OIL PRICES TUMBLE AS A NEW BALANCING ACT BETWEEN STATE AND MARKET EMERGES
Authors: James Burkhard, Ruchir Kadakia, Daniel Yergin
The massive injection of state capital into banks in the United States and Europe is another step toward a new balance between the power of the state and the market. Government is taking over the “commanding heights” of the financial industry in an attempt to avoid a severe and prolonged economic recession. If this helps to relieve the credit drought, it would diminish, but not eliminate, the risk of oil prices falling well below current levels.
- CERA’s Global Fissures scenario, as we imagined it more than two years ago, was triggered by “a severe downturn in the US economy that is linked to an abrupt and painful realignment of global financial imbalances.” It seemed a distant possibility amid the global economic boom, but no longer. Policy decisions over the next year—and market responses to those decisions—will determine whether a recovery begins in late 2009–10 or whether the worrisome characteristics of Global Fissures remain in place for years to come.
- A severe global slowdown will test two key oil price supports: the current oil price cost floor and OPEC price defense. Market psychology and expectations of the future, which just a few months ago were blindingly bullish (as in $250 oil or, even as late as September, $500 oil), will also play a key role. A key downward price risk would be an expectedly rapid decline in oil service costs and equipment.
- The run-up to $147 oil followed by a precipitous drop to the $70 to $80 range is creating shock waves in terms of oil price uncertainty—particularly in light of the financial crisis that has begun to reverberate outside of the financial industry. The impact of lower oil prices and tighter credit could lead to a degree of industry consolidation. The most vulnerable companies are those that banked on very high prices and that took on high levels of debt.
A Crisis Environment
The world changes in a crisis. We are in one. The pendulum of power between the marketplace and government has been swinging toward government in recent years—particularly in energy. Now the swing is approaching gale force, as governments take over the commanding heights of finance. The world will be different for many years to come as the repercussions of the financial crisis reverberate in the halls of power and commerce.
The fastest expansion of the world economy in a generation—annual average growth of 4.6 percent from 2003 to 2007—is quickly becoming a memory. Indeed, as often happens, the boom spawned the seeds of its own destruction—overconfidence, underpricing of risk, relaxation of lending standards, and creation of complex webs of risk that were not understood or even recognized. Add to that the conviction that all bets were one way and that "this time is different." The excesses that played a growing role in the expansion, especially in its later years, are now an albatross that could lead to the severest slowdown in growth since at least the early 1980s.
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