Since the middle of last year the price of a barrel of oil – perhaps the most important variable in the global economy – has tumbled by 50 per cent, sending shockwaves throughout financial markets.
Is it a sign that once again there is something rotten in the state of our economic affairs? Are oil prices telling us that ‘secular stagnation’ is true, or that we are soon to suffer at the hands of the euro or China’s reckoning? On the other hand, perhaps it doesn’t portend to hard times at all. Maybe it is just a manifestation of changes in the oil sector.
To be clear, when it comes to our economic affairs as they pertain to oil demand, the future is not what it used to be. Chinese growth has decelerated markedly during the past five years – from double-digit growth per year to around 7 per cent today – and will almost certainly be significantly lower in the years ahead. There is no reacceleration on the cards because, with deep vulnerabilities in the financial sector, it is now too dangerous for the Chinese government to engineer faster growth than is absolutely necessary.
This development has helped to depress commodity prices in general since early 2011. The Commodity Research Bureau commodity index fell 16 per cent between April 2011 and mid-2014. Oil has been the laggard to this trend, holding up well until mid-2014, so the recent fall should be viewed partly in the context of oil playing catch-up to its commodity peers.
Make no mistake, cheaper oil is very positive for the global economy. Indeed, if the low price persists, then it is one of the most positive developments in many years. The drop is expected to result in a 0.5 per cent boost to global GDP growth in 2015. The clear beneficiaries are the developed markets, alongside the energy-importing emerging markets. Nevertheless, there are losers as well – oil companies obviously and countries dependent on the oil-producing sector, such as Russia and Nigeria, along with specific regions within countries, such as Texas and northeast Scotland.
Indeed, the losers are conspicuous because they are concentrated by sector, country and region, while the benefits are spread across the globe among billions of consumers. As a result, the markets have naturally focused on the negatives so far, brushing aside the benefits to stocks in the top line (via increased consumer spending) and margins (via cheaper energy inputs), which will manifest over the coming quarters.
As a significant energy importer, India will be a primary beneficiary of a lower oil price, as it helps to address a key market concern – namely its trade deficit. India’s energy import costs will now significantly reduce. This deficit had already closed substantially, falling to 1.7 per cent of GDP by the second quarter of 2014 – sharply lower than the previous year’s figure. This was due to the reform agenda of prime minister Narendra Modi attracting foreign capital and triggering improvements in economic efficiency.
