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Surging oil prices could hurt world economy

Surging oil prices could hurt world economy

The feared super-spike in crude oil prices that appears to be underway could deal a crippling blow to a global economy already reeling from the US housing slump and tight credit, analysts say.

Yet some argue that the surge may be a speculative bubble, and could end up self-correcting as demand softens from weaker economic growth and energy efficiency measures.

Crude futures in May soared past the level of $130 a barrel for the first time, having more than doubled in the past year.

The jump appeared to fulfill predictions from some analysts of a super-spike that could take oil up as far as $200 a barrel.

Goldman Sachs analyst Arjun Murti added to the speculative fever earlier this month with a dire prediction of higher prices, citing “a lack of adequate supply growth” and still-strong demand.

“The possibility of $150 to $200 per barrel seems increasingly likely over the next six to 24 months,” he said in a research note.

The reality of sky-high energy costs could mean a darker outlook for the US and global economy, by raising the price of a variety of goods and services.

The notion of a quick recovery in the struggling US economy would likely be put in doubt, and the rest of the world would suffer as well.

“A super-super spike would most likely put a stake in the heart of global economic growth,” says Ed Yardeni, economist at Yardeni Research.

“A global economic downturn would be the most likely outcome, led by a longer and deeper recession in the US.”

The airline industry, already reeling from the surge in the past year, is feeling even more pain. Several small US carriers have filed for bankruptcy and American Airlines, the nation’s largest, announced a capacity reduction of 11 to 12 percent and other steps to deal with soaring energy costs.

“The airline industry as it is constituted today was not built to withstand oil prices at $125 a barrel, and certainly not when record fuel expenses are coupled with a weak US economy,” said AMR Corporation chairman and chief executive Gerard Arpey. AMR is American’s parent.

John Kilduff, analyst at MF Global, said the world is consuming 87 million barrels per day of oil while producing only 82.6 million barrels.

“This is a compelling fundamental factor,” Kilduff said.

But some say oil is a bubble waiting to burst and that prices could fall sharply as supply and demand come into balance.

“We see many of the essential ingredients for a classic asset bubble,” said Edward Morse at Lehman Brothers.

Myles Zyblock of RBC Capital Markets argues that oil could be ready for a classic boom-and-bust cycle.

“I am concerned about the possibility that a euphoric investment mentality is beginning to overtake the oil market,” he said.

Even so, Zyblock said the spike could do considerable damage.

“An oil price mania is a particularly dangerous type of excess since it has the potential to generate severe economic, inflationary and/or political dislocation,” he said.

Oil prices will eventually retreat, analysts say, as the United States and other big consumers curb demand – either by voluntary means or because of an economic slump.

“What should matter and what will matter eventually is the fact that US oil imports are on a downward slope,” said Phil Flynn at Alaron Trading, who notes that more fuel-efficient cars and alternative energy are finally denting demand from the world’s biggest oil consuming country.

“The strain on global energy supply appears to be moderating, albeit ever so slightly,” adds Zyblock.

Zyblock said that other commodities such as gold have come off their peaks as the dollar has bounced back, but that oil’s inexorable rise is more difficult to explain. “Based on our analysis, it seems reasonable to conclude that a speculative psychology is beginning to overtake fundamentals in dictating oil price dynamics,” he said.

“While all manias are incredibly profitable, they are just as dangerous because their inevitable demise – characterized by a price crash – is always a surprise.”

 Mmm... light sweet crude
1970: The official price of Saudi crude oil is fixed at $1.80 per barrel.

1974: Prices pass $10 a barrel after the first oil shock, sparked by the Oct 1973 Arab-Israeli war.

1979: The Islamic revolution in Iran causes a new oil shock and prices top $20.

1980: The barrel surpasses $30 and hits $39 in early 1981 at the height of the Iran-Iraq war.

Sept-Oct 1990: Iraq invades Kuwait and prices rise above $40 per barrel.

Aug 2005: Prices rise above $70 when Hurricane Katrina hits the Gulf of Mexico, damaging major offshore oil installations
Price rises gather steam in 2008

Jan 2: Prices hit $100 amid concerns over violence in Nigeria, stability in Pakistan and supply problems in the key US market.

March 13: Light sweet crude closes above $110 a barrel for the first time amid fevered speculation over the weakening dollar and China’s and India’s ever increasing demand.

May 6: A brighter outlook for the US economy helps push world oil prices over $120 a barrel.

May 21: Oil jumps to $135.04 a barrel as official data reveal unexpected declines in US energy inventories amid increasing Chinese demand.

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