Economic Impact of the Sudden Fall in Oil Prices - Essay Example

ECONOMIC IMPACT OF THE SUDDEN FALL IN OIL PRICES al Affiliation ECONOMIC IMPACT OF THE SUDDEN FALL IN OIL PRICES In the last of year 2014, a sudden fall of the oil prices has raised alarm among many economic analysts seeking to unveil the possible reasons for such trends. Notably, the oils price per barrel has dropped by more than half within a period of less than six months. This has sent warning signals due to such an unlikely at a time when the global oil demand is growing exponentially. There seems to be a direct relationship between oil prices and macroeconomic factors such as competition rivalry and government regulations. However, it is apparent that the changes in oil prices will have consequences on the producers, the public as well as the economy in general. Producers will need to focus on cost-minimization procedures to ensure that they do not end up in losses as they furnish the oil contracts. On the other hand, oil dependent countries such as Russia and Iraq are bound to experience an economic crisis if the fuel prices fail to stabilize. Being a major employer, oil companies will have to reduce their employees which may have negative impacts on the society. On this light, the fuel price crisis is undesirable and may lead to an economic crisis within oil-dependent countries. In the last six months, the fuel prices have dropped by more than half, a trend that was only experienced during the global financial crisis. In June 2014, the price of oil stood at $115 per barrel and has decreased to less than $50 per barrel at the beginning of 2015 (Plumer, 2015). Moreover, statistics indicate that the oil prices are projected to reduce in the near future and that this trend will stick for some time. Since the end of the 2008, the price of oil has remained stable at around $100 per barrel in the global market, a trend that has majorly been influence by the ever increasing demand for fuel. The sudden drop in oil prices has become shocking news for both manufacturing companies and economic analysts. Evidently, oil demand in the world is still growing at a faster rate than the increase in production in new oil reserves. As many economists perceive, the plummeting of oil prices today is a warning for an approach financial crisis in the global market, and a great danger to the US economy. According to macro-economic theories, one of the possible reasons for price drop is the reduction in demand when the supply remains high. From a close analysis, the demand for oil today has remained considerably high while the supply has considerably increased. The rise of oil prices shortly after the global financial crisis has attracted a lot of investors in the oil industry. A number of US companies have entered the market with aggressiveness to exploit rich oil well as part of their strategy to increase their oil market share. The US Shale company has increased its oil production capacity to take advantage of the attractive oil prices and win large profits from oil price trends. Additionally, the US companies have excavated the North Dakota oil wells to increase oil production within the country (Plumer, 2015). Besides, OPEC countries such as Saudi Arabia have consistently acted as oil cartels by increasing their oil capacities each year (Khatib, 2014). Resultantly, the amount of oil has become surplus as the demand for oil remains relatively stable. However, while the demand for oil has increased in some countries, it is clear that there are regions where the demand is slowly tapering including in the European countries. From this end, the oil price reduction can be linked to overwhelming supply at a time of constant demand. Another factor that may have contributed to the free fall of the oil prices is the increase in market competition rivalry. Economic analysts indicate that there has been an increase in the competition of oil which has contributed to the current crisis. For instance, the OPEC countries have kept their production high as a strategy to ensure that they remain top of the market with the largest share. When OPEC met in November 2014, it was expected that the cartels would focus on production reduction as one way to stabilize prices in the face crisis. The cost of production has considerably shot up high which makes it hard for oil companies to balance their budgets with low market prices (Plumer, 2015). Therefore, observers felt that the only way to control the prices was for OPEC countries to reduce their production to avoid over surplus. However, the OPEC countries did not want to reduce their production as this would mean losing part of their market share (Khatib, 2014). On the other hand, the US and Saudi have colluded to increase oil supply as part of their strategy to frustrate Russia and Iran which mainly depend on oil for its economy. Therefore, competition within the industry has pushed down the prices of oil as countries increase their production in an attempt to fight for the limited market share. Evidently, a drop in the oil prices will have far reaching impacts for the production companies. One of the factors that have consistently led to the increase in oil prices is the increase in production cost. As companies award oil contracts, they put into consideration the high market prices and hence contractors have to ask for high contract prices (Plumer, 2015). Therefore, oil producers are bound to experience a decrease in the profit margins as the production cost remains high and the selling prices remains low. Evidently, oil producers will experience a financial crisis as profits go down to unanticipated levels. Notably, the low prices have cut down oil revenue in producer countries by more than 