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Oil, Precious Oil!

January 20, 2015

While most of the consumers around the world are enjoying lower energy and oil prices, the oil industry itself is not cheering at all. In fact, the current price level is too low for the industry in general and very soon, we should start seeing the negative side effects of cheap oil.

It is no news that the United States oil industry has been growing very fast during the last 5 years or so. One of the brightest examples is perhaps the state of North Dakota, where the oil industry has been expanding since 2006 and the process is still ongoing. As a result, unemployment rate there is one of the lowest in the country.

However, current market prices may change the situation dramatically and the slow-down in the oil industry may start a chain reaction which may end up hurting the overall growth. Inflation is of course the first and the most obvious casualty but the damage could be far worse than we currently anticipate.

The problem is that a lot of oil drilling companies are in debt up to their necks because setting up new wells (and of course finding them in the first place) is extremely expensive procedure. Their revenues have dropped significantly since the oil price crashed and sooner or later they may not be able to service their debts anymore.

When the oil price started to crack back in June 2014, very few expected it to fall that hard and that fast, and when the significant levels started to break, such as $70 & $60 per barrel, oil officially became the main ingredient of every inflation report out there.

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Back then, most of the central banks considered lower oil prices as threat to the inflation but on the other hand, they saw it as a stimulus to the economy as cheaper oil should leave more money into consumers pockets and hence, they could spend it on something else. But in real life, that hasn’t worked out very well.

Last Wednesday we saw the latest US Retail Sales figures and they confirmed what many predicted. Cheaper prices in the gas station do not necessarily mean that the consumers will start spending more money in the shops.

Most likely the worst is still to come and soon we may start seeing a wave of bankruptcies in the oil industry. That of course has a negative effect on employment data, GDP and inflation.

Capital Properties FX
20.01.2015
Kaarel.