a barrel of oil to $80 a barrel in June prior to the OPEC meeting in late November. Subsequently, as Husain et al. (2015) state, the price of Brent oil fell sharply to below $50 a barrel by early January 2015 before the price recovered in apart to approximately $65 a barrel in May 2015. After the OPEC meeting, oil prices have ranged between $70 and $75 a barrel. Both demand and supply factors contributed immensely to this sharp decline in oil price. However, supply factors have played a more prominent role in the fall in oil prices.

As Husain et al. (2015) state, analysis of the revisions to International Energy Agency’s (IEA) supply and demand projections indicate that both demand and supply play crucial roles in the determination of oil prices. For instance, higher supply projections emanated from positive non-OPEC developments, particularly the United States shale oil and better than expected OPEC output in Libya, Iraq and Saudi Arabia. This point is reiterated by Majumdar (2016) who states that the massive seventy percent drop in oil price between June 2014 and January 2016 can also be attributed to increased supply due to the advancing technology and new oil fields in the United States that enabled United States oil producers to increase production and the faster than expected resumption of oil production by Iraq and Libya. Moreover, apart from the resilience by United States companies to continue supply despite the falling prices, there was increased production of oil by Russia, Canada and Iran after sanctions on the country were lifted (Majumdar, 2016). Nonetheless, the biggest contributor to the drop in oil prices has been the unwillingness of Saudi Arabia to not counter the increasingly supply of oil and instead maintain the production of oil at historically high levels in spite of the perceived surplus (Majumdar, 2016). On the part of demand, the analysis revealed that weaker than anticipated demand emanated from Asia and Europe. Thus, the supply of oil outstripped the demand.

Husain et al. (2015) are of the opinion that econometric techniques such as univariate regressions with an assessment of vector error auto-regressions and global economic activity, place a heavier weight on supply factors than demand factors in clarifying the fall in oil price. While such econometric approaches are vital, they are limited in the fact that they do not provide for the role of changes in strategic behavior and expectations, including those in OPEC. Alternatively, recent oil price fluctuations may have been aggravated by changes in the opinions of financial investors. However, there is no sufficient evidence to espouse the perception that financial speculation led to the movements in oil prices (Husain et al., 2015). According to Cheng and Xiong (2014), non-commercial trading of oil options and futures has rapidly increased over the past decade and changes in aggregate noncommercial positions may have intensified fluctuations in oil prices. This argument can be supported by the fact that the steep drop in oil prices in late 2014 and early 2015, which was for the major part reversed in subsequent weeks, occurred at a time when equity prices of energy firms which reflect the expectations of longer-term oil prices and have a vital bearing on the profitability of oil companies, were broadly flat (Husain et al., 2015). Therefore, the 2014 drop in oil price broadly reflected oil market fundamentals.Impact of Low Oil Prices on the Global Economy

In as much as changes in investment positions of noncommercial players, that is, players other than those producing and consuming oil, in future markets have attracted global attention, there are certain reasons that make it difficult to pin-point the role of financial investors in driving oil prices. For instance, oil prices and the stocks of energy companies diverged to an unusual extent in late 2014. Notwithstanding, at the same time, the net long position of speculative players improved even as the prices of oil continued to fall (Husain et al., 2015). This indicates that during this period the financial flows of investors were not driving or influencing the trajectory of oil price fluctuations. Another reason is that by contrast in 2015, the prices of oil rebounded despite operating in oversupplied market. As such, it is difficult to evaluate whether the rebound in prices was as a result of purely financial factors or news pointing to a future tightening of oil market balances as Barclays (2015) reveals. Therefore, in as much as financial investment positions and sentiments of noncommercial players play a vital role in influencing price fluctuations, this was not the case for the fall in oil prices. It is mostly supply and demand factors and associated econometric techniques that influenced oil price fluctuations and eventually led to fall in oil prices. While consumers demand for oil forms a critical aspect of the oil industry, as mentioned above, it is the supply factor that mostly affects changes in oil price. As such, it is vital to explore and evaluate the supply side from the perspective of a leading oil supplier such as Saudi Arabia to get a vivid glimpse of how oil strategies affect oil prices and the global economy.

