Are Higher Oil Prices a Good Thing?

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Written by Daniel Graeber for Industrial Info Resources (Sugar Land, Texas)--Though high commodity prices are exacerbating inflationary strains, Swiss investment bank UBS said that oil priced at $100 per barrel was necessary to restore the balance between supply and demand.

Crude oil and natural gas prices are moving further away from peak levels this year amid growing concerns the global economy is headed toward a recession. The International Monetary Fund (IMF) in its latest estimate put global growth at 3.2% for 2022 and it expects a slowdown to 2.7% next year.

"More than a third of the global economy will contract this year or next, while the three largest economies -- the United States, the European Union and China -- will continue to stall," the report read. "In short, the worst is yet to come -- and for many people, 2023 will feel like a recession."

A recession may nonetheless be necessary to ease inflationary pressures and lingering supply-chain bottlenecks in the global economy. Policymakers, meanwhile, are stuck between a rock and a hard place by trying to ease the pressure on their constituents through various relief measures while at the same time trying to disincentivize demand in order to cool inflation.

Commodity prices account for the bulk of consumer-level inflation and, even stripping out volatile items like food and energy, so-called core inflation is at 40-year highs in some economies. The market, meanwhile, remains tight and will only tighten further once the European Union makes good on its Russian crude oil moratorium in December.

Oil demand, meanwhile, is increasing because some economic sectors are switching to refined petroleum products rather than coal or high-priced natural gas, exacerbating the supply side problem even further.

UBS, however, says higher prices, not lower, are necessary to right the global economic ship.

"Prices need to rise above $100 per barrel in the coming months to slow demand growth and restore the supply-demand balance, in our view, given that oil inventories stand at a multi-year low," analysts said.

The IMF in its latest report said that although commodity prices are off their peak, much of the burden has yet to make its way to the consumer level. Once it does, that will drive inflation even higher, putting a crimp on everything from food to rents.

That indeed would suggest $100 per barrel would be painful, but it may be somewhat necessary. Officials at the U.S. Federal Reserve stuck to that line during most of this year as they pushed hard on the brakes to cool inflation.

That, however, does little to cool some of the growing frustration expressed over rising prices. France this week was rocked by widespread protests that began with oil refinery workers striking because their wages haven't kept up with inflation, let alone the bloated profits for major energy companies.

To counter the pain, several major economies in Europe are subsidizing consumers to provide a buffer against higher prices. That, however, could make matters worse if it incentivizes demand.

In the U.S., President Joe Biden will again tap the nation's strategic reserves, ostensibly a pre-emptive strike against the coming market shortages triggered by the recent decision from OPEC+ to curb production quotas and the December moratorium on waterborne crude oil from Russia.

Biden's decision might be something of a lead balloon, however, in that it removes protection from any black-swan shocks in the future. And it appears that U.S. oil might not be the global panacea once thought given the labor shortages and ultra-high prices for materials in the shale patch.

But $100 oil might not be all that bad. It would be sure to cool demand, which would eventually erode prices. And it would encourage shale producers to do more to eat into the growing supply-side deficit.

"Higher prices are therefore needed to incentivize supply and slow demand growth," UBS analysts said.

Industrial Info Resources (IIR) is the leading provider of industrial market intelligence. Since 1983, IIR has provided comprehensive research, news and analysis on the industrial process, manufacturing and energy related industries. IIR's Global Market Intelligence (GMI) helps companies identify and pursue trends across multiple markets with access to real, qualified and validated plant and project opportunities. Across the world, IIR is tracking over 200,000 current and future projects worth $17.8 trillion (USD).