Thursday, May 23, 2024

How OPEC+ Oil Cuts Will Affect You

On April 2nd, 2023 Saudi Arabia, Russia and other OPEC+ producers announced further oil output cuts of around 1.16 million barrels per day.

by Likam Kyanzaire

How OPEC+ Oil Cuts Will Affect You

On April 2nd, 2023 Saudi Arabia, Russia and other OPEC+ producers announced further oil output cuts of around 1.16 million barrels per day. The pledges bring the total volume of cuts by OPEC+, which groups the Organization of the Petroleum Exporting Countries to 3.66 million barrels per day according to Reuters calculations, equal to 3.7% of global demand.

As one of the most influential organizations in the global oil industry, the Organization of the Petroleum Exporting Countries (OPEC) has been at the centre of discussions about energy policy and economic development for decades. Established in 1960, OPEC is a coalition of 13 countries from around the world that collectively controls around 44% of the total global oil production. By working together, OPEC member countries are able to negotiate better terms with foreign oil buyers and ensure that they are able to maintain a stable income stream from their oil exports.

However, OPEC has also been the subject of controversy and criticism over the years. Some critics argue that the organization’s policies have led to higher oil prices and contributed to global economic instability. Others have accused OPEC of manipulating the market and using its power to unfairly influence global energy policies. Fifty years ago OPEC cut oil production causing stagflation across the world. Today’s production cuts could do something similar.

The Cost of Energy

Since the Industrial Revolution oil has become the most important source of energy for an economy. Without cheap oil economies like China and India would have a hard time running their factories, countries in Europe could not make plastics, and people all over the world would not be able to run their cars. In economic terms oil is an inelastic good, meaning that its demand does not change because it is such a necessity

By decreasing the production of oil OPEC+ countries can actually increase their revenues. A cut in the supply of oil would lead to frenzied buying and increases in the price as more nations try to import less oil. During the 1973 Arab-Israeli War, Arab members of the Organization of Petroleum Exporting Countries (OPEC) imposed an embargo against the United States in retaliation for the U.S. decision to re-supply the Israeli military and to gain leverage in the post-war peace negotiations. Arab OPEC members also extended the embargo to other countries that supported Israel including the Netherlands, Portugal, and South Africa. The embargo both banned petroleum exports to the targeted nations and introduced cuts in oil production.

The results of that embargo had economic and geopolitical implications. Not only did the embargo force US energy policy to shift towards domestic production, but the strain on the global economy created high inflation, stagnation for oil-importing nations and a resulting loss in individual portfolio holdings. Today an already teetering global economy has much more to lose than in 1970.

Energy Demands Outstrip Supply

Thanks to the pandemic, lockdowns, supply chain issues and the Ukraine War most nations are already experiencing inflation. With an increase in oil prices, we can expect even more inflation, especially for oil importers in Europe, China and India. While many of these nations can soak up this increase without too many problems, it is likely many in the Eurozone area will experience a recession. 

Poorer nations like Pakistan, Sri Lanka and Egypt are already facing surging food inflation, currency crises and social upheaval. Any change to the overall prices of oil could leave many developing nations on the brink of collapse. The resulting effects will push the world economy into a recession and trigger even more portfolio sell-offs than we are already seeing.

How To Prepare for the Shock

Rising oil prices can lead to inflation, which can negatively impact the stock market. As Benzinga explains, rising fuel prices can be viewed as inflationary, which can impact the stock market through a variety of channels, including increased business costs, reduced consumer spending, and higher interest rates.

But there are some bright spots too. 

Oil prices and the stock market are positively correlated. This means that when oil prices rise, stock prices often rise as well, and when oil prices fall, stock prices often fall too. This is because many companies are directly or indirectly impacted by fluctuations in oil prices. For example, energy companies, such as those involved in the production and distribution of oil and gas, are directly impacted by changes in oil prices. When oil prices increase, these companies can benefit from higher profits and increased revenue, which can in turn lead to higher stock prices.

For most people, the cut in oil production will affect the price of goods like food and transportation, but for anyone who wants to get ahead investing in energy companies like Shell or Aramco can increase dividends at least in the short run. In such troubling economic times making any predictions is hard, but a cut in oil production is sure to have massive implications.