Saudi Arabia’s role-impact of Low Oil Prices on the Global Economy

Saudi Arabia’s influence on the global oil market is largely unchallenged due to the numerous state owned oil wells in the country that supply oil all over the world. It is vital to note that Saudi Arabia’s role in the oil industry and decision parameters since the discovery and production of oil in the Kingdom have been determined by discordant factors. First, Saudi Arabia possesses the world largest crude oil reserves that are equivalent to twenty to twenty-five percent of the world’s proven reserves (Al-Moneef, 2011). Hence, as a result of the large size and production life of its oil reserves, Saudi Arabia plays a major role in global oil market. Second, Saudi Arabia has a robust and diverse exporting network, including Europe, the United States and the Far East. This diversity of crude oil types exported and outlets offers the Kingdom marketing flexibility and denotes the international consequences of its oil policies (Al-Moneef, 2011). Third, Saudi Arabia has a large crude oil production capacity and as such, maintains large surplus capacity available so as to face demand surges and market interruptions. The Kingdom’s role has been extremely useful to soften the effect of major oil supply interruptions such as Iraq’s invasion of Kuwait, hurricane Katrina in 2005, the Iran-Iraq war, the Venezuela crisis in 2003 and the Libyan crisis (Al-Moneef, 2011). Finally, oil plays a significant role in the national economy of in that for the past three decades, oil has represented eighty-four percent of Saudi Arabia’s revenues, thirty-five percent of its GDP and ninety percent of its merchandise exports (Al-Moneef, 2011). These rates outline the high interdependence between Saudi Arabia’s domestic and international oil policies.

The four factors mentioned above have influenced the development of Saudi Arabia’s oil industry through the Kingdom’s national oil company Aramco. Aramco was created following the purchase of four American companies by Saudi Arabia. The company is entrusted with the tasks of developing and managing hydrocarbon resources of Saudi Arabia so as to execute the government’s energy policies, attain the Kingdom’s development objectives and develop the technical skills in that sector (Al-Moneef, 2011). The Kingdom’s oil policies are geared toward sustainability and maximization, which entails stable and productive oil markets and an effective oil industry that is able to play a leverage role in the oil sector of Saudi Arabia. Regarding the role of Saudi Arabia in OPEC, both Saudi Arabia and OPEC have evolved according to market changes. The developments between OPEC and Saudi Arabia are mainly due to the diversity the latter’s players, to the influence of the financial market on the energy policies of consumer countries and the physical market driven by energy security concerns and climate change (Al-Moneef, 2011).

As the world’s largest producer of crude oil, Saudi Arabia maintains significant influence on oil prices (Nazer, 2014). Some argue that Saudi Arabia intentionally crashed the oil markets to undermine Iran (Nazer, 2014). However, this is not true since despite the Kingdom formulating numerous initiatives and investing billions of dollars on diversifying the Saudi economy, the proceeds from oil export account for the majority, that is, eighty percent of its revenues. Since the government owns all of the natural resources in the nation, including oil, it is safe to assert that the drop in oil prices affects the financial and economic position of the country and as such, its ability to provide employment to citizens and fund education and housing plans. Thus, Saudi Arabia would not risk causing an unnecessary disturbance to this domestic balancing act so as to undermine Iran and those advancing this theory are underestimating the prominence of oil to the economy of Saudi Arabia and to the global economy (Nazer, 2014).

As mentioned above, Saudi Arabia has invested billions of dollars in an effort to diversify the economy of the country and reduce its reliance on oil revenue through the National Transformational Program. While the National Transformational Program was exceedingly ambitious from the beginning with over 346 targets and 543 initiatives and somewhat unrealistic goals such as tripling non-oil revenue by 2020, Saudi Arabia has slowed down its reform and moved to more attainable, but still ambitious set of targets that reveal just how much the National Transformational Program is difficult to implement (Bordoff, 2017).  Impact of Low Oil Prices on the Global Economy

