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Oil At $100 Was “A Rich World Luxury”

China, Company Strategy, Economics, India, Indonesia
By John Richardson on 19-Nov-2014


By John Richardson

THE attitude towards lower oil prices in the developing world  is “bring it on”, as it is an opportunity for hundreds of millions more people to escape poverty (see the above diagram).

Once people start earning, say, $3 a day (less than what those of us lucky enough to live in the rich world pay for a cup of Latte), they can start buying modern-day consumer goods for the first time.

And so the “multiplier effect” is fantastic. As they buy these consumer goods, this boosts jobs in a whole range industries – including, of course, petrochemicals.

“What the US Fed has done over the last six years, since the global financial crisis, is nothing short of morally bankrupt,” said an Indonesian friend, who I had dinner with in Thailand this week.

“Oil prices have been driven up by easy Fed money. Speculators