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BW Businessworld

Oil Plunges Below Zero: What It Means For World Economy

A huge bailout will be required to save the Oil industry, or even possibly, an extreme measure where the US could even impose tariffs for imports from Saudi Arabia and Russia, which will be contrary to the recent oil deal.

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The novel coronavirus shook the world. Each sector is feeling its impact. As pandemic brought the economy to a standstill, there is no use of oil around. Oil is something that we all consider to be a necessity. It is something that is required in order to keep our transportation system moving, it is also required to make a lot of the necessary plastics. During these uncertain times of COVID19, being a student of economics, I have been watching something extraordinary that has happened to the markets, in the US Oil prices have become negative. This was seen with the decrease in prices of the West Texas crude which has dropped below $0. 

As we know, demand in the second quarter of 2020 has dramatically decreased due to global lockdown, the reduction in airline travel and a massive reduction in the usage of automotive transportation. Interestingly the COVID 19 crisis was just a catalyst in the whole bigger picture since this was something that had been happening for a while. In late 2019, OPEC had a meeting to discuss the issue of oversupply, due to the long-standing price war.

Prices briefly increased with the new trade deal in January 2020, when the United States announced a trade deal with China and then also revamped the North American Free Trade Agreement (NAFTA) but with demand gradually decreasing, prices starting going south. 

To understand oil prices, one cannot simply look at the demand and supply only. Oil prices are determined by the futures oil contracts in the commodities markets and the way traders perceive the trends and set a contract to buy and sell at a specific price on a later date. All of these factors influence and control the direction of where the prices will go. 

After the financial recession, in 2009, in which the USA was for many years of sitting on the sidelines, decided to again foray into this market. Competitors, Russia and Saudi Arabia started flooding the market with an oversupply, leading the prices to gradually drop. Then in 2017, OPEC, cut oil supply to restabilize the prices, and suddenly we saw that sharp increase in global oil prices. 

Rejecting recent proposals of agreements, due to geopolitical scenarios between these countries and the United States, there has been a huge price war going on between Saudi Arabia and Russia. Alongside that, with a lot of the infrastructure and capital required to set up a shale well, oil companies were still pumping in hopes for prices to eventually increase, but with the oversupply and the lack of storage capacity along with the now huge lack in demand has caused the oil prices to hit below rock bottom. In this current scenario, one could be paid well to store and keep the oil, if the capacity is there.

While this scenario may hurt the key players and the whole oil market, the drastic effects will be hurting a lot of American jobs in the energy sector as well, it is not good for the USA which is already hurting due to the Pandemic. 

President Trump saw this coming and pushed the main oil-producing countries to agree to cut the output, however, the current agreement, only takes effect next month. This deal may slowly help the market recover, but this will not happen overnight and to fix the market, the prices may go down even lower. 

The United States knows and had learned lessons from the effects of the 1970’s oil crisis. In which there were a lot of price shocks, that caused a huge shortage due to the increase in prices and the uneasy political scenario back then. It was an effect that was felt by the world and internationally everyone should work together towards a solution that a situation like this should not be recreated. 

A huge bailout will be required to save the Oil industry, or even possibly, an extreme measure where the US could even impose tariffs for imports from Saudi Arabia and Russia, which will be contrary to the recent oil deal.

For now, globally, all countries, especially India can take advantage and fill their stocks and reserves with the lower-priced oil, fully utilizing their storage capacities. Indian oil producers have already lowered domestic output in the light of the situation and have switched to focusing on current needs like kerosene. 

The consumer worldwide may see lower oil prices, but it will not be as low as FREE.

Disclaimer: The views expressed in the article above are those of the authors' and do not necessarily represent or reflect the views of this publishing house. Unless otherwise noted, the author is writing in his/her personal capacity. They are not intended and should not be thought to represent official ideas, attitudes, or policies of any agency or institution.

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oil prices coronavirus pandemic

Aditya Dixit

The author is studying Bachelor of Computer Science & Economics, (BS, Computer Science, Econometrics & Quantitative Economics) at the University of San Francisco (USFCA), San Francisco, California, USA. He is founder of the USFCA Cybersecurity Club, Vice President, USFCA Auto Club, USF Hackathon Participant and the USF Tapia Scholarship Award, Recipient.

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