Could Next Year Be It?

Roll out the $100 barrel?
Oct 23rd 2007From Economist.com

The price of crude oil may be dipping again, but a significant record remains on the horizon
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SOME call it a curse, but those awash in oil must feel blessed at the moment. As the price of a barrel of crude touched a record $90 last week, before sliding once again this week, speculators have been considering an even bigger benchmark: the $100 barrel. The number rattles consumers, but their worry is probably misplaced.
Such records have been broken before. Whenever the nominal price of oil reaches a new round number, minds wander towards the century mark. Analysts at Goldman Sachs, an investment bank, predicted in 2005 that prices would reach triple-digits this decade, and now many think it could happen next year. Despite the fact that oil supplies remain stable for now, it is just a matter of time before oil fetches $100 a barrel.
The strongest force lifting oil prices at the moment is America’s weakened dollar. Sellers with currencies that have strengthened against the dollar want more cash. And those buying oil with stronger currencies, such as the yen or euro, have an incentive to stock up, creating more demand and, again, higher prices.
On the political front, oil traders are closely watching the military activity on the border between Turkey and Iraq, where a brewing conflict could obstruct the flow of oil from the Kurdish region, stifling supply. Sharper diplomatic exchanges between America and Iran over the latter’s nuclear aspirations have added to the jitters. Meanwhile, demand for oil in China and India has become unquenchable.
Yet none of these factors are sudden or surprising, suggesting that buoyant prices could be signs of a bubble. According to the Organisation of the Petroleum Exporting Countries (OPEC), fundamentals do not support the current high price of oil. In fact, Abdullah al-Badri, OPEC’s secretary-general, said that the recent spike has “largely been driven by market speculators.” Nevertheless, OPEC has agreed to raise oil output by 500,000 barrels a day beginning in November to ensure ample supply during the cold winter months, and to temper prices.
Despite such assurances, speculators continue to bet that prices will march upwards. But what would $100 a barrel mean for the world economy? Price shocks can certainly cripple economies, but that does not mean they always will do so. In the past, spikes in the price of oil have created a “waiting” effect, where firms stall investment to see if prices will fall back. The impact can seep through the economy, affecting everything from industrial production to credit cards. Worst cases can lead to recession or the dreaded “stagflation”, when inflation soars and growth sputters.
This time, however, could be different. Adjusted for inflation, the $100 barrel would not exceed the record set in 1980. Also, big economies today are generally better insulated from oil-price fluctuations. Developed countries use half as much oil per real dollar of GDP as in the mid-1970s, thanks to improved energy efficiency. This year the price of oil has increased by about 70% since January without stunting economic growth in America.
Not only could the world withstand higher prices, some argue that further increases would be beneficial. A growing number of economists suggest that pricier oil is healthy, particularly for the environment. But the rise must be gradual and predictable so that economies can adjust. Large and sudden increases are the ones that tend to create recessions.
This week prices have shown signs of a mild retreat. Michael Lynch, of Strategic Energy & Economic Research, a consultancy, recalls that just a year ago inventories were high and prices too low. “Once the tanks are full and the oil is sloshing around, that can change the market,” he says. Like their counterparts forecasting the weather, the predictions of oil-industry analysts could be just as wide of the mark and the $100 barrel of oil could still be some way off.