Jerry Flory hates it when the price of oil goes up. The co-owner of Flory’s, a small, family chain of petrol stations and convenience stores about 40 miles north of New York, he says that when fuel prices rise customers look for someone to blame. The current targets include Congress, the Iraq war and the retailers.
Jerry Flory hates it when the price of oil goes up. The co-owner of Flory’s, a small, family chain of petrol stations and convenience stores about 40 miles north of New York, he says that when fuel prices rise customers look for someone to blame. The current targets include Congress, the Iraq war and the retailers.
“People are just lashing out,” Mr Flory says. “I always sympathise with our customers because they travel, and it puts a hurt on their pocketbooks. When they’re putting kids through college and they need the money, it’s difficult.” The average price of a gallon of petrol in New York state has risen from a little over $2 in early 2016 to just under $3 today.
Oil is also beginning to hit a raw nerve in the White House, as President Donald Trump revealed when he tweeted about it last week. “Looks like Opec is at it again”, he wrote. “Oil prices are artificially Very High! No good and will not be accepted!”
The benchmark Brent crude hit $75 a barrel this week for the first time since 2014. The 65 per cent surge in oil prices since last June has been one of the more striking features of the global economy — and could also play a role in an important election year in the US.
The buoyant oil market is partly the result of the strong performance of the world’s leading economies which Maurice Obstfeld, chief economist of the IMF, said was becoming “broader and stronger”, and partly a reflection of supply curbs implemented by Opec and other leading oil-producing nations.
But it could also be a warning sign about looming geopolitical risks — most notably, Mr Trump’s threat to withdraw from the international deal over Iran’s nuclear programme. Mr Trump has made it very clear this week that he does not like the deal, calling it “ridiculous” and “insane” and saying “it should have never, ever been made”.
If the oil price does continue to rise, it increases the risks for the global economy, which would be particularly sensitive for Mr Trump at time when his party faces midterm elections in November and he then starts a re-election campaign.
“We are starting into another oil price shock,” says Philip Verleger, an energy economist. “If prices go above $100 a barrel, the likelihood of a recession increases significantly.”
For the US, which is the world’s second-largest crude producer as well as its largest oil consumer, rising oil prices bring both positives and negatives. A higher price does not necessarily mean lower growth, but it does mean a redistribution of spending power from American motorists to workers and investors in the booming shale oil industries of Texas and North Dakota. For consumer businesses, and politicians looking ahead to the midterms, that is a worrying prospect.
For Americans in the bottom 40 per cent of the income distribution, the loss from higher fuel costs since 2016 has on average already exceeded the benefit from the tax cuts passed by Congress at the end of last year.
“The $20 that used to pay for breakfast and a fill-up now just pays for a fill-up,” says Jeff Lenard of the National Association of Convenience Stores. “It can get very frustrating for people, because gasoline prices are something they can’t do anything about.”
The rising cost of crude is hurting some larger businesses, too. Goodyear Tire and Rubber on Wednesday reported a 53 per cent drop in profits for the first quarter, mainly because of the rising cost of its oil-based raw materials. 3M, the industrial and consumer products group, warned on Tuesday that its oil-based raw materials and transport and logistics costs were running higher than expected. It aims to pass those costs on to customers in higher prices.
For the global economy, the impact of rising oil prices depends largely on the cause: growing demand reflects rising prosperity, while price rises caused by restrictions in supply can be a threat to growth. The latest increase is a combination of the two. Demand is strong: the International Energy Agency, the watchdog backed by consuming countries, expects world oil consumption to rise by 1.5m barrels a day this year, to 99.3m b/d.
But there have also been interruptions to supply. The largest of those has been the factor highlighted by Mr Trump: Opec. The oil price set off on its slide down to below $30 after Opec declined to try to support it in 2014. It began to recover after most members of the cartel, along with a coalition of the willing among non-Opec producers including Russia, Mexico and Kazakhstan, agreed at the end of 2016 to curb output by 1.8m b/d.
That effort appears to have been highly successful: the IEA observed this month that Opec was close to being able to declare “mission accomplished” in its attempt to reduce oil stocks below their five-year average.
The cartel had some help in that effort. Its ability to stick to production curbs has been made possible in part by Venezuela, where mismanagement and the deepening financial crisis have sent the oil industry spiralling into chaos.
Paal Kibsgaard, chief executive of Schlumberger, the world’s largest oilfield services group, said this week that Venezuela’s production was in “free fall”, after dropping 34 per cent in the past two years. Output declines have also exceeded the agreed cuts in other Opec members including Angola and Algeria, and production in non-members of Opec from Norway to China is falling as a result of natural decline in mature fields.
It was widely expected that when prices rose to current levels, production from US shale reserves would fill the gap, but it has not quite worked out that way. US oil production is indeed growing fast, and Opec expects an increase of 1.5m b/d this year, roughly equal to the entire increase in global consumption. Higher crude prices have put the shale industry on a much firmer footing, too: it appears to be generating net cash, for the first time in its 10-year history.
But the US is not able to make good all the shortfalls in the rest of the world, in part because of logistical constraints. The US oil boom is concentrated in the Permian Basin region of Texas and New Mexico, and the pipelines to take that oil to refineries or export terminals became full around the end of last year.
Producers are returning to trucking their crude to market, which is inefficient and costly, particularly at a time when a shortage of drivers mean they are earning $100,000 or more a year.
The new pipeline capacity planned and under construction in Texas will make a big difference. But it will be “well into the first half of 2019” before those pipelines are available, according to John Zanner of research group RBN Energy.
Against that backdrop, the impact of Mr Trump’s decision on Iran could have a significant impact on the oil market. The president has set a May 12 deadline on whether to stay in the deal signed by Barack Obama in 2015.
There are many uncertainties about the implications, including the type of sanctions that the US might re-impose, and the reactions of other countries. It is possible that countries that support the deal, such as China, will continue buying Iranian oil even if the US withdraws, which will mean the market impact could be quite muted.
Richard Nephew of Columbia University’s Center on Global Energy Policy and a former Obama administration official estimates that US withdrawal from the deal might cut Iran’s exports by only about 500,000 b/d — much less than the impact of the sanctions in place before the deal. But to the extent that sanctions are effective, they will tend to drive crude prices higher. Withdrawal would also raise the question of what comes next: a period of rising tension, and perhaps even military conflict. Those are likely to be further reasons for oil prices to rise.
That is the context for Mr Trump’s tweet, says Anas Alhajji, a Texas-based analyst. “A lot of people want the Iran deal to remain in place. If the US withdraws and oil goes up, they will start blaming Trump,” he says. “He’s saying: ‘It’s not me who raised prices, it’s Opec’.”
If withdrawing from the Iran deal does send prices higher, the administration does not have any effective levers it can pull to bring them down again. Dan Brouillette, deputy secretary of the US energy department, last week dismissed the idea that the US might release oil from its Strategic Petroleum Reserve to calm the market. “It’s just not really our philosophy to do those things,” he said on the sidelines of the Columbia Global Energy Summit in New York.
For as long as the uncertainty over the US position persists, a risk premium is likely to remain in the market, keeping prices higher.
Even some producers think that is a worry. Scott Sheffield, chairman of Pioneer Natural Resources, a leading US shale oil company, said last week that rising oil prices concealed a long-term threat. “We’re going to lose demand: it’s going to move more to alternative energy. More people will buy electric vehicles,” he said at the Columbia conference. “I don’t think it does anybody any good to see $70-$80 crude.”
In the long term, that means more bad news for Mr Flory’s petrol stations. “Every time you have a gas price scare like this, more people buy electric cars,” he says. “And that’s just not good for business.”