The main challenge, especially when it comes to achieving the targets and initiative of the National Transformational Program is the low oil prices that restrict the ability of the nation for fiscal manoeuver (Bordoff, 2017). This is because in order to break even on its National Transformational Program, Saudi Arabia must maintain an oil price of $84 per barrel, while its current Brent Crude price is $53 per barrel are reported by the International Monetary Fund (Bordoff, 2017). Moreover, Saudi Arabia is running on huge fiscal deficits and has seen its foreign reserves decline by almost a third since late 2014 to below $500 billion (Bordoff, 2017). The dilemma that the nation faces is the more adverse the austerity measures are the greater is the contradictory impact on the economy of sharp cuts in government expenditure. The United States shale revolution is another crucial challenge for Saudi’s National Transformational Program, since the ability of the United States to ramp out output swiftly at lower prices than many anticipated appears to be putting a cap on the upside of oil (Bordoff, 2017). Thus, through the viewpoint of the oil market, the news that Saudi Arabia intends to slow down on its reform piles on the pressure for the country to boost revenue through the maintenance of prevailing OPEC or non-OPEC supply agreement (Bordoff, 2017). The slowdown also emphasizes the prominence of a successful if not productive initial public offering of Aramco in 2018 given that the Saudi government aims to raise approximately $100 billion to be utilized in the form of a public investment fund (Bordoff, 2017).

Saudi Arabia still matters immensely both as leading and swing supplier of oil and for security and stability in the region (Bordoff, 2017). In as much, the country is reducing its dependence on oil revenue and liberalizing its society while opening up to foreign investment, it is still predicted to continue playing a dominant role on the global oil market and global economy. In as much as the resumption of oil production by Iraq and Libya and the discovery of new oil fields in the United States present and increase in oil supply and subsequent fall in oil prices, Saudi Arabia is still a leading oil supplier to the world and as such, its oil policies affect the global economy. Saudi Arabia’s reform plans are already being affected to a large extent by the fall in oil prices as evident in its reform slowdown. However, how is the global economy impacted by the low oil prices?

 

 

 

 

 

 

 

 

 

 

 

 

 

DISCUSSION

Economic Impact of Low Oil Prices-impact of Low Oil Prices on the Global Economy

In early 2015 the mostly supply-driven fall in oil prices was expected to have a critical net positive impact on global activity, mainly through profitability gains from lower energy-input costs which could foster investment and total supply in net oil-importing nations and income redistribution from oil-producing to oil-consuming nations which was expected to have a higher marginal propensity to spend. Notwithstanding, a largely demand-driven fall in oil price brought about less positive impact on the global economy. Despite the fact that the low oil price may still espouse domestic demand through the increasing real incomes in net oil-importing nations, the low prices would not be able to offset the wider effects of weaker global demand. This is because if low oil prices are expected to be long-lasting, the global economy will be affected more adversely than if the decrease in price is anticipated to be temporary. Nonetheless, the impact of low oil prices on the global economy is contingent not only on whether the low oil prices are expected to be persistent or temporary but also on the causes or factors determining the fall in oil prices. As such, a fall in the pieces of oil due to reduced demand for oil will not have the same positive impacts on the global economy as a price fall that is brought about by increased supply of oil. The extent of the impact also depends on how nations adjust their monetary and fiscal policies in response to the low oil prices.

GDP Impacts-impact of Low Oil Prices on the Global Economy

Based on the historical correlations of the World Bank (2015), the fall in oil prices since 2014 would result in an increase in the global level of GDP by close to one percent in a few years’ time assuming that the oil price remains on the level it is today. Nonetheless, numerous studies evince that the impacts of oil price fluctuations on the development of the global economy have declined over time (Blanchard and Gali, 2008). For instance, the energy intensity of the global economy has reduced substantially in recent decades. As a result, it is vital to interpret earlier estimates of the impacts of oil price fluctuations with caution. A majority of nations are net importers of oil. In oil importing nations such as Sweden, the impact of falling oil prices on GDP growth is quite positive. This is evident in the increase of households’ scope for consumption and decrease in production and transportation costs for companies which usually lead to higher investments, profits and novel recruitments. An assessment by the National Institute Global Econometric Model (2016) suggests that a ten percent decrease in oil prices that is driven entirely by supply increases the world GDP by between 0.1% and 0.2%, whereas a ten percent decrease in oil prices that is driven entirely by demand is normally associated with a decline in the world GDP of more than 0.2%.

