The disruption to Russian oil shipments, including the U.S. import ban announced by President Biden on Tuesday, represents one of the largest supply disruptions since World War II, according to Goldman Sachs. With other major oil producers unable or unwilling to increase production in the near term, the price of a barrel of Brent, the global benchmark, hit $128 earlier this week, up nearly 65% since then. January 1st.
After falling on Wednesday on hopes of a negotiated settlement in Russia’s war with Ukraine, Brent slid further on Thursday, closing just below $110. But the likelihood that oil prices will remain high for the rest of the year is expected to reshape consumer spending, weigh on financial markets and strain government budgets in dozens of countries.
“It’s going to look pretty grim,” said Neil Shearing, chief economist for Capital Economics in London. “It’s not going to look like the Roaring Twenties.”
Rising oil prices effectively redistribute income from oil-consuming countries in Europe and China to producers such as Saudi Arabia, Russia and Canada. As a group, producing countries spend less for every additional dollar than consuming countries, which means higher oil prices tend to reduce overall economic activity, Shearing said.
The price spike since Jan. 1 — if sustained for a full year — would transfer more than $1 trillion from consumers to producers. And this figure does not include petroleum products such as diesel, gasoline or fuel oil.
For the US, the higher prices are a mixed bag. Drivers fumed this week when the average price of a gallon of gasoline jumped to a record $4.32. But the shale oil revolution has made the United States one of the biggest oil producers in the world, so higher prices are boosting oil company profits and investor returns.
An oil stock index has gained 29% this year while the broader S&P 500 has fallen more than 11%.
Yet Capital Economics says it would take oil prices over $200 to trigger a recession in the United States. One reason is that U.S. households together have a large savings cushion of $2.5 trillion, dwarfing the estimated $150-200 billion cost to consumers of higher pump prices, said Ian Shepherdson, chief economist of Pantheon Macroeconomics.
Although Russia represents only 2% of the global economy, it is a major player in global energy markets. Russian wells provide 11% of global oil consumption and 17% of natural gas consumption, according to Goldman Sachs.
Russian gas pipelines are essential to the European economy, meeting 40% of European needs. Russian oil is routed to refineries in Poland, Germany, Hungary and Slovakia. As a result, the hit to growth from higher oil and gas prices will be four times greater in Europe than in the United States, Goldman said.
For now, continued growth in the United States, China and India – accounting for nearly half of global output – should be enough for the global economy to stave off an outright recession, economists said. .
“It’s going to be much slower growth,” Shepherdson said. “Nothing like 2008 or the covid hit. But it’s going to be a marked downturn.
The outlook is clouded, however, by the possibility that Europe’s worst conflict in more than 75 years could turn into a more damaging war at any moment.
Predicting the future of Russian oil sales – and world prices – is particularly dangerous. If US allies in Europe overcome their economic concerns and agree to a full embargo on Russian energy, oil prices could hit $160 a barrel, according to Capital Economics. Bjornar Tonhaugen, an analyst at Oslo-based Rystad Energy, told clients this week that oil could hit $240 this summer in a worst-case scenario, according to a Bloomberg report.
Reaching these stratospheric levels would require more comprehensive energy sanctions than have been imposed thus far.
So far, the UK has said it will wean itself off Russian oil imports by the end of the year. The European Union announced a plan to cut its purchases of Russian gas by two-thirds before 2030 and said it would take unspecified steps to also eliminate purchases of oil and coal.
“We must become independent of Russian oil, coal and gas. We simply cannot rely on a supplier who explicitly threatens us,” European Commission President Ursula von der Leyen said on Tuesday.
Even without further government action, traders from companies like TotalEnergies in France are avoiding Russian crude. Finnish refiner Neste said it had turned to non-Russian crude sources. And fear of breaching Allied sanctions on Russia has prompted China’s two largest state-owned banks to refuse to fund further purchases of Russian oil.
