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The Guardian: Q&A: Oil

The Guardian: Q&A: Oil: “The recent decision by Shell, the Anglo-Dutch giant, to sharply pare back its reserves, added to market jitters.”

Mark Tran looks at the reasons behind the surge in oil prices and their possible impact on the world economy

Tuesday August 10, 2004

Posted 11 August 04

How much does a barrel of oil cost?

US light crude touched a fresh 21-year high of almost $44.99 (£24.48) in New York today. Oil prices have gone up by about 30% in the past 12 months and are now well over the $22-$28 target range set by the Opec oil cartel. In real terms, stripping out inflation, oil prices remain lower than the highs of 1979 during the Iranian revolution when crude averaged $80 a barrel in today’s money. Nevertheless rising oil prices are a worry for policy makers.

What is the difference between US light and Brent crude?

There are the two benchmarks for world oil prices. One is the futures contract – an agreement for future delivery at a specified time, place and price – for US light crude. The contract is widely used as the benchmark for determining crude oil and refined product prices in the US and abroad. Brent crude oil is a North Sea crude widely used to determine crude oil prices in Europe and in other parts of the world. Together, the light crude oil futures contract and Brent crude are used as the basis for virtually every physical crude oil transaction.

Why have prices gone up?

The main factor has been strong economic growth in the US and China. At the same time, higher growth in the US economy, which devours 25% of all world oil, is driving competition between Asia and the US for supplies. The rate of demand growth has caught forecasters by surprise, with the lack of refining capacity in the US also putting pressure on prices.

What about political factors?

Supplies from Iraq are hampered by regular acts of sabotage. Raids in Saudi Arabia in May, including an attack in the eastern oil city of Khobar that left 22 dead, have sparked fears of a disruption to oil supplies at a time when Opec is producing at virtually maximum capacity. Throw in the standoff between the Russian oil firm Yukos and the Kremlin, and speculation by hedge funds that are betting on higher oil prices, and the result is expensive oil.

How do high oil prices affect the world economy?

The rule of thumb is that a $5 increase in the price of oil sustained over a one-year period lops 0.3% off global growth, according to the International Monetary Fund. But the IMF takes an optimistic view on the current situation. It expects prices to decline and says the global economy is generally able to adjust to oil prices more easily than it did in previous decades.

What do the pessimists say?

They point out that the three global recessions in the past 30 years were all preceded by a sharp rise in oil prices and there are also longer term worries about oil supplies. The recent decision by Shell, the Anglo-Dutch giant, to sharply pare back its reserves, added to market jitters. Some analysts are predicting prices of $50 a barrel by the end of the year.

What is the effect on petrol prices?

The AA has warned motorists to expect forecourt prices to stay above 80p for the foreseeable future. In the past 10 days, prices have risen by 2p to an average of 81.7p per litre. In another knock-on effect, British Airways and Virgin Atlantic have more than doubled their long-haul fuel surcharges. BA and Virgin’s fuel surcharge on a single long-haul flight will rise from £2.50 to £6 with the charge for a return trip up to £12.

Has Opec increased production?

Opec agreed to lift production in June and the cartel is pumping about 30m barrels daily, volumes not seen since 1979. Saudi Arabia, the world’s biggest oil exporter, is the only Opec country with any leeway to increase production and it traditionally favours lower prices. Some countries, such as Iran, still remain wary of putting too much oil on the market. They fear a replay of the crash in prices that followed a 1997 decision to raise production just before the Asian financial crisis sharply reduced demand.

Why do the Saudis want lower prices?

Traditionally, the Saudis have been willing to accommodate US wishes for cheap oil as the two are close allies. Despite the post-September 11 2001 chill in relations between Washington and the kingdom, the Saudis appear willing to help the US out once again. The Saudis also favour lower prices in order not to jeopardise global economic prospects. Opec has said it may decide at its next meeting in September to increase crude oil output by an additional 1.5m barrels a day.

Is the world running out of oil?

Major oil reserves are becoming harder to find and more expensive to exploit. Many of the fields outside Opec countries are mature, which means that finds are now smaller. They need more costly technology to develop and they fall faster from peak production. Some experts though, such as Professor Peter Odell of Erasmus University in Rotterdam, think there are plenty of reserves left and that the world is running into oil rather than out of it.,,1217181,00.html

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