The experience of the fall in oil prices from 2014 also indicates that alterations in the transmission channels may have diminished the impacts of low oil prices on the global activity. When the 2014 to 2016 decrease in oil price is compared to the oil price decrease in the 1980s and 1990s, the combined impact of numerous countervailing factors may have changed the propagation mechanisms of the recent oil price shock. For instance, the adverse effect on net oil-exporting nations seems to have been quite severe and has been accompanied by negative spillovers to other emerging market economies (ECB Economic Bulletin, 2016). In various net oil-exporting nations, the decline in oil prices has interacted with other shocks to produce a critical macroeconomic adjustment. Major net oil exporters such as Saudi Arabia and Norway have managed to cushion, to some level, the initial adverse effect on their output from the recent decline in oil prices by running rising and substantial fiscal deficits as evident in the case of Saudi Arabia (ECB Economic Bulletin, 2016). Notwithstanding, the GDP growth in net oil-exporting nations has still continued to decrease significantly compared to the rest of the world. With spot crude oil prices falling below the fiscal breakeven prices, that is, the prices required to balance government budgets, the fiscal situation has become challenging in numerous major oil producing nations, especially those with currency pegs to the United States dollar or other tightly managed exchange rate arrangements, including Saudi Arabia, Iraq, Iran, the United Arab Emirates, Venezuela and Nigeria (ECB Economic Bulletin, 2016).

It is imperative to note that the impacts of low oil prices on profits and investments, as well as, on household consumption partly depends on the nature of energy-intensive economies. For instance, India, China and Indonesia have more energy-intensive economies than developed economies and as such, gain greater benefits from lower oil prices. In fact, nations such as China and India have already taken advantage of the low oil prices and reduced their domestic oil subsidies while increasing oil-related taxes so as to improve their public finances. The situation is quite different for net exporters of oil. For instance, net oil exporters such as Saudi Arabia, Norway and Russia have experienced dampened GDP growth due to decreasing export revenues as a result of the low oil prices. Moreover, the tendency by come oil-producing nations to compensate for decreased or fallen prices by producing and exporting more oil so as not to lose too much revenue from oil export has probably resulted in further prices decrease. Since oil exporting nations are generally more dependent on the oil prices than nations importing oil, the negative impacts on the economy may be quite significant for numerous oil exporting countries.

Inflation Impacts-impact of Low Oil Prices on the Global Economy

Lower oil prices generally lead to lower global inflation. According to World Bank (2015), global inflation would decrease by 0.4% to 0.9% as a result of fall in oil prices by thirty percent. Nonetheless, the impacts on inflation vary from one country to another depending on factors such as the effects of the oil price on wages and other prices, the weight oil products have in the CPI basket, freedom of action monetary policies, exchange rate developments, as well as, the structure of oil-related subsidies and taxes. Low oil prices will have a greater direct impact on inflation in nations in which oil-related products form a large portion of the CPI basket. The level of oil-related taxes also influences how great the impact will be on consumer prices. For instance, the effect on petrol prices is significantly greater in the United States than in Sweden and the euro area since United States’ lower volume-based specific taxes on petrol are independent of the price. If this is expressed in common currency, for instance, the Swedish krona per liter of oil, the difference would be large. Thus, the part of the petrol price affected by market price for oil is critically greater in the United States than in Europe. In the euro area, that is, Sweden and Japan, the fall in prices of oil measured in dollars has also been counteracted by a currency depreciation against the United States dollar which has ended up dampening the price fall in domestic currency.

Impacts on Monetary Policy

In normal situations, a decrease or fall in oil prices brought about by increased supply should not result in any long-lasting impacts on inflation. In such as case, the monetary policy implemented in response to the fall in oil prices should be fairly cautious partly because the decline in inflation is expected to be provisional and partly because the impacts on the real economy are positive which could result in an increase in inflationary pressures. Notwithstanding, the situation is currently complicated in numerous economies since inflation is already low from the start. Monetary policy has been constrained in commodity-exporting nations with more flexible exchange rates such as Mexico, Russia, Canada and Norway (ECB Economic Bulletin, 2016).  Since the currencies of these nations have depreciated, inflationary pressures have risen and as a result, limited the room for monetary policy implemented by the countries to cushion the slowing growth (ECB Economic Bulletin, 2016).

Impacts on Countries

According to BBC (2016), the drop in oil prices has been driven by an oversupply of oil, accompanied by a fall in demand due to slowdown in economic growth in Europe and China. Moreover, the lifting of sanctions imposed on Iran means that the nation can increase the net global supply of oil by pumping more oil into the market. As a result, the impacts of falling prices are being felt by economies around the world, both oil-producing and oil-consuming countries. However, oil producing countries that rely on oil exports revenue have been particularly hit hard, with many now feeling the social and in some situations, political impact (BBC, 2016).

