I’ve taken an incredible ration of bad commentary over my half-dozen or so articles on the oil glut’s impact on the economy.
But one constant remains, the economy as a whole is still not benefiting from the lower oil prices — the stock market continues its slide, the Fed chair issues new warnings, and some speculators are even predicting $10 per barrel of oil.
Why has this glut continued for so long? Four reasons are keeping it alive and well — and have placed oil producing nations in a position where they can’t collude on production amounts to prop up prices.
1. The House of Saud Started it, But Even They Are Suffering Now
The House of Saud started the glut in an effort to destroy newer oil technologies, with the full intention of jacking up prices once tar oil, shale oil, and other new technologies had become fully marginalized. A secondary objective was to get oil low enough to stifle the development of alternative fuels, making the opportunity cost for development too high for a reasonable cost-benefit analysis.
But ‘turning on the pumps full blast’ has also hurt the House of Saud. In a kingdom where they ruled from both fear and the provision of economic ‘goodies’ to their people, they’ve lost the ability to maintain the largess expected from their population since the 1980s.
2. Ruble Stabilization Makes Russia the World’s Number 1 Exporter
The continued Russian Ruble Crisis is forcing the Russians to stabilize their own economy by injecting American dollars. Almost all worldwide transactions in oil are conducted in USD; Russians desperately need this boost to their currency reserves to prop up their own economy. Russia is now the world’s number 1 producer and exporter of oil and natural gas, with seemingly no end in sight to their policy of pumping.
3. Iran to Pump at Any Price to Pay for Their Expansion Projects
With most sanctions lifted, assets unfrozen, Iran is on a spending spree — and unfortunately it’s not with us. Signing deals with China, India, and the EU, Iran is on one of the biggest spending sprees in Middle East history, primarily on infrastructure and capital development.
A problem for Iran is they don’t have the money to pay for it; they must pump at any price, even a loss, to gain the USD to pay for the expansion.
Iran has tried to coax the EU and other markets into paying for their oil in euros, but it remains unclear (and unlikely) that this will happen. Petrodollars are still king, which politically and financially irritates the Iranians because of the transaction costs and fluidity of the global currency markets.
4. Domestic Companies Are Pumping for Debt Service
At home, domestic companies (including the smaller ‘wildcat firms’) are having to pump exclusively to pay debt service. In 2010, the domestic oil producers had over $200 billion in debt, largely accumulated because of expanding into newer technologies, expanding production, and opening new oil territories.
This puts debt service in the billions of dollars a month, even at generous rates and terms, equating to millions of barrels of oil each day being pumped solely for debt service.
Big Win for the Consumer at the Pump; Economy as a Whole in Crisis
Consumers have loved the lower gas prices at the pump. Most government reports are showing that household debt is decreasing — people are paying off debts with the money saved.
But the economy as a whole just isn’t doing well. And continues to slide.
With projections of a bear market for 2016, as well as Fed Chair Yellen’s most recent warnings, Americans need to personally, financially, and politically brace themselves for the possibility of a bad year.
Who knows what the outcome will be, but the crystal ball of economics is not showing a rosy picture as it stands today.