Oil price dropping 50% or more in a few months should be good news for the economies of consuming countries. Thus, we are flooded with the econometrics of the expected raise in national GDP; and daily presented with the goodies that cheap oil will deliver to economic growth (here a “moderate” view). That we will benefit in the short term may be a fact (history will tell); and how much we will benefit we can thus leave to modelling.
That there may also be downsides seems however to attract less interest and literature. And unfortunately downsides there are, and may be as bad as to overcome short-term benefits.
To start with, what is good for the consumer is not good for the producer. In most of the producing countries, oil revenues are the core of the State budget. Cheaper oil means less investment and less welfare spending. Ultimately, it may turn into social unrest, political instability and disruption. In some OPEC countries, cheap oil could fuel Islamic radicalism. In Russia it could fuel social turmoil, and a further upsurge of nationalism and divide from the West. It would be foolish to even imagine that this is none of our business.
From the “geopolitic” to the “economic” (potential) downside. Cheap oil in Europe could propel (and it is in fact starting to propel) an energy-driven deflation. Deflation itself may not offset the goodies; but it will certainly reduce their scope, inter alia by affecting consumption and investment and making private and public debt reduction harder.
Next, cheap oil and the energy cycle. Or, to put it technically, cheap oil and reserves replacement. Most of the “easy” oil has been, or is being, produced. Conversely, most of the investments in “new” oil (e.g., ultra-deep waters) become viable only if the price expectations move back in the direction of the 100 dollars benchmark. Goldman Sachs estimates that a 70 $/bbl price would delay or cancel $930 billion worth of already-planned investments; and we may add that at today’s price activities would almost freeze. If investment stops, the pendulum will at some point swing from today’s oversupply to the undersupply of tomorrow; and may do so abruptly and take us into price volatility and potentially into a price spike.
Oil prices will rise again at some point and a new investment cycle will follow. How fast depends on how the industry will be reshaped. International oil companies are willing to downsize and many expects a new round of M&A. US independents are struggling with financing, while UK-listed independents find themselves too exposed on exploration. After years of fat-cows, the outlook for oilfield service companies is dramatically changing, while national oil companies will still need foreign expertise to develop complex fields.
Lastly, cheap oil and going green (or at least going carbon-free). Before the slump, IEA was forecasting (WEO 2014) that in 2040 we would still have been dependent from carbon energy sources for no less than 74% of our needs. Cheap oil makes us potentially more carbon dependent (at least in the short term). It makes carbon-intensive energy cheaper and therefore further slows the process of its substitution with other sources; while on the other hand fostering an increase in its own consumption. If cheap is temporary, it could leave almost undetectable traces; but if (as some suggest) cheap is here to stay it could then seriously delay or damage the process.
For more than three years, the economies of both producers and consumers have adjusted to a price slightly above $100/bbl; and the price, notwithstanding disruptions in some producing countries, has remained stable throughout the period. Now oversupply makes us enjoy a demand-driven market and experience the 50 dollars euphoria. At some point, however, it could swing abruptly the other way; and it may do so after leaving some scars on our environment and some higher level of unrest in a few producing countries.
While enjoying cheap oil, one wonders whether we should start discussing ways and policies (if any) to restrain its effects on consumption and to limit the potential that the counterswing induce a shock. There may be none; and we would be left with leaving to demand and supply to rebalance. But we may anyway be better off if we succeed in making cheap price less cheap. The real evil is not a high price. The real evil is price volatility.