Saudi Arabia

Saudi Arabia’s income from has fallen by twenty-three percent after oil prices fell drastically in 2015. Given the fall in revenue from oil which is the primary source of revenue for the nation, Saudi Arabia announced a budget deficit of approximately $100 billion. After the sanctions on Iran were lifted, the share prices in oil-rich Gulf States decreased sharply with Saudi Arabia Stock Exchange falling 5.4% in 2016 (BBC, 2016). Based on the reduction of revenue from oil, Saudi Arabia has been forced to seek reform through the National Transformation Plan that will make the nation less dependent on revenue from oil. However, the country has slowed down these reforms due to lack of sufficient funds to achieve them.

Russia

Given its status as one of the world’s largest oil producers, Russia has been a recurring victim of the falling oil prices. Close to half of Russia’s current budget revenue comes from energy exports (BBC, 2016). Given the fall in oil prices and subsequent fall in Russia’s national currency, the oil exporting nation has been forced to cut spending by ten percent and revise its budget due to “unpredictable” oil prices that have resulted in a significant reduction in revenue and low GDP growth (BBC, 2016).

Venezuela

Oil exports in Venezuela account for as much as ninety-five percent of the nation’s revenues, but the huge fall in oil prices has resulted in a significant reduction of oil revenues by sixty percent (BBC, 2016). According to BBC (2016), the government of Venezuela was forced to announce a sixty-day economic emergency so as to deal with the nation’s worsening economic crisis, including tax increase and putting measures in place to pay for food imports and welfare services. Since the government funded most of the public foods and welfare services, due to decreases in oil revenue from low oil prices, the people in Venezuela have faced hardships as a result of shortages of food and basic goods (BBC, 2016). Low oil prices also had political impacts in Venezuela whereby the people voted overwhelmingly for the opposition coalition and dealt a major blow to the nation’s Socialist movement (BBC, 2016).

Azerbaijan

Due to decrease in the Azerbaijan’s oil revenue, the President ordered his government to draw up various measures to revitalize the country’s economy in the face of plummeting oil prices (BBC, 2016). Some of the plans derived by the nation included strengthening regulation on the currency market and a major program for privatization. In 2014, nearly half of Azerbaijan’s GDP came from the oil sector. However, since the drastic fall in oil prices, the nation’s currency, the manat, has depreciated dramatically (BBC, 2016). In spite of the warnings about dangers of relying on oil, the government of Azerbaijan has done little to improve other industries in the country.

Nigeria-impact of Low Oil Prices on the Global Economy

Despite Nigeria being Africa’s biggest oil producer, it lacks adequate refining capacity and is forced to import most of its fuel (BBC, 2016). Nigeria has not been exempted from adverse effects of low oil prices, so much so that the country sought oversees funding to raise its government spending by twenty percent (BBC, 2016).

Europe and Asia

Since Europe’s flagging economies are characterized by weak economic growth and low inflation, they have benefited from lower oil prices. China which is a world leading importer of oil has also gained from the low oil prices. Japan imports nearly all of the oil that the nation uses (Bowler, 2015). However, lower oil prices are a mixed blessing since high energy prices have helped push inflation higher, which has become an important of the government’s strategy to combat deflation (Bowler, 2015). Since India imports seventy-five percent of its oil, the falling oil prices will ease the nation’s account deficit and cause a fall in fuel subsidies but only if the oil prices stay low (Bowler, 2015).

Spillover Effects to other Energy Commodities

The prices of natural gas have declined with a differential effect across regional markets due to the fall in oil prices. According to Husain et al. (2015), despite the broad differentials in natural gas price levels across different continents, evidence shows that gas prices tend to follow oil prices with a lag. This means that natural gas prices and subsequently revenue from natural gas has also gone down. Expansion efforts in shale gas production in North America had significantly lowered prices relative to other regions before the onset of oil price reductions (Husain et al., 2015). Current production of natural gas has remained economical partly based on the byproduct nature of natural gas in the process of oil production.

In Europe, the contracts for natural gas have become typically long-term, but with fixed volume and adjustable prices that are indexed to the prices of oil with a lag. Moreover, the prices of natural gas in Europe have decreased, partly as a result of imports of Unite States coal that id displaced from electricity generation by cheap shale gas (Husain et al., 2015). The situation is not discordant in Asia. Natural gas supplies continue to rely primarily on Middle Eastern oil supplies and prices, with a growing share of Australian suppliers (Husain et al., 2015). Since Asian prices are indexed to crude oil, the spot prices have decreased drastically since the onset of falling oil prices (Husain et al., 2015).

