According to the Energy Information Administration (EIA), yesterday, the supply of crude oil crested 15.189 million barrels rounding the first week of December, bringing it ever closer to the 19.25 million barrel inventory that kickstarted an oil price crash in the height of the Coronavirus pandemic (OilPrice.com, 2020). Why is this significant to the global financial system? Stocks, in themselves, are a financial phenomenon and oil—at least at this point in time—fuels global transportation and production at nearly every level, which makes this commodity a prime example to witness politico-economics in action.
The dramatic fall of crude oil stocks in April 2020 presented one the most dramatic drops in any commodity in an exceptionally long time:“…the front month WTI [West Texas Intermediate] contract was sitting at minus $38.45/barrel, down an eye-watering 310.45% on the day” (The Balance, 2020). While it had serious impacts on the oil-exporting countries, the most notable aspect of these effects can actually be seen in the ‘on the spot’ prices (Oil Market Report April 2020) – U.S. Energy Information Administration (EIA), 2020). In other words, the prices that turned negative during this time were actually future prices bought on the Crude Oil Futures Exchange, that is the contracts for the delivery of a specific quantity of crude oil (in terms of barrels) (TheOptionsGuide.com, 2020). Because all of the products were nearly full (particularly with people unable to travel in the height of the pandemic fewer cars, flights, ships needed fuel), the producers then did not know where to store it and found themselves with an egregious surplus and negligible demand.
In this scenario, those who suffered the most from the negative oil prices were not the oil consumers, but those investors who had previously bought futures for April 2020 (Hamilton, 2020). Typically, they can sell these futures for other investors, always in the hope that the price for oil will rise; however, this is precisely what did not happen in April. Instead, the price of oil was very high, but the demand was very low.
Ultimately, the supply surplus due to Coronavirus conditions effectively took millions of barrels out of local demand—and on top of this, a price-war ensued between Saudi Arabia and Russia further exacerbating the phenomenon (CNBC, 2020).Up until this point, both Saudi Arabia and Russia had been dampening production as a means of maintaining a higher price and therefore maximising profits on the basis of high demand. When this tenuous arrangement unraveled in the absence of demand, Saudi Arabia reversed their position (and decided to release supply controls)to become cheaper than Russia which culminated in “the release of another million barrels per day on the global market… causing the price to sink to 18-year lows” (Fortune, 2020).
Although futures bounced back within the month of April, the scenario stirs previously unthinkable hypothetical questions (ETAuto.com, 2020): Would long-term negative futures become an incentive to diversity economies dominated by oil, gas, and petroleum? Or would the surplus of oil on the market lessen incentives to ‘go green’? Although either of these scenarios is unlikely given that that the timeframe was too short for any structural changes such as these to occur, the example illustrates the unique way in which instruments of the finance sector such as “futures” or “options” ricochet into politics – such as we see between major oil producers (like the United States, Saudi Arabia, Canada, and Russia) and major oil consumers (such as the United States, China, India, Japan, and the European Union) (EIA, 2020). Does December’s crude oil build herald a softer price crash? Time will tell, but one thing is certain: the greater the fluctuation in oil prices, the more politics will rattle between oil-producing countries (with and without commodity diversification) as well as with the countries that predominantly consume it.
- CNBC. 2020. Charts that Explain the Saudi Arabia-Russia Oil Price War So Far. [online] Available at: <https://www.cnbc.com/2020/04/01/5-charts-that-explain-the-saudi-arabia-russia-oil-price-war-so-far.html> [Accessed 10 December 2020].
- DNA India. 2020. In Historic First, US Crude Oil Price Plunges Below Zero As COVID-19 Pandemic Hits Demands. [online] Available at: <https://www.dnaindia.com/business/report-in-historic-first-us-crude-oil-price-plunges-below-zero-as-covid-19-pandemic-hits-demands-2821871> [Accessed 10 December 2020].
- Eia.gov. 2020. Frequently Asked Questions (Faqs) – U.S. Energy Information Administration (EIA). [online] Available at: <https://www.eia.gov/tools/faqs/faq.php?id=709&t=6> [Accessed 10 December 2020].
- Eia.gov. 2020. Oil Market Report (April 2020) – U.S. Energy Information Administration (EIA). [online] Available at: <https://www.iea.org/reports/oil-market-report-april-2020> [Accessed 10 December 2020].
- ETAuto.com. 2020. Oil Prices Bounce Back, After Ending Negative for The First Time In History – ET Auto. [online] Available at: <https://auto.economictimes.indiatimes.com/news/oil-and-lubes/oil-prices-bounce-back-u-s-crude-futures-trade-above-zero/75262811> [Accessed 10 December 2020].
- Fortune. 2020. ‘Unreal’: Oil Prices Go Negative for The First Time In History. [online] Available at: <https://fortune.com/2020/04/20/oil-prices-negative-crash-price-crude-market/> [Accessed 10 December 2020].
- Hamilton, J., 2020. Oil Prices, Exhaustible Resources, and Economic Growth. National Bureau of Economic Research. [online] pp.1-32. Available at: <https://www.nber.org/system/files/working_papers/w17759/w17759.pdf> [Accessed 10 December 2020].
- The Balance. 2020. Crude Oil Impacts Everything You Buy. [online] Available at: <https://www.thebalance.com/crude-oil-prices-trends-and-impact-on-the-economy-and-you-3305738> [Accessed 10 December 2020].
- Theoptionsguide.com. 2020. Crude Oil Futures Trading Basics | The Options & Futures Guide. [online] Available at: <https://www.theoptionsguide.com/crude-oil-futures.aspx> [Accessed 10 December 2020].
- Oil, C., 2020. Oil Plunges After EIA Reports Huge Crude Build | Oilprice.Com. [online] OilPrice.com. Available at: <https://oilprice.com/Energy/Crude-Oil/Oil-Crashes-After-EIA-Reports-Largest-Crude-Build-Ever.html> [Accessed 10 December 2020].
- Sek, S., Teo, X. and Wong, Y., 2015. A Comparative Study on the Effects of Oil Price Changes on Inflation. Procedia Economics and Finance, 26, pp.630-636.
- Worldoil.com. 2020. Saudi Arabia And Russia End Their Oil-Price War with Output Cut Agreement. [online] Available at: <https://www.worldoil.com/news/2020/4/9/saudi-arabia-and-russia-end-their-oil-price-war-with-output-cut-agreement> [Accessed 10 December 2020].