Oil price outlook

by Neven Valev, updated November 7, 2017

Looking at recent history, Brent crude oil prices seem to fluctuate within the 45 - 55 USD per barrel range. When oil prices decline, demand picks up and some production facilities are no longer profitable. These factors stop the decline in oil prices and start to push them higher. When oil prices reach higher levels, fracking in the U.S. becomes more profitable and the added supply pushes oil prices down. It seems that this pattern will continue for some time. However, we would probably see the range go up to, say, 55-65 USD per barrel as the dollar has recently depreciated against major currencies and U.S. production has not sufficiently compensated for the OPEC supply cuts.

Implications for fuel prices

You can look at the current oil prices and anticipate a move up or down depending where we are in the 55-65 USD per barrel range. Then, draw conclusions about the implications for fuel prices. Note that every 10 percent change in oil prices leads to about 3 percent change in fuel prices in Europe and about 7 percent change in the U.S. In principle, the higher the fuel taxes, the smaller the change in fuel prices for a given change in oil prices. These numbers are the same for gasoline and diesel.

So, if you are in a country with high fuel prices (see the global rankings for gasoline and diesel), an increase/decrease in oil prices from 55 to 65 USD per barrel would lead to about 5 percent increase/decrease in fuel prices. If you are in a country with about average fuel prices, the change would be double - about 10 percent. If you are in a country with low fuel prices, that usually means that the government regulates or subsidizes prices. Then, oil prices have less direct impact.

Exchange rates and other factors

Besides oil prices, the value of the USD affects significantly fuel prices because crude oil is traded in USD. For example, when the euro appreciates against the USD, it becomes cheaper to buy crude oil with euro and, hence, fuel prices in Europe decline. This is important because currencies could be just as volatile as crude oil prices. Currency values are influenced by various factors across countries that cannot be summarized here. Be mindful, however, that fuel prices can change because of changing currency values even if crude oil prices are stable. For example, as the ruble depreciated, gasoline prices in Russia increased in 2014 despite the drop in oil prices.

Crude oil prices and exchange rates explain about 90 percent of the fuel price changes in countries with free fuel markets. Seasonal factors also play a role as fuel prices are higher in the summer due to greater demand. Also, in most countries we observe a slight but persistent trend up in fuel prices even if oil prices and exchange rates stay the same as inflation pushes up the marketing and distribution cost. Moreover, fuel taxes tend to increase over time. However, all of those additional factors are less important in most countries. It is currency values and, globally, oil prices that make the big difference.

Long-term oil price outlook

Looking longer-term, I don’t see much scope for significantly higher prices. There is growing demand for petroleum products from emerging markets but the demand in developed countries is declining as environmental standards get tougher and electric vehicles spread. Also, demand in the emerging markets would probably taper off as cleaner technologies become cheaper and more accessible. Hence, the World Energy Council expects oil consumption to peak in 2030. That is also the year when Germany and India want to switch entirely to electric cars. The Saudi Vision 2030 initiative also targets 2030 in an effort to shift away from Saudi Arabia’s dependence on oil revenues to other industries. Moreover, the U.S. Energy Information Administration estimates that current proven oil reserves would last until 2050 with new deposits being continuously identified. In other words, there seems to be ample amount of oil for many years after its consumption starts to decline. Of course, it matters whether the low-cost reserves dry up first but, overall, these dynamics do not suggest a steep increase in prices.

These factors may not be enough to press crude oil prices much lower than their current levels because on a global level incomes are growing and, so far, this generates additional demand for oil. However, they put an upward limit on crude oil prices. There may be occasional spikes due to supply disruptions but they would be temporary. As economic growth around the world picks up, crude oil prices may drift up on a more sustained basis but probably not above a 60-70 USD per barrel level in the next few years.

Please, feel free to contact me if you have any comments or questions.