40% within the last six months and this impact may be felt as the prices are expected to decrease further (Khatib, 2014). Some economists have predicted a severe global economic crises if the trend of oil prices remains this way suggesting strict control measures to contain the situation. Since the oil industry is a major employer, it is apparent that reduction in oil prices will have consequences on the economic aspects of the society. In the US, the oil industry is a source of $1.2 trillion for its GDP and provides about 9.3 permanent jobs to the US population (Plumer, 2015). In areas such as Texas, Oil is the main employer and employs the greatest percentage of the population. In the wake of oil crisis, the oil companies are bound to take measures to offset the reducing profit margins. One way that the companies will respond is by cutting off a big proportion of their employees or even reducing their wages. The end is that the unemployment levels will reduce as the companies find ways of reducing the production cost. In addition, the companies are likely to walk away from some oil field or close some of their production stations to reduce the oil supply. Consequently, some workers will have to go home further worsening the problem of employment crisis. In countries such as Iraq that mainly depend on oil, this trend will lead to the worst levels of unemployment. Consequently, the oil price drop will lead to an increase in economic inflation and reduce the public’s economic power as long as this trend remains. However, it is anticipated that as the oil prices go below the break-even point, some countries will experience an economic boost. During the high oil prices era, non-producing countries have suffered economic retardedness due to the economic pressure that such prices exert. As the prices go down, non-producing countries will benefit from price reduction. Such countries will enjoy affordable costs of fuel, which reduce their economic spending on fuel. Surplus resources will be channelled to other development projects which will lead to stability in the currency. Countries such as US are bound to experience both positive and negative impacts of the oil price crisis (Hefner, 2014). While fuel prices will be considerably low and attractive to the public, the production companies will experience economic crisis, indicating that these trends may have a balancing effect. It remains hard to predict whether the fuel prices will remain low for a long time or they will rise in the near days. This is because there are many factors surrounding the oil crisis and key players in this industry are adamant to focus on price control strategies. At this point, a change in macroeconomic policies would be crucial in bringing situation back to normalcy. Macroeconomic policies play a key role in times of severe market competition. One of the factors that relates to oil price control is the government policies (Hamilton & Herrera, 2004). One of the ways that the government can streamline the oil sector is by controlling the production and setting up the industry prices. This would pay a critical role in reducing unhealthy competition that has led to overproduction of oil sending the oil prices down. Secondly, macroeconomic policies will play a vital role in bringing down the production cost in the affected countries. Notably, the constant rise in fuel prices has resulted from increase in production contract costs. This is unexpected since the producing companies spend less on production with the innovation of new excavation methods. For instance, the horizontal excavation methods in Shale formation used in US are cost effective and more efficient in gaining access to oil reservoirs. Therefore, it would be crucial for the government to install strict laws to control the costs of production and regulate the industry prices. On this ground, government policies are the only remaining source of hope for oil price stabilisation in the near future. In conclusion, the plummeting of oil prices in the last months of 2014 has huge economic impacts in both producing and non-producing countries. Competition rivalry has resulted in excessive production of oil within the industry. As the demand remains constant, the fuel prices are bound to go down. The economic impacts of fuel price reduction have far reaching impacts as companies continue to make lower profit margins. Notably, the government will experience lower GDP and the public will suffer from job losses. As some companies stop extracting oil in some of its fields, it is likely that the rate of unemployment will increase in countries such as Russia, Iraq and Saudi Arabia. Unfortunately it remains a mystery whether the fuel prices will go high in the near future as countries remain adamant to reduce their production rates. Therefore, the government is the remaining hope for the oil price stabilization. Macroeconomic prices are important in reducing market competition rivalry and regulating industrial prices. Cooperation between producing states and formation of global macroeconomic guidelines would be crucial in ensuring stability of oil prices in the global market. Bibliography Hamilton, J. D., & Herrera, A. M, 2004, Comment: oil shocks and aggregate macroeconomic behavior: the role of monetary policy. Journal of Money, Credit and Banking, 265-286. Hefner III, R. A., 2014. United States of Gas: Why the Shale Revolution Could Have Happened Only in America, The. Foreign Aff., 93, 9. Khatib, H, 2014, Oil and natural gas prospects: Middle East and North Africa. Energy Policy, 64, 71-77. Plumer, B., 2015, Why Oil Prices Keep Falling and Throwing the World in Turmoil. Available at:< http://www.vox.com/2014/12/16/7401705/oil-prices-falling> Read More