Global Energy Center Nonresident Senior Fellow Brenda Shaffer writes for the Georgetown Journal of International Affairs on the different factors that affect the global price of oil:
The global price of oil is often thought to have a certain mystique. Many assume that hidden forces, conspiring governments, and cartels move the price up and down in order to achieve various geopolitical goals and financial gains. However, what actually moves the oil price up and down is pretty simple: supply and demand. The current dramatic drop in the oil price, which began in the summer of 2014 and brought the price down by half in six months, resulted from a number of factors that increased supplies and brought down demand. The decrease in demand can be traced back to declining economic growth in China, the recession in Japan, economic downturns in Germany and other parts of Europe, and increased energy efficiency in the United States and Europe. Conversely, the increase in supply was caused by the unanticipated and dramatic increase in U.S. and Canadian oil production, the increase in oil production from Russia in recent years and the ability of producers such as Iraq and Libya to maintain output despite political instability. How do current misconceptions of the factors behind oil price differ from reality, and what does this say about the future of the global oil market?
First, it should be noted that as oil is traded globally at a single price, albeit with small adjustments for transportation costs and oil type. Thus, major changes in oil supply or demand in one part of the world change oil prices around the globe. Most oil is traded on spot markets between commercial entities with little or no government involvement. One reason for the apparent mystique of oil prices is their frequent volatility. Indeed, oil has the most volatile price of any commodity. This is due to the lag time inherent in the oil industry’s capacity to respond to changes in supply and demand. Oil fields cannot just be turned on and off at will, nor can factories quickly turn out drilling rigs and platforms.