This “self-sanction” could slow down 3 to 4 million barrels of Russian oil a day, or about 70% of the country’s total crude exports, according to the Oxford Institute for Energy Studies. Keeping that much supply out of the market could add $25 to the price per barrel of oil.
Oil prices, which hovered around $65 a barrel at the start of 2020, have traced an extraordinary arc over the past two years. In the early months of the pandemic, prices actually turned negative as a glut of oil left traders offering to pay storage facilities for supplies. Prices have risen steadily over the past year as the economy gained ground.
There is little chance of easily replacing lost Russian barrels. A resumption of Iranian exports is blocked by Moscow’s demand that its trade with Tehran be exempted from allied financial sanctions. Venezuela’s dilapidated facilities would need to be renovated before they could fill the void.
The short-term prospects for an increase in US production are also limited. Burned by the latest oil crisis — and alert to pressure from Washington to transition to more environmentally friendly fuels — Wall Street has not been keen on funding the expansion of oil production.
The number of oil rigs in service has increased steadily over the past year, but remains nearly a quarter below pre-pandemic levels, according to Baker Hughes, a Houston-based oil services company.
“If it continues to get worse, we’re looking at the 70s,” said Robert McNally, president of Rapidan Energy Group in Washington. “This will be a severe and sustained blow to the economy.”
Europe will be hardest hit. On Thursday, the European Central Bank acknowledged that the war would have a “significant negative impact” on the euro zone economy and cut its growth forecast for 2022 by half a percentage point, to 3.7%.
Some private reviews are darker. Goldman Sachs said on Thursday euro zone output would contract in the second quarter. Eric Winograd, senior economist at AllianceBernstein, puts the chance of a recession at more than 50%. Others see higher energy costs pushing Europe dangerously to the brink.
“Maybe the growth isn’t negative, but it kind of kills the covid rebound,” said Sergi Lanau, deputy chief economist at the Institute of International Finance.
Central banks are traditionally reluctant to react to oil price movements, viewing them as a temporary influence on price levels. But with US inflation at a 40-year high of 7.9% and tight labor market conditions, the Fed is all but certain to raise its benchmark lending rate by a quarter point next week. .
Reacting to Thursday’s inflation news, Biden blamed rising energy prices, which he called “Putin’s price hike”, one of four times he checked the president’s name Russian Vladimir Putin in a five-paragraph statement.
Rising oil prices could cause the Federal Reserve to act less aggressively in its rate hike campaign, Goldman said earlier this week. Fed Chairman Jerome H. Powell faces a tricky challenge: He must calm the highest inflation in decades even as most economists expect it to decline for the rest of This year. And it must do so without tipping the $23 trillion US economy into recession.
The balance may be even more difficult in Europe, where the economy started the year with less dynamism and yet consumer price inflation is at its highest since the introduction of the euro.
The ECB on Thursday surprised investors by accelerating plans to withdraw its extraordinary financial stimulus, saying it would start scaling back its bond purchases in May and consider ending them this summer.
Eurozone inflation hit 5.8% last month and the war in Ukraine poses “a substantial upside risk” to price stability, ECB President Christine Lagarde told reporters at Frankfurt, Germany.
Central banks in many emerging markets – including Russia, Brazil, Mexico, Pakistan and Hungary – have already raised borrowing costs in recent months.
As the Fed begins to tighten, many will be under pressure to act again to slow economic activity, even if their pandemic recovery is not yet complete.
At current levels, oil prices could shave one percentage point off economic growth rates in major oil-importing countries such as China, Indonesia, South Africa and Turkey, according to estimates by the World Bank. For South Africa and Turkey, this would halve pre-war growth estimates, while China and Indonesia would see their projected growth drop to around 4%.
Governments in countries like Jordan, Lebanon and Tunisia, which protect consumers by subsidizing electricity prices, will struggle to meet these rising costs. In January, Fitch Ratings warned that efforts to cut fuel and utility subsidies “could trigger social and political instability, particularly in Tunisia”, where the 2011 Arab Spring protests began.