The crude oil mania has its own illusion

WTIa Apr11.pngThe blog spent much of 2007/8 warning of the likely impact of high oil prices on chemical demand. It was then renamed ‘The Crystal Blog’ in November 2008, as the full extent of the problems finally became clear.

Today we are back in the danger-zone. The chart above shows annual oil prices since 1970 – in $s of the day (blue dotted line), and $s adjusted for inflation (red line) – with extra points for H2 1990 and Q1 2011. The red shaded areas mark periods of recession in global chemical demand.

Every sustained period of oil prices above $50/bbl in real terms has been followed by a sharp slowdown in chemical demand:

• As oil prices rise, so consumers cut back on discretionary spending
• This reduces demand for those products which drive chemical demand
• Yet chemical buyers have to start buying forward, to protect supplies
• The eventual oil price peak is thus followed by destocking
Operating rates then collapse down the value chain.

The blog saw this process at first-hand in 1979-80, as a young sales rep. Then, as in 2007/8 and today, it was assumed that the combination of tight markets with rising oil prices, meant demand was still robust. But the evidence of history makes this assumption very doubtful.

Every speculative mania, such as today’s, has its own illusion. As the blog pointed out in the Financial Times in September 2007, the myth behind the sub-prime disaster was that US house prices would never fall. Now they are down 30%, and still falling.

The myth behind the crude oil rally has been that the liquidity provided by central banks is the same as capital. It isn’t.

About Paul Hodges

Paul Hodges is Chairman of International eChem, trusted commercial advisers to the global chemical industry. The aim of this blog is to share ideas about the influences that may shape the chemical industry over the next 12 – 18 months. It will try to look behind today’s headlines, to understand what may happen next in important issues such oil prices, economic growth and the environment. We may also have some fun, investigating a few of the more offbeat events that take place from time to time. Please do join me and share your thoughts. Between us, we will hopefully develop useful insights into the key factors that will drive the industry's future performance.

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