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Conflicts leading to $100 Oil Prices & its Consequences – Commodity Trade Mantra

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Conflicts leading to $100 Oil Prices & its Consequences

The Conflicts leading to $100 a barrel Oil Prices

  • The geopolitical risk premium in oil has driven crude oil prices to nearly four-year highs and shows no signs of abating.
  • The U.S. exit from the Iranian nuclear deal, the rocket attacks between Iranian and Israeli forces and the general belief among the U.S., Saudi Arabia and Israel that Iran’s regional expansion needs to be stopped all argue for a continued rise in the price of crude oil.
  • President Trump’s position on Iran has emboldened both Israel and Saudi Arabia, together, to challenge Iran more openly than at any time in the last four decades.

It’s time to prepare for $100 oil prices. A price of $150, taking out the 2008 high, may also be a real possibility if events in the Middle East continue to escalate, as we have witnessed in recent days.

While I believe that oil, given the vast supplies available around the world, has an economic value of about $20 per barrel, it’s becoming increasingly impossible to ignore a world that seems to want higher prices for crude.

Through a production agreement, OPEC and Russia have successfully offset the glut of crude oil being pumped every single day in the United States. Rising demand for oil in a synchronized global economic recovery has also helped bring supply and demand in better balance over the last year-and-a-half.

Having said that, U.S. oil output approaches 11 million barrels per day, and crude oil production exceeds that of Saudi Arabia and could surpass the world’s largest producer, Russia, sometime next year.

Despite that, the geopolitical risk premium in oil has driven crude prices to nearly four-year highs and shows no signs of abating. And so many interests benefit from higher oil prices; it appears there is a part of the world ready, and willing, to accept much more expensive energy.

This array of developments comes just as the summer driving season begins in the U.S., meaning that consumers should expect higher prices at the pump, certainly in excess of $3 per gallon, on average, and possibly much higher.

The U.S. exit from the Iranian nuclear deal, the unprecedented exchange of rocket attacks between Iranian and Israeli forces and the general belief among the U.S., Saudi Arabia and Israel that Iran’s regional expansion needs to be stopped all argue for a continued rise in the price of crude.

The Trump Administration’s plan to re-impose sanctions on Iran, and apply additional pressure on the Iranian regime, has heightened the fear that Iran will sponsor more terror attacks against Western targets, while its surrogates in both Syria and Lebanon (Hezbollah), will work to further destabilize the region, leading to an outright military confrontation between the sides.

It is becoming increasingly clear that Washington, Jerusalem and Riyadh are united in their desire to thwart any further territorial, or nuclear, ambitions Tehran may, or may not, harbor.

Certainly, Iran was said by U.S. intelligence and by U.S. allies, to be in compliance with the nuclear accord, but the U.S. walked away anyway.

Indeed, there is growing speculation among foreign policy experts that this administration wants to foment rebellion within Iran, by crippling its already weak economy and ushering in regime change.

It’s a notion that seems to be supported by the words and actions of Israel’s president, Benjamin Netanyahu and Saudi Arabia’s de facto leader, Mohammad bin Salman.

Despite President Trump’s criticism of the Bush administration’s “nation building” in Iraq, the newly installed hawks in this White House, some would argue, harbor no such hesitation when it comes to Iran.

However, unlike Iraq, the Iranian regime has not just greater control over the nation as a whole, but also control of a much more skilled military in the form of the Revolutionary Guard, Iran’s most elite and lethal force.

Regime change in Iran, if indeed that is the goal of this triumvirate, is not a given by any means.

Russia backs the mullahs in Tehran. China is somewhat dependent on Middle Eastern oil.

Even Europe, which until recently had been a solid American ally on foreign policy, is breaking with this White House openly, and has no appetite for an unsettling event in the Middle East.

How this plays out is anyone’s guess. But we are seeing the gloves come off as Iran and Israel have tested each other’s military prowess just days ago in the Golan Heights.

This ancient battleground may have been on slightly firmer footing with respect to the prospects for peace until President Trump assumed office.

