“Rising crude oil prices …means the outflow of money from consumers’ pockets to countries that export oil rather than to a broad-based group of enterprises, including SMEs, that provide a range of consumer goods and services and keep people in jobs.”
President of the United States of America, Joe Biden, banned the importation of Russian oil and other energy imports to the United States on Tuesday in an attempt to punish Russian President Vladimir Putin for his unprovoked invasion of Ukraine. Britain also swiftly announced that the country would phase out the importation of Russian oil and oil products by the end of 2022, while the European Union pledged to cut its imports of Russian oil and gas by two-thirds by the end of the year.
Russia is the second biggest exporter of crude oil after Saudi Arabia; shutting out even some of the about 11% Russian share of global crude oil supply will have a big impact on prices. Many OPEC members, including Nigeria, struggle to produce enough to meet their quotas; OPEC would hence be unable to boost production to replace any significant quantity of Russian supply that sanctions remove from the global market. Analysts hence estimate the price of crude oil could hit $300 per barrel if Russia is cut off from supplying crude oil on the international market.
This fear is already being priced into prices. Following the statement by the United States and its Western allies, the benchmark Brent crude oil price rose by 5.4 percent to $129.91. As the Russian invasion of Ukraine and global sanctions escalated, the oil market has gained more than 40% since the beginning of this year. The price of West Texas Intermediate (WTI) is up 95% from a year ago, Brent crude oil is up 91% year-over-year, and natural gas is up 70% year-over-year at the time of writing this piece.
What a ban on Russian Oil and Gas Mean to its Economy
Russia is the world’s second-largest crude oil exporter, and it contributes over half of all crude oil exports to European clients. Oil and gas represent 60% of Russia’s exports and more than a third of the country’s federal budget. Sanction on Russia’s oil and gas would deal a serious blow to the Russian economy. The government’s inability to generate foreign exchange earnings from crude oil sales would hinder budget implementation and translate into lower incomes in swaths of the Russian economy and ultimately reduced output. With other sanctions and the withdrawal of a host of companies, including Mastercard, Levi’s, Visa, American Express, PwC, Netflix, KPMG, EY, TikTok, etc. from Russia, analysts foresee a catastrophic 12% drop in economic output, significantly worse than the drop in GDP experienced during the 2008 financial crisis or the height of the new coronavirus lockdown.
What A Rising Crude Oil Price Means For The Global Economy
Crude oil is one of the most important commodities in the world, as it is used by households, businesses, and governments for several purposes. The commodity also contributes to government revenue and foreign exchange earnings through its sales on the international markets, particularly for OPEC member countries and their allies. Oil is the most traded commodity in the world. Hence, crude oil prices and economic growth have a positive correlation, which means that as the economy improves, so does crude oil demand.
Even before President Putin attacked Ukraine, crude oil prices had rebounded as a result of the strong economic recovery that has followed the disappearance of lockdowns to control the spread of the new coronavirus and was stocking inflation. President Putin’s attack on Ukraine will hence make things worse for the global economy.
Rising crude oil prices can stifle economic growth as crude oil remains an essential input to production processes for businesses. It means the outflow of money from consumers’ pockets to countries that export oil rather than to a broad-based group of enterprises, including SMEs, that provide a range of consumer goods and services and keep people in jobs.
Food and other vital commodities such as fertilizer, gasoline, plastics, protective equipment, chemicals, diesel, transportation, and other essential items for which crude oil is used as a raw material in the manufacturing process will become more expensive as crude oil prices rose. Rising inflation not only produces immediate hardship for millions of ordinary citizens; it may reduce investment and economic output by making long-term planning difficult for individuals, corporations, and governments.
A $300-per-oil barrel world raises the spectre of 1970s style stagflation, a situation of rising prices, low economic growth, and high rates of unemployment that was triggered by the decision of Arab nations to halt the supply of oil to the United States of America and its allies over their support for Israel in the Arab-Israeli war.