Wednesday, March 18, 2015

Oil Watch: Financial Implications of Barrels Hitting the Bottom

Jonah Engler Oil Watch

Oil prices have been tumbling in recent months to levels that have not been witnessed since 2009. As global oil supply continues to outstrip demand, crude prices hit 42.85 dollars a barrel on Monday. Consumers have been excited about the recent drop in prices, but many analysts say that price increases could be possible in the near future. Most importantly, the crash of oil prices could have significant economic implications that could affect many sectors of the international economy.


Cause of the Oil Plunge

Oil prices initially crashed when Saudi Arabia announced a defensive initiative to flood the global oil markets in December 2014. Saudi Arabia faced a range of challenges over the past year, including the rise of the Islamic State and Iranian challenges to the nation's customary sphere of influence. Shale and natural gas producers in the United States have also been increasing the global supply of oil. New extraction techniques enable domestic producers to significantly reduce the cost of production, though it is unclear how long these advantages will last. Although there are secondary causes, Saudi Arabia and domestic producers are primarily accountable for the recent reduction in oil prices.

Future of Oil Prices

The crash attributed to shale and natural gas producers was initially fueled by speculation, but a full quarter of consistent production has converted speculation into reality. Analysts now expect prices to remain low for years to come. The maintenance of low prices now challenges traditional thinking that assumed severe oil shortages in the decades ahead. New extraction methods now indicate that the global economy could have enough oil to last over a century. The increase in future supply means that prices are almost certain to stay low over the next few years.

Impact on Currencies

The economies of many nations are heavily dependent on oil production, which can have a significant impact on the value of national currencies. For example, the Russian Ruble lost more than half of its value relative to the dollar in December 2014. Most significantly, the Euro has lost almost 30 percent of its value relative to the dollar. Fluctuations in currency exchange rates can have a severe impact on international businesses. Investors with exposure to stock market holdings based in the Middle East, Europe, or Russia could face significant losses as a result of these currency fluctuations.

Effect on National Government

Finance National governments form the backbone of economies by facilitating trade. Unfortunately, fluctuations in oil prices could impact national deficits and force some nations to scale back their social services. Saudi Arabia has forecasted a 43 percent reduction in revenue for the year 2015, forcing government leaders to eat away at fiscal surpluses to stay afloat. The Russian economy, which is already suffering from international sanctions, has forecasted significant deficits that could force it to take drastic measures. Individuals or businesses with assets in affected nations could be forced to accept losses.

Jonah Engler is a successful entrepreneur, investor, franchise owner and coffee lover who hails from New York City.

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