Recession fears grip global crude oil market amid supply tightness

The world crude oil market is torn between recession fears on the one hand and physical market tightness and growing supply risks on the other. At the moment, the former seems to hold upper hand.

Triggered by the Russia-Ukraine conflict, the entire energy complex has faced escalating prices amid fears of supply disruption. The energy market has been characterized by volatile conditions particularly given Europe’s vulnerability to supply disruption from Russia.

Yet, recession fears have now overtaken. With sharp rate hikes in the US and other major economies to combat high inflation, consensus is emerging that the world may inexorably face recessionary conditions in the first quarter of 2023.

No wonder, crude oil prices have fallen in recent weeks on fear of demand destruction. After briefly falling below the psychological $ 100 a barrel, Brent ended the week last Friday at $ 102 a barrel, but down from $ 107 a barrel a week earlier and $ 113 a barrel a month ago.

Crude demand, supply situation

Concerned that lower economic growth will lead to a sharp downturn in oil demand, the financial investors in the derivatives market are exiting. It is clear that demand fears have more than offset signs that supply is constrained.

Look at the developments that foretell oil market tightness. The OPEC monthly report for July revealed that output in the 10 members bound by quotas remains far below the 25.9 million barrels a day target. Oil from Iran may not be available to the world market as the Iran nuclear deal appears most unlikely.

The strategic reserve releases are scheduled to come to an end and the announced EU sanctions on Russian oil will come into force by the end of the year. Put together, the outlook for supply is far from bright. So, the question is which side will win the tug-of-war – demand or supply?

OPEC+ meeting

Following US President Biden’s visit to the Middle East, Saudi Arabia has said any change in output would be done within the broader OPEC+ framework and that the group would monitor the market and respond if needed. The next OPEC+ meeting is scheduled for August 3. But it is important to remember, with the exception of Saudi Arabia and the UAE, there is hardly any spare capacity among producers.   

So, at the moment the outlook for supply is not bright. Brent crude may settle around $ 100 a barrel towards the end of the year, if there are no market disrupting developments.

These forebodings are dire for India which is among the largest importers and consumers of crude oil. Our import dependence is as high as 80 per cent. Every dollar increase in crude oil price sets our economy back by at least $1.5 Billion.

With the rupee steadily depreciating and threatening to stay around the 80 level against the dollar, it is going to be a tough challenge for policymakers to rein in inflation.

Import of fuel, fertilizer and food is inevitable for the country; but elevated global prices and weak rupee will make policymaking a daunting task, especially because inflation hurts the poor the hardest and decelerates growth.

(The author is a policy commentator and commodities market specialist. Views are personal)

Published on

July 19, 2022