His position on Iran has emboldened both Israel and Saudi Arabia, together, to challenge Iran more openly than at any time in the last four decades.

During the 1970s, the Arab oil embargo and the Iranian revolution brought the world to its knees economically, with two massive oil shocks that helped ignite hyperinflation and recession.

While a repeat of that outcome is not yet a forgone conclusion, as a wise man once said, history often rhymes.

War is hardly poetic, but one can already hear the meter of the past playing out in modern times. – Ron Insana

Will $100 Oil Prices Kill The Economy?

Brent is nearing $80 per barrel and some analyst see $100 not far off. That raises the question about how much of a dent high oil prices will make in the U.S. economy.

$100 oil is not as painful as it once was. There are a few reasons for that. The U.S. is now a significant oil exporter, helping to lessen the damage to its trade balance. Also, the economy uses less energy per unit of GDP than it used to, becoming slightly more efficient with each passing year.

In the past, high oil prices dragged down the U.S. economy, acting as a tax that redistributed wealth from the U.S. to oil-exporting countries in the Middle East, for example. But, the shale revolution has allowed the U.S. to become one of the largest oil producers in the world, and more recently, an exporter of more than 2 million barrels per day (depending on the week). Now, to a large extent, higher oil prices redistribute wealth within the U.S., still damaging the vast majority of motorists, but benefitting a variety of industries related to the oil industry.

That has narrowed the impact on the country’s trade deficit. For example, in 2005, when oil prices bounced around in the $60s per barrel, the U.S. petroleum trade deficit hit $230 billion. In 2017, when WTI was in a similar price range, the U.S. petroleum trade deficit was just $62 billion.

According to Bloomberg Economics, $100 oil would knock off 0.4 percent from U.S. GDP in 2020 compared to if oil traded at just $75 – not trivial by any means, but not devastating either. “The price of a barrel will have to go much higher before global growth slips on an oil slick,” economists Jamie Murray, Ziad Daoud, Carl Riccadonna and Tom Orlik said.

A survey of economists by CNBC found a mixed picture with some responding that higher oil prices are largely “a wash” for U.S. economic growth. It is a notable shift in tone and substance from the past, when higher oil prices as an economic headwind was taken as a given. “We think the effect will round to a wash,” Michael Feroli, chief U.S. economist with J.P. Morgan Chase, told CNBC. He noted that higher oil prices would reduce GDP by 0.2 percent, but that would be offset by an increase of 0.2 percent in capital spending.

That conclusion was echoed by St. Louis Federal Reserve President James Bullard who agreed that higher oil prices spark more activity in the energy sector, offsetting some of the losses elsewhere. “This will also encourage U.S. production, and compared to years past, oil prices have a more neutral effect on the U.S. economy,” Bullard said. “It used to be a big oil shock was probably bad news, … but now I think it’s neutral.”

Still, the marginal impact is only true up to a certain point. Drivers can stomach $3-per-gallon gasoline, but $4 per gallon is another matter. Also, the benefits accruing to the energy sector and related industries are concentrated, while the economic drag on consumers is widespread. If retail gasoline prices average $2.96 per gallon this year, it will wipe out a third of additional take home pay from the 2017 tax cuts, according to Morgan Stanley.

Moreover, to the extent that higher oil prices stokes inflation, it could spur more aggressive action from the U.S. Federal Reserve. More rate hikes would drag down the economy, making the cost of borrowing more expensive. It would also strengthen the U.S. dollar, hurting export industries.

Citi economists warned that if oil prices rise even further, there could be a “particularly hostile environment” for global investors in the coming months. The investment bank said that President Trump’s decision to withdraw from the Iran nuclear deal “constitutes a major geopolitical shift,” that could bring on “stagflation,” consisting of weak economic growth and higher inflation, spurred on by higher oil prices.

For now, Brent is struggling to break $80 per barrel. There are plenty of reasons why oil prices could continue to rise, but $100 per barrel is still a long way off. – Nick Cunningham

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