The idea that implicit or explicit sanctions of Russian oil would lead to higher prices was not entirely unfounded. Prices shot up after the United States and Canada banned new imports in response to the invasion of Ukraine. And Western oil companies dealing legally in Russian crude found themselves issuing apologies for doing so.
But life — or, uh, oil — finds a way.
In this case, it found its way east, with Asian countries happily snapping up Russian barrels at a discount to the global price of oil. Consequently, oil prices have fallen to below where they were on the eve of the Russian invasion.
Crude oil prices fell to below $90 on Wednesday and were $91 on Thursday, well below the $100 or over that many Wall Street banks anticipated early this year, with Morgan Stanley forecasting $130 a barrel for Brent crude oil, a related oil benchmark that currently sits at around $97 per barrel.
There were many reasons to believe the fall in oil prices couldn’t happen.
While outside the United States many countries never formally adopted an embargo against Russia, there were fears that “self-sanctioning” would remove millions of barrels per day from the world oil market. 2022 was also supposed to be the year the world economy recovered from covid-19, bringing oil demand back up to 2019 levels. And, in North America especially, where no new refineries had been built since the 1970s, capacity had shrunk as some refineries shut down in 2020.
But across the country, the average price at the pump is $4.04 a gallon, which, while not exactly low, is much lower than the over $5 price tag in June. How did we get here?
In short, many of the fears of late May and early June when prices spiked turned out to be short-lived, for good and ill. Russia’s ability to produce and export oil — although not to the U.S. and Canada — remained persistent, and the market responded to extremely high oil and gas prices in the spring and early summer.
First are the macroeconomic drivers of the market for crude oil, which is then refined into gasoline or other products like diesel or jet fuel.
Oil markets had anticipated that some two to four million barrels a day of Russian oil would disappear, when instead Russia continued to export oil at an even pace, albeit at a discount to the world price, according to Gregory Brew, an oil historian at Yale University. Simultaneously, Brew explained, “recession worries in the U.S. and economic troubles in China suggested depressed future demand, which put further pressure on prices.”
Rory Johnston, founder of Commodity Context, a commodities research service, explained that Moscow has been redirecting exports from areas that are “explicitly sanctioning” Russia, such as the United States and Canada, and “implicitly” sanctioning, like some countries in Europe. “Those barrels are flowing to China and India,” Johnston concluded.
According to data from Reuters, the Chinese and Indian share of Russian oil shipments has doubled from around 20 percent to over 40 percent compared to a year ago. As Valero chief commercial officer Gary Simmons said in July’s quarterly call with analysts, “As time has gone on, it appears that the Russian oil has continued to flow — and it’s a change in trade flows, not less Russian oil on the market.”
But it wasn’t just Russia pumping out more barrels unexpectedly that led to a decrease in oil prices. In late March, President Biden ordered 1 million barrels a day to be released from the Strategic Petroleum Reserve for six months. That, Brew said, supplied “a lot of additional crude” to the oil market, “which meant inventories were fuller than anticipated.”
And then there’s gas. While oil prices have fallen around 30 percent since their twin peaks in March and early June, gas prices have fallen 20 percent since their peak in June.
What was supposed to be a summer where refineries buckled under the strain of Americans driving everywhere and of a nasty hurricane season knocking out the Gulf Coast refinery complex hasn’t materialized? At least so far, Americans are driving plenty, but still at a little below 2019 levels. As for hurricane season, it has been modest so far with no hurricanes and the last named storm petering out in early July. In a note to clients, Morgan Stanley energy analysts said that “the seasonal increase in U.S. gasoline demand has been particularly lackluster, still tracking well below pre-covid levels.”
In fact, refineries are routinely running at over 90 percent capacity. All the while, inventories of gasoline actually grew in the United States, and the margins refineries were able to extract from processing crude fell.
“There was more gasoline than needed,” Johnston said. “What actually happened is that everyone flipped into production mode and swamped [the] gasoline market.
“This is the most oversupplied quarter since the second quarter of 2020 when the world shut down,” Johnston added.
But just because oil and gas prices have fallen doesn’t mean they will continue to do so. Just this week, the Energy Information Administration reported that stocks of crude oil and gasoline declined, indicating that while prices have decreased, the fundamental supply-and-demand dynamics of the oil and gasoline markets are still tight, meaning the price of oil has room to run up if conditions change.
“The market is still tight, and now a U.S. recession is looking marginally less likely,” Brew said. “So I’m expecting prices to tick up and likely stay in the $90-$100 range this fall.”