A world “drowning in oversupply” of oil and other commodities could make 2016 a super-cheap year for Asia’s major resource importers such as China and Japan. However, the drag on growth for commodity exporters is putting yet more pressure on emerging markets, according to the World Bank.
In a January 26 report, the Washington-based lender cut its forecast for crude oil prices to just $37 a barrel, down from $51 in its October projections, while also cutting price forecasts for 37 of the 46 commodities it monitors.
Oil prices dived by 47 percent last year and could dip another 27 percent in 2016 on the back of the “sooner-than-anticipated” resumption of exports by Iran, greater resilience in U.S. production due to cost cuts and efficiency gains, a mild Northern Hemisphere winter and weak growth prospects in major emerging economies, the bank said.Enjoying this article? Click here to subscribe for full access. Just $5 a month.
U.S. oil prices crashed below $27 a barrel on January 20, their weakest level since May 2003, on news of rising U.S. crude inventories that have added to a global supply glut. This compares to the record $147 a barrel reached in 2008 on the back of surging demand from China, which now consumes around 12 percent of the world’s oil, second only to the United States.
Although reports of a possible deal to cut production between Russia and OPEC helped Brent crude prices rally to reach $33 a barrel on Wednesday, analysts remain bearish on the short-term outlook.
According to Credit Suisse, Brent crude could average below $30 in the first quarter of 2016, “amidst rising recession fears and ‘panic’ levels of risk-appetite.” The investment bank expects Brent will average just $36.25 this year, although it still expects a recovery back to at least $60 a barrel “in the next few years.”
The International Energy Agency has also warned that the oil market “could drown in oversupply” should Iran add significant production and other OPEC members maintain current output, with global supply exceeding demand by potentially 1.5 millions of barrels per day in the first half of 2016.
Slumping oil prices have also weighed on stockmarkets, with the U.S. S&P/500 index “tightly correlated with Brent crude oil prices since December,” according to Australian Stock Report’s Chris Conway. The correlation has reached as high as 97 percent, a level not seen since 1990, with investors concerned over the deflationary impact of cheaper oil on both developed and emerging economies and the risks of China’s slowdown sparking a global recession.
The panic has also reached the bond market, with the spread between high-yielding “junk” energy bonds and safe-haven U.S. Treasuries reaching its widest this month, fueling concerns of a spillover into credit markets, according to the Australian Financial Review.
However, the World Bank still sees a “gradual” recovery in oil prices “over the course of the year,” due to production cuts by high-cost producers, improved demand due to rising global growth and market rebalancing, although it says the outlook “remains subject to considerable downside risks.”
Meanwhile, all of the World Bank’s main commodity price indices are expected to drop this year due to “persistently large supplies, and in the case of industrial commodities, slowing demand in emerging market economies,” it said.
According to the bank, non-energy prices are expected to slip by 3.7 percent in 2016, with metals dropping by 10 percent after a 21 percent fall in 2015 due to weaker demand from emerging economies and increased supply.
Agricultural prices are also predicted to decline by 1.4 percent, with decreases expected in almost all of the main commodities, “reflecting adequate production prospects despite fears of El Nino disruptions, comfortable levels of stocks, lower energy costs, and plateauing demand for biofuel.”
“Low prices for oil and commodities are likely to be with us for some time,” the World Bank’s senior economist John Baffes said. “While we see some prospect for commodity prices to rise slightly over the next two years, significant downside risks remain.”
With emerging market economies such as China the main sources of commodity demand growth since 2000, weakening growth prospects are weighing on prices, further curbing trading partner growth and global commodity demand.
The influence of emerging markets is shown by the fact that from 2010 to 2014, the BRICs accounted for 20 percent or more of global gas and oil production and 40 percent or more of global coal and grain production, while their commodity consumption has grown to reach 40 percent of global primary energy and food commodity consumption and more than 50 percent of global metal consumption.
According to the bank, commodity prices have dropped by 40 percent since 2010 while growth in emerging economies slowed from 7.1 percent to 3.3 percent over the same period. While growth is seen improving to 4 percent this year, it would remain well below historical averages.
The consequences of an extended slowdown in China and other emerging markets could be painful, with a 1 percentage point growth slowdown for the BRICs cutting growth in other emerging economies by 0.8 percentage point over two years, slowing global growth by 0.4 percentage point.
“Low commodity prices are a double-edged sword, where consumers in importing countries stand to benefit while producers in net exporting countries suffer,” the World Bank’s Ayhan Kose said. “It takes time for the benefits of lower commodity prices to be transformed into stronger economic growth among importers, but commodity exporters are feeling the pain right away.”
As previously noted by Pacific Money, losers from cheaper oil prices include the region’s biggest producer, China, followed by India, Indonesia, Malaysia and Australia’s emerging liquefied natural gas industry. The winners include the region’s major importers including China, Japan and India, but cheaper oil is also damaging Japan’s bid to revive inflation as well as sparking fears of further region-wide deflation.
U.S. energy giant Exxon recently lowered its forecast for annual energy demand growth in China by almost a tenth, to 2.2 percent a year through to 2025, and suggested that the world’s second-largest economy’s thirst for energy would peak in 2030. Nevertheless, Exxon still sees global energy demand surging by 25 percent from 2014 to 2040 due to continued industrialisation in China, India and other emerging economies.
However, not all analysts are bearish on the energy and commodities sector. Saxo Capital Markets Asia’s Kay Van Petersen told the Australian Financial Review the focus on oil was “simply noise,” while Capital Economics’ Paul Dales said fears of a major downturn would eventually diminish.
“A global deflationary spiral is not going to happen when more economies are still growing,” he said. “We expect a lot of these concerns will blow over as the incoming economic news improves, even in China, and the oil price rebounds as demand fears fade and supply is cut.”
Deloitte Australia’s national director, oil and gas, Geoffrey Cann says the eventual price recovery could be rapid, once the supply-demand imbalance is rectified.
“When supply finally falls below demand (and in my view that will not be in 2016), prices should snap back in a big way. All new developments that would bring fresh oil supplies to market in 24-36 months time have stalled, and demand continues to grow, albeit slowly, teeing up a supply shortfall,” he said.
“Maintenance capital for existing production has been curtailed. So many people have left the industry that recruiting them back will take time. The recovery should therefore be swift and vigorous.”