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Oil and the World Economy

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Submitted By nicolechris
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Article summary
The article I looked at was...
Oil and the world economy
The new grease?
How to assess the risks of a 2012 oil shock
This was from the 10th of March online Print edition of the Economist
The article looks at increasing oil prices, reasons for the increases and the effects on individual countries and the global economy.
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High oil prices have become the latest source of worry for the world economy, and the four main questions everyone is asking in assessing the dangers posed by more expensive oil are: What is driving up the oil price? How high could it go? What is the likely economic impact of rises so far? And what damage could future increases do?
The article starts by explaining that the price of Brent crude increased by more than $5 a barrel on March 1st, to $128, after an Iranian press report stated that explosions had destroyed a vital Saudi Arabian oil pipeline. After the Saudis denied the claim, the price fell back to $125, however this is still 16% higher than at the start of the year.
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It goes on to discuss reasons for the increase in oil prices such as a move by investors who are now investing into hard assets especially oil, increased global prospects which have increased expectation for oil demand and disruptions in supply.
The article concludes that supply shocks, do more damage to global growth than higher prices that are the consequence of stronger demand.
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Even though this chart shows Saudi Arabia is pumping 10 million barrels per day, a near-record high. The oil market has lost more than 1m barrels a day of supply due to a variety of issues such as the pipeline dispute with South Sudan. The cushion of spare supply is thin, oil stocks in rich countries are at a five-year low and the extent of OPEC’s (Organization of Petroleum Exporting Countries) spare capacity is uncertain.
Also there is the threat of far bigger supply disruptions if Iran were ever to carry out its threat to close the Strait of Hormuz, through which 17m barrels of oil pass every day, which is about 20% of global supply.
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Looking at all the factors increasing oil prices Jeffrey Currie of Goldman Sachs reckons that the fundamentals of supply and demand have pushed oil prices to around $118 a barrel. He thinks the remaining increase is down to fears about Iran. Thus if relations with Iran improve, the oil price might go down by a few dollars, but stay close to $120.
The article goes on to look at the effects of increased oil prices, and states globally the damage from the price increases is likely to be limited. For now any impact is said to be outweighed by improvements elsewhere, particularly in the easing of the euro crisis. Despite more expensive oil, the prospects for global growth are still better than they were at the start of this year.
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The article also states that the impact on growth and inflation in individual countries and economies will differ and uses examples of America and Europe. It explains America, may be more resilient to more expensive oil than in recent years, due to rising employment, which gives consumers more income to pay for fuel. Also America has become less energy-intensive, and dependent on imports. Thus oil consumption has fallen the past two years, even as GDP has risen. Combined with the fact that Americans are driving less, buying more fuel-efficient cars and net oil imports are below their 2005 peak imply that the impact of increasing oil prices on America will be limited.
The article continues by looking at Europe which on the other hand to America, is more exposed and may be relatively more affected, because many of its economies are currently stagnant or shrinking.
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Also Europe’s weakest economies are also some of the biggest net importers as can be seen in this chart.
Greece, for instance, is highly dependent on imported energy, of which 88% is oil. Price rises will worsen the euro-zone recession. A spike could cause a downturn and hurt the confidence of markets.
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Britain is relatively protected. Although it is a net oil importer, it has significant resources in the North Sea. Any losses to the consumer from more expensive fuel are partially offset by gains in the oil and gas sector itself.
Barrels, no laughs
In the case of emerging economies the picture is even more uneven. Oil exporters, from Venezuela to the Middle East, are gaining while oil importers will see worsening trade balances.
In the short term, some of the hardest-hit emerging economies will be in eastern Europe. They will suffer not only from more expensive oil but also from the weakening of European export markets.
India is also a concern. Fuel is a big component of its wholesale-price index, so inflation will rise as higher oil prices are passed through to domestic fuel costs.
The article ultimately concludes that expensive oil is, for now, doing little harm to global growth. But it is not helping Europe’s more fragile economies. And if the Strait of Hormuz is threatened, the resulting spike in oil prices will mean the end of the global recovery.
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Broader significance to Labour and Industry
Economic issues * Increasing oil prices has the potential to affect many areas of labour and industry worldwide. This will result in the winners and losers. * There is a straight-forward redistribution of income. As the propensity to spend of those who lose income is generally larger than the propensity to spend of those who gain income means Net oil producers and exporters will gain while net oil consumers and importers lose out. * This will lead to a fall in global demand because consumers will be spending more on petrol thus having less money to spend on other goods and services. Low to middle income earners are the most affected. Depending on the Fiscal policy employed by the Government in each economy. * Price levels and inflation around the world will also be affected through consumers who will be looking to offset the decline in their real incomes through wage increases while producers will look to restore profit margins. This could create a wage/price spiral
Next slide * Oil is also a vital input for the production of a wide range of goods and services, because it is mainly used for transportation in businesses. Higher oil prices thus increase the cost of inputs. If the cost increases cannot be passed on to consumers, economic inputs such as labour and capital may be reallocated. Higher oil prices can also cause worker layoffs and the idling of plants, reducing economic output in the short term. * Industries hardest hit will be energy intensive industries such as manufacturing and transport industries. Examples of how rising oil prices effect different industries can be seen through car makers who may have to invest greater capital in the research and development of more fuel efficient cars to keep the demand for their products up. Airlines may face the dilemma where they have to increase ticket prices to cover increased fuel costs, which may result in a fall in those willing to travel thus companies not being able to cover the extra costs of fuel which was the original issue.

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