As global stock markets entering the last month of 2014, instead of predicting a grand year end rally, investors are focusing on the problem of falling oil price. Since last week when OPEC decided not to cut supply, maintaining its quota of 30 millions barrel per day, crude oil price has fallen below the US$70 price level and at this moment is trading even below US$65 for Nymex crude oil. With that, some heads have started to pop up predicting the fallout of oil prices could lead to another global crisis. Before getting into whether it will or will not, let get some points straighten out first regarding the falling oil price.
There is no doubt there are currently oversupply of oil primarily due to non-OPEC nations (US and Russia) producing more, US shale production hit 30 years high !. Basic microeconomics of demand and supply will tell you that when there is excessive supply, the outcome will be no other than price falls leading to moving out of the equilibrium point. The self-correction will be at lower price level will trigger an increase in demand as more consumption will be made to take advantage of the lower price level. This in turn will bring back up the price level and return back to the equilibrium point. This is what should be expected to counteract against current falling oil price. There are also other measures to rectify the problem of excessive supply like "intentionally cutting down supply", which was what most wanted OPEC to do during last week meeting so that oil price could find a bottom. Now if cutting supply is the way out, why only OPEC must do it and not non-OPEC nations like US and Russia ? That should be a strong point to ponder about instead of pointing fingers at OPEC for the continuation of falling oil price. What OPEC did at last week meeting was merely apply the self-correction model of basic microeconomics and that should not be wrong either. So who is right and who is wrong ? Answer is nobody is right and nobody is wrong either. The important thing is oil price need to be stabilized whether by the self-correction model or artificial mean and it will stabilize even by the slowest process of self-correction model. The concern will be how and what impact will low oil price on global economy and that should be carefully and thoroughly analyzed before jumping into conclusion that another global crisis will be coming at this point.
Falling oil or low oil price will bring both pros and cons to global economy. All pros and cons should be fully examined before any conclusion can be made.
Cons:-
1. Falling or low oil price will lead to fewer oil exploration in turn hurting the revenue for those companies involved as the selling price of oil will not bring out any good profit for these companies due to the higher cost of the exploration. This could lead to closure of some of the weaker companies resulting in increase in unemployment rate, lower consumption activities, etc. This is particularly will have heavier impact on US economy as weaker shale producing companies unable to cope will have to be forced to close down. It is quite similar to the dot-com era if needed any historical reference.
2. Globally, there will be companies that went on leverage in debts (most notably issuing bonds to raise capital) in the past to get on the oil exploration bandwagon will face the squeeze and eventually being forced out of the market. Should any of these companies go belly up, that will trigger bond default and could potentially trigger a global credit crunch which eventually lead to global financial crisis.
3. Inflation level will be brought down to low or even thread of being deflation. While too high an inflation is no good to any economy, too low or deflation is also bad for economy. Japan has been fighting deflation for decades and Europe is now facing threat of going into deflation stage too. If the low oil price persists, other nations in the world will soon one by soon facing the thread of deflation. As can see from now, Central Banks around the world are doing all they could in loosing monetary policies to fight low inflation. The additional pressure of low oil price will do them no good.
The above 3 will be the most catastrophic impact falling or low oil price can bring to global economy.
Pros:
1. For nations with threat of high inflation, the falling and low oil price will help cool the inflation as such ensuring Central Bank to take a breather from tight monetary policy and also more room for loose monetary policy to spur growth. Like the case of China in which its recent PMI and even GDP figures were all trailing behind expectation and the slowing down of inflation due to falling oil price will be good news to Central Bank.
2. Falling or low oil price will not benefit oil producers but good for consumers be it in household or industry level (transportation, manufacturing companies, etc). The low oil price can spur spending activities (and it is these increase activities that could bring the oil price back to stability), thereby generating more economic activities.
3. Majority of Asia nations (including Singapore) are net importer of oil and hence the low oil price will be good for them to fuel more economic activities which in turn should be able to balance off the other part of the globe which is suffering due to the lower oil price.
The above 3 are few of those stronger points in which falling or low oil price is better.
As can be seen, there is no absolute that falling or low oil price will lead to the global economy enters another round of crisis. It is a matter of how the pros (to one part of the world, Asia) going to offset the cons (to the other part of the world, Western), thereby stabilize the oil price eventually. This is not the same scale as the 2008 global financial crisis in which the fall of Lehman Brothers did not benefit any of the nations in the world. Hence to put a conclusion immediately that another global crisis will be coming because of oil price is probably premature at this stage.
Another to note is that even the low oil price might dent economic growth of some nations (perhaps US when their shale producers getting hit), Central Bankers nowadays are very "generous" in "printing money" to avoid another crisis. Won't be surprise the fallout from low oil price can lead to US Fed to resume QE4 next year, BOJ and ECB to further expand their stimulus further to fend off low inflation.
For stock markets, panic sellout due to the falling oil price is inevitable as most of the time stock markets are just irrational in nature. Should the company is fundamental strong and in non-oil related business, there is no reason to press the panic sell button.
Falling or low oil price can have pros and cons, weight out each possible scenarios as the event unfold and act accordingly is the best strategy. Never harbor extreme views (bullish or bearish) is the way.
