Universal Oil Pricing and World Economy has Close relation in Value

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colmb e1553406850126

Oil prices have been persistently low for more than a year, but as noted in the April 2016 edition of the Outlook for the World Economy (WEO report), the stimulus that many hoped they would have about the world economy has not yet materialized. We argue that, paradoxically, global benefits are likely to be observed only after prices rebound slightly and advanced economies manage to overcome the current environment of low-interest rates.

Since June 2014, oil prices, in US dollars, have fallen by approximately 65% (around USD 70) in an environment in which the growth of a wide range of countries has been progressively reduced. Even taking into account the appreciation of the dollar of 20% during this period (in nominal effective values), the reduction of oil prices in other currencies has been, on average, more than USD 60.

This has perplexed many observers, including us here in the IMF, who believed that these price decreases would be beneficial for the world economy, given that although they would obviously be harmful to exporters, they would bring advantages to importers, thereby counteracting this effect by far.

The main assumption underlying this belief is the concrete difference in saving behavior between oil-importing countries and oil-exporting countries: consumers in the former, such as in Europe, have a greater marginal tendency to spend their income that consumers in the second, such as Saudi Arabia.

It is clear that world capital markets do not adhere to that theory. During the last six months and even before, capital markets have followed a downward trend when oil prices have fallen, a result that we would not expect considering that, in general terms, a low price of oil favors the world economy.

In fact, since August 2015, the simple correlation between stock prices and oil prices has not only been positive (see figure 1), but has doubled with respect to the previous period that started in August 2014 (but not at unprecedented levels).

Obviously, low oil prices reduce the profitability of exploration and extraction activities carried out by the private sector, in addition to reducing capital expenditure.

According to Rystad Energy, between 2014 and 2015 the global drop in capital spending in the oil and gas sectors was about USD 215,000 million, equivalent to approximately 1.2% of fixed capital formation at the international level (slightly lower level) to 0.3% of world GDP).

Even some importing countries have been very affected, especially the United States, which explains a significant proportion of the global decline in investment related to the energy sector.