Global oil demand is falling, and there is little Opec can do to arrest the
slide in oil prices.
The world is undergoing its first truly global economic crisis. Demand for primary commodities, including oil, is collapsing and prices are in freefall. The economic cycle has turned sour and a dramatic bust is approaching, after five years of sustained boom. OECD countries are either in or heading for recession and developing economies are feeling the strain. The IMF has slashed its forecast of world economic growth to just over 2pc for next year and warns against deflation.
Opec is in shock. Oil prices are barely a third of what they were in the summer and the downward slide is continuing. But with global oil demand falling for the first time in 25 years, it is difficult to see what the producers’ organisation can do to reverse the trend. While the target investment price of new non-Opec supplies remains high at $60-80/bl, the marginal production costs of the most expensive projects — Canadian tar sands — are still less than $30/bl, according to operator Suncor.
Oil demand is reeling from the combined impact of past price rises and the current economic downturn. Although the latest price shock is not as severe as the crises of the 1970s — when prices doubled or even trebled in the space of a year — the cumulative impact of this slower-moving price shock may turn out to be just as damaging. OECD oil demand is expected to fall by 1.4mn b/d (3pc) this year — its biggest fall since the early 1980s, when deep economic recession and a structural shift away from oil in industry and power generation triggered a four-year decline in global oil use.
The decline in OECD oil demand was, until recently, offset by rising consumption in developing countries, especially China, India and the Mideast Gulf. But this cannot last. China’s economy is slowing and its appetite for oil is waning. Industrial production growth fell sharply in October and power generation was down by 4pc over a year earlier. Output from heavy industry plunged and migrant workers are flooding home as factories shut down. Although Chinese oil imports were robust last month, China has bought much less west African crude loading in November and December, indicating a downturn in imports for the rest of this year.
If China’s demand for oil stalls — as it did in 1998, 2001 and 2005 — global oil demand will fall next year. Hopes that developing country demand might sustain the global economy appear to be unfounded, and the IMF is predicting a sharp downturn in non-OECD economies next year. With all commodity prices down sharply, oil demand growth in Africa, Latin America and even the Middle East will inevitably slow. And the rest of Asia- Pacific is vulnerable to an economic slowdown in China. As a result, Argus now expects to see a fall in global oil demand in 2009.
With oil demand falling, Opec must cut production. Although competition from non-Opec supply remains muted, the call on Opec crude will decline and prices will continue to fall if Opec does not respond. But any attempt by Opec to boost prices is doomed to failure in the current market. With oil revenues falling, members are unlikely to turn away customers. Opec output will have to swing with demand in the short term, letting prices find a floor set by the marginal cost of the most expensive non-Opec supply.
