Soaring oil prices becoming critical for the global economy
By Aftab Ahmad

Only a decade ago, when the Asian financial crisis hit the East Asian economies in the late 1990’s, crude prices had dipped to around $10 a barrel. However, in 2008, the oil prices shot up to an all time high of nearly $120 per barrel level when the sub-prime mortgage crisis hit, threatening to slowdown global economic growth. Even now, when the IMF and the World Bank have revised their estimates of the world economic growth for 2008 and 2009 downward, oil prices have not come down. On the contrary, they have shattered all past records and recently crossed the $116 a barrel mark.

Economic observers and analysts in the US – the largest oil consumer in the world – have recently expressed the view that it is not a question now whether there would be a recession. The question is how long and how painful it would be. The factors, which threaten to make the expected US recession long and painful is increasing joblessness, soaring energy and food prices, falling home values and the continuing credit crunch. However, despite the aforesaid situation, the international oil prices continue to surge.

What could be the possible reason for the stubborn behaviour of the crude oil prices, this time? The obvious reason for the continued surge in the international oil prices seems to be that the global demand for oil remains strong, despite the economic slowdown.

The US economic growth has no doubt slowed down considerably in recent months. However, the demand for oil had declined only marginally last month and it is again going up due to the start of the driving season in April. The reason why the demand for oil is not coming down despite the economic slowdown is inter-alia that the local oil price is quite low, that is, $3.35 per gallon only because the tax on oil in the US is on the lower side. As a result, the consumer’s expenditure on oil constitutes a relatively smaller percentage of his income. In Europe, the retail price is as high as $8 a gallon, since the taxes are considerably higher.

According to the World body, the GDP growth is likely to come down to half per cent to one and a half per cent in the US, EU and Japan during the next two years. However, in China, GDP growth may come down to 9 per cent from 11 per cent and in India it is expected to come down to 8 per cent from 9 per cent. That means that growth will still remain strong in the two countries, despite the global economic downturn. The demand for oil will also, therefore, continue to remain strong in these countries in the coming years, despite the recession threats.

China is reportedly experiencing an unprecedented automobile boom, at present. In 1978, there were less than half a million cars in that country. The number has gone up hundred-fold to 50 million in recent years. Naturally, motor fuel consumption has also gone up in the same ratio. Some auto-makers are producing fuel-efficient models for the Chinese market, while others are making hybrid cars. Still, the demand for oil has increased manifold in that country in recent years and it is likely to go up further in the coming years.

Over the last decade, oil demand in China doubled to 7.4 million barrels per day (mbd) in 2007. China thus became the second largest oil consumer in the world, after the US. It now consumes 40 per cent more oil than Japan does. China’s oil demand is projected to grow to 8.6 mbd by 2010 and to 9 mbd by 2013.

Nevertheless, China is the world’s fifth-largest oil producer of the world. Yet, due to the growing demand for oil in that country, it has gone from self-sufficiency to importing half its requirement of oil in less than 15 years. In the coming years, its dependence on imported oil is expected to increase further.

Just like China, the demand for oil has been growing also in India, as a result of its robust GDP growth during the last few years. In India, Tata has recently launched its $2,500 Nano People’s car. As the car is popularised and its demand grows, a large number of people (India’s population is 1.1 billion) would like to own the inexpensive car, with the result that the demand for oil will grow further in that country.

Last but not the least, the surge in demand for oil in the oil producing and exporting countries themselves is often lost sight of. The Persian Gulf region, which possesses over half of the world’s proven oil reserves, is facing incredible pressure on its energy supplies as growth picks up and measures are taken to diversify the economy. This is a fact that people living elsewhere can hardly believe.

The population in the region has witnessed rapid growth, both from higher birth rates and (in some countries) substantial immigration. Higher population has generated additional demand for desalinated water and air-conditioning. Both consume considerable energy. The demand for oil grew in the Gulf region at the rate of 2 per cent annually during the 1990’s. However, it is now growing at the rate of 4 to 5 per cent, as a result of diversification of economy, increase in population and increase in the number of automobiles resulting from improvement in the living standards in the region. Thus, on the one hand, global demand for oil continues to grow despite the economic slowdown in some countries and, on the other hand, higher oil prices have so far failed to attract new oil supplies which remain unchanged at 86 million barrels a day. According to experts, trillions of barrels of oil are lying unused underground, but it is hard to recover and make use of this oil due to a multitude of reasons such as geopolitical situation, prohibitive cost of recovering the oil, lack of required equipment and skilled and trained personnel and lack of refining facility etc. Oil supply has remained unchanged, also, because of the OPEC policy, which has frequently cut its production and refused to increase supply, in order to keep its oil revenue at the higher level.

So, until the global demand for oil goes on increasing while supply of oil remains unchanged, oil prices will continue to surge and stay at their higher level. A decline in the international oil prices could be possible only if a global recession/depression was able to pull down the global demand for oil from its higher level or, alternatively, new oil reserves were found in parts of the world, bolstering the oil supply effectively in the international oil market. A normalisation in the international oil prices is badly needed, at the present moment as the higher oil prices, accompanied by the soaring world food prices, are threatening to create social and political instability in the majority of developing countries, which would no doubt be a great hazard for the world peace and prosperity in the coming months and years.