Why are Oil Prices Changing Gears?

The international oil market is known to be volatile. Ever since oil was first found, the market is known to have many boom-bust cycles. A perfect example of the same can be seen in the recent changes in the price of oil. Till September 2018, the prices of oil were on an upward trajectory. However, now the prices of oil have suddenly tanked. Investors all over the world are not sure what to make of this development.

In this article, we will have a closer look at some of the factors that have led to a sharp decline in the price of oil. Also, we will try to understand why such a sudden decline in oil prices may not be good for the American economy.

Saudi Compliance

Saudi Arabia is the country which has the most influence over the prices of oil in the world. This is the reason that it would be reasonable to say that Saudi Arabia has willingly accepted to reduce the oil price for some time. Any doubts about the Saudi government’s compliance in the current price decline can be ruled out. This is because as soon as the prices went down, American President Donald Trump was one of the first to congratulate the Saudi government. Donald Trump was of the opinion that the Saudi co-operation was vital and that the following price decline acts like a tax cut to America and to the rest of the world.

Now, the question arises that why has Saudi Arabia become so benevolent all of a sudden? The answer lies in the Jamal Khashoggi killing case. It has been established that the Saudi prince had ordered the murder of the journalist. Hence, human rights groups from all over the world have been urging other governments to take stricter measures against Saudi Arabia. This is a time when the Saudi government is most vulnerable. This is the reason why Saudi is following the populist demand for lowering the oil prices so that it can be viewed more favorably around the world.

American Overproduction

Donald Trump’s political career is resting on his so-called “economic prowess.” He had been taking credit for the rise in stock prices during his tenure. However, during October 2018, the gains from the entire year were wiped out in just a few days. This is where Donald Trump started looking bad.

The last time he had propped up the stock market by providing indiscriminate tax cuts. It is likely that this time he has done the same. As already mentioned above, Trump convinced Saudi Arabia and other OPEC countries not to cut their production. At the same time, Trump has ensured that American firms increase their production. It is evident that Donald Trump wants to flood the market with the supply of oil thereby lowering prices.

Exemptions on Iran’s Sanctions

Another important point is to note that America has been very lenient in the sanctions that it has levied on Iran this time. Usually, America urges its allies to boycott any country that it levies sanctions against. However, this time it has given some of its trade partners some leeway. For instance, India which buys significant amounts of oil has been allowed to buy from Iran. It is difficult to miss the American involvement with the lowering of oil prices. Once again, America has reduced demand from the oil market. In the above points we have seen that America has increased supply and now we know that it has also decreased demand.

Hence, it can be said that this fall in price is artificially engineered. It is likely that in the forthcoming OPEC meeting in December, Saudi Arabia would face pressure from other cartel members. This is when the kingdom may cut production and end up raising costs. The fall in the price of oil seems to be orchestrated since it helps meet the political agendas of both Saudi Arabia as well as Donald Trump.

The Strength of the Dollar

Lastly, it is important to note that the strength of the American dollar also has a lot to do with the fall in oil prices. As the dollar becomes stronger, people from other countries have to pay more in their local currency to get the same amount of oil. This is what makes buying oil expensive as it drains the Forex reserves of most developing nations. Hence, over time they tend to rationalize the demand so that the import bill is affordable. This is what seems to have happened right now as the oil market seems to be going through a lull.

Effect of American Economy

It needs to be understood that just because Donald Trump thinks that falling oil prices are good for the American economy does not mean that it is true. Firstly, it is correct that the average American will save a few dollars every time they refuel their car. However, the overall impact on the economy may be negative.

For instance, consider the fact that falling oil prices are considered to be a harbinger of tough times ahead. If oil prices are to be believed, the global economy may be heading towards a recession. Also, America now has a large fracking industry. This means that a fall in the price of oil has a direct impact on the revenues generated from fracking. Not only does this hurt the private players in the market but it also hurts local governments who earn tax revenues from the sale of this oil.

To sum it up, the fall in the price of oil is orchestrated as well as temporary. If that is not the case and prices continue to stay down, it could mean worse news for the American economy.


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