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Oil’s bleak outlook is bad news for the global economy

June 17, 2020
in Market
Oil’s bleak outlook is bad news for the global economy
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The plunge in demand is, obviously, due to the pandemic and the lockdowns of most of the major economies. The IEA places particular emphasis on the plight of the aviation sector, where passenger traffic is expected to be about 55 per cent lower this year than last and the sector believes it will be at least 2022, or perhaps even 2023, before normal volumes return.

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The IEA forecasts are predicated on a second-half lift in demand this year as economies start to re-open. Its estimate of June-quarter demand, for instance, was for a fall of 17.8 million barrels a day relative to the same period last year, which implies a solid pick-up in the second half of the year.

That scenario doesn’t appear to incorporate the risk of a “second wave” of the coronavirus in any of the major economies.

The oil price, which traded below $US20 a barrel earlier in the year as the severity of the coronavirus’s economic impacts became evident (and briefly at minus $US37.63 a barrel as the May futures market experienced a meltdown), has stabilised at around $US40 a barrel.

That’s largely due to the recent OPEC+ agreement to cut production by 9.7 million barrels a day to try to bring supply and demand into a better balance. That agreement runs through July but will probably be extended. There have also been significant production declines in the US and Canada in response to the low prices.

The massive build-up in inventories, which have swollen by 1.5 billion barrels this year, will, however, over-hang the market for a long time to come unless the recovery out of the pandemic is a lot stronger than the IEA or most other analysts anticipate.

There has been a massive build up in oil inventories due to the steep drop in demand.

There has been a massive build up in oil inventories due to the steep drop in demand.Credit:Bloomberg

The prospect of a return to the $US60 or so a barrel price at which oil traded before the coronavirus emerged is also clouded by the potential of the US shale oil sector to rebuild production levels quickly if the price moves much above $US40 a barrel. Shale production has proved to be more flexible and responsive to price movements than conventional oil production.

The expected trajectory for oil demand fits within the IEA’s overall expectations for energy markets.

Earlier this year, while its oil outlook was gloomier than this week’s (a 9 million barrels a day fall in demand this year) it foreshadowed an overall 6 per cent contraction in overall energy demand, the biggest-ever in absolute terms and the largest percentage fall since the Great Depression.

Reduced power generation by industry and a steep fall in road and air transport activity are the drivers of the steep reductions in energy demand.

If energy demand is reflective of economic strength and growth, that implies a smaller global economy over the next few years than was the case before the pandemic.

The glut of oil and the over-capacity in energy production generally produced by the coronavirus will have some structural effects. The energy sector that emerges from the pandemic will be different, and smaller, than it would have been had the outbreak of the virus not…



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