Francisco Monaldi: When oil prices
crash it's not pretty for producers
While cheaper fuel beckons for the US and Europe, weak oil-producing nations face hardship from the vast transfer of wealth.
The longest and biggest oil boom in history is over. In a boom – and the latest one lasted almost 10 years – everything shines for producer nations: the economy grows, consumption explodes, businesses make fat profits regardless of their productivity, poverty declines even if social protection programmes are ineffective, politicians are popular and get re-elected even if they are incompetent and corrupt, and people tend to be happier.
But oil prices tend to be cyclical, so when the downturn comes, the party ends. During the oil price decline of the 1980s, most oil-dependent countries suffered the consequences of the resulting collapse in investment and consumption. A few, such as Oman and Malaysia, were able to compensate for the price collapse by increasing production, but many oil exporters suffered, also due to the production cuts agreed by Opec. Some recovered better than others, but in general between 1982 and 2002 they fared much more poorly than the rest of the developing world.
Those that fared worst were typically the ones that got into debt during the boom. Poverty and unemployment rose sharply. In fact, such underperformance led to the widespread idea that having oil is a curse, which has generated extensive literature. The reality is more complex, as shown by economic overperformance during the past decade's boom. In fact, taking out those two “bust” decades, oil countries have outperformed their peers over the past 70 years. So the real “curse” is in fact an oil price collapse.
The current price collapse – for the first time since 2009 prices are below the symbolic $50 a barrel – is largely a result of the boom in shale oil production in the US, adding more than 3m barrels over the past few years. High prices bring investment and supply, and this boom was no different. Oil prices are notoriously difficult to predict, so we do not know if the current bust will last, despite evidence that points to at least two more years of lower prices. Moreover, prices are still above historical standards. For the majority of the more than 120 years of history of the oil industry the price has been below $50 in today's money. But geopolitics or renewed consumption could alter the oversupply scenario and surprise us once again. In fact, oil busts tend to lead to booms down the road precisely because investment in oil exploration dries up.
Net importers, like most European countries, will benefit from the oil price decline. In the US, citizens will pay significantly less for gasoline than they have over the past five years, leading them to spend more on other goods. A vast transfer of wealth from exporters to importers is occurring.
Even if the fall is short term, some pain will be suffered by all net oil exporters, but it will only be disastrous for the countries that failed to learn the lessons of the previous boom and bust cycle. This time around many countries have saved a larger part of their windfall and invested more in productive assets, although generally significantly less than the value of the resource being depleted. Many abandoned their conservative fiscal policies during the financial crisis of 2008-09, which made sense, but they never got back to the prudence of the first few years of the boom.
Middle Eastern producers were prompted to increase spending by the unrest produced by the Arab Spring. Still, with few exceptions, most exporters are in better shape to weather the storm. The wealthy countries of the Gulf, and some of the Caspian countries, can easily manage a temporary fall in prices – they have accumulated large external funds, although some face more worrisome long-term fiscal prospects. Even Russia is in a better position to manage the oil fall than the Soviet Union was, but it would still suffer from the necessary cuts in imports and spending, and the sanctions will hurt more . Iran is in worse shape because it had a less prudent economic policy and sanctions had already produced a crisis even before the fall in the oil price. Nigeria, despite an improved macro policy in comparison with the previous boom, is going to be significantly affected due to its excessive dependence on oil, leading to an increase in poverty and political instability. Angola is also vulnerable. Latin American oil exporters with generally prudent macro policies, like Colombia and Mexico, will also be affected by the necessary fiscal adjustment, but they should be able to manage it with limited trauma. However, no country is in worse shape entering into the price collapse than my home country, Venezuela.
As the proverbial grasshopper of the fable , Venezuela did not only spend throughout the summer, mostly in consumption, but it also went into a debt binge to afford even more consumption: the country was running deficits of 15%-20% of GDP during the peak boom years. Now comes the winter and it faces economic collapse. Inflation could top 100% in 2015, shortages are widespread , and there is a high probability that many Venezuelans who came out of poverty during the boom will fall back into it, with serious consequences for political stability.
Oil abundance is not necessarily a curse. Most producers are better prepared this time around, but for the few that learned nothing from the past, the reality will be as harsh as the grasshoppers' winter.
Editor's Note: This commentary was originally published by The Guardian , 01/12/2015. Petroleumworld reprint this article in the interest of our readers.
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