Markets are currently experiencing volatility in oil prices

The main drivers in fluctuating oil prices in recent days have been many. The three main forces that are directly impacting the price of oil are China’s internal policies, the war in Ukraine, and the decisions of the Organisation of the Petroleum Exporting Countries (OPEC+) regarding oil output. 

The US oil benchmark rallied last week as speculation circulated about China’s plan to gradually ease Covid-related restrictions. Moreover, a tight supply outlook also sustained the pressure on oil prices after OPEC+ decided to reduce output by 2 million barrels per day in November, the most substantial cut since the start of the pandemic. To add to this, the European Union’s ban on Russian oil, which is set to take effect in December, is also contributing to supply concerns. 

Recognising why higher or lower oil prices are important is key to understanding how they might affect the economy. If the price of oil is higher, energy bills and the cost of production for most businesses will increase, therefore reducing their profits as they try to maintain the same level of output. Conversely, lower oil prices may be a sign of lessened demand, itself indicative of weaker economic activity. Oil left unused due to less demand will increase supply, which, by default, will cause less scarcity. 

This situation affects individuals, not just businesses. To focus on Europe, families in Germany risked facing a €480 per year rise in gas bills to cover the costs of replacing Russian supplies once they were banned. German gas operators set levies on Putin and gas charges were expected to drive inflation to 9 per cent by the fall. To counteract this, Germany reacted by issuing subsidies. A planned energy package of €91 billion in subsidies for both private households and businesses was announced in early October and is to be financed from borrowings. The EU saw this as a selfish move since not all countries were able to implement the same scale of subsidy.

As a consequence to this, German industrial production rose month-over-month in October, rebounding and beating analysts’ forecasts, as production went up for consumer and capital goods. Meanwhile, energy output was up 1.7 per cent. Manufacturing production is not only affected by oil prices, as production is still currently affected by a shortage of materials required for production. Enterprises still have difficulties completing orders due to supply chain interruptions caused by the war in Ukraine and other persistent distortions due to the pandemic.

To recap, higher energy prices cause higher bills and production costs, making it harder to maintain profit margins. The situation that has contributed to the spike in oil prices is still evolving. Higher demand in China, OPEC’s decision to reduce output by 2 million barrels per day in November, and the European Union’s ban on Russian oil set to take effect in December are all factors that continue to contribute to price changes occurring in oil. 

Disclaimer: This article is brought to you by Shaun Frendo, Research Analyst at Calamatta Cuschieri. The article is issued by Calamatta Cuschieri Investment Services Ltd, which is licensed to conduct investment services business under the Investments Services Act by the MFSA and is also registered as a Tied Insurance Intermediary under the Insurance Distribution Act 2018.

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