In as much as coal prices are not formally linked to oil prices, they have followed oil due to having substitution opportunities and a common cycle (Husain et al., 2015). Since 2011, the global economy has experienced declining coal prices, partly due to displacement by cheap natural gas in the United States and slowdown in emerging markets (Husain et al., 2015). Given that coal prices have already gone down by a half, there is limited room for downward adjustment emanating from lower oil prices. Notwithstanding, further decline in oil prices, combined with potentially lower growth in emerging markets, could push down coal prices further (Husain et al., 2015).

 

Conclusion-impact of Low Oil Prices on the Global Economy

The decline in oil price form the year 2014 could be attributed to the critical increase in the supply of oil and a weaker global demand that lowered price of oil further. Significant technological innovations and investment, particularly in the shale oil extraction led to a surge in oil production at a time of weakening growth, especially in emerging energy-intensive market economies, thus, resulting in a downward pressure on oil prices. A concurrent decision by the OPEC in 2014 to maintain production quotas also intensified the decline in prices of oil amid rising oil inventories. In as much as financial investment positions and sentiments of noncommercial players play a vital role in influencing price fluctuations, it is mostly supply and demand factors and associated econometric techniques that influenced oil price fluctuations and eventually led to fall in oil prices. Saudi Arabia’s influence on the global oil market is largely unchallenged due to the numerous state owned oil wells in the country that supply oil all over the world. As the world’s largest producer of crude oil, Saudi Arabia maintains significant influence on oil prices. However, resilience by United States companies to continue supply despite the falling prices and increased production of oil by Russia, Canada and Iran after sanctions on the country were lifted resulted in excess supply of oil against a weaker demand resulting in drastic fall in oil prices. Moreover, the unwillingness of Saudi Arabia to not counter the increasingly supply of oil and instead maintain the production of oil at historically high levels in spite of the perceived surplus only lead to further decline in oil prices. Low oil prices have impacted the global economy in different ways. For instance a ten percent decrease in oil prices that is driven entirely by supply increases the world GDP by between 0.1% and 0.2%, whereas a ten percent decrease in oil prices that is driven entirely by demand is normally associated with a decline in the world GDP of more than 0.2%.  Lower oil prices generally lead to lower global inflation. According to World Bank (2015), global inflation would decrease by 0.4% to 0.9% as a result of fall in oil prices by thirty percent. Nonetheless, the impacts on inflation vary from one country to another depending on factors such as the effects of the oil price on wages and other prices, the weight oil products have in the CPI basket, freedom of action monetary policies, exchange rate developments, as well as, the structure of oil-related subsidies and taxes. Monetary policy has been constrained in commodity-exporting nations with more flexible exchange rates such as Mexico, Russia, Canada and Norway. Since the currencies of these nations have depreciated, inflationary pressures have risen and as a result, limited the room for monetary policy implemented by the countries to cushion the slowing growth. Low oil prices also have spillover effects on other energy commodities. For instance, the prices of natural gas have declined with a differential effect across regional markets due to the fall in oil prices. Moreover, further decline in oil prices, combined with potentially lower growth in emerging markets, could push down coal prices further.

 

 

 

 

 

 

 

 

REFERENCES

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Husain, A., Arezki, R., Breuer, P., Haksar, V., Helbling, T., Medas, P., & Sommer, M. (2015). Global Implications of Lower Oil Prices. Staff Discussion Notes, 15(15), 1. http://dx.doi.org/10.5089/9781513532417.006

Majumdar, R. (2016). The oil mighty: The economic impact of oil price fluctuations. Deloitte Insights. Retrieved 17 February 2018, from https://www2.deloitte.com/insights/us/en/economy/global-economic-outlook/2016/q3-understanding-economic-impact-of-fluctuations-in-oil-prices.html

National Institute Global Econometric Model. (2016). The models that are used for the simulations are the National Institute Global Econometric Model (NiGEM), the six-mod version of the IMF’s Flexible System of Global Models, and a structural vector auto-regressive (SVAR) model with sign restrictions to identify supply and demand oil price shocks.

Nazer, F. (2014). The real story behind Saudi Arabia’s oil games. CNNMoney. Retrieved 17 February 2018, from http://money.cnn.com/2014/12/31/news/economy/oil-price-saudi-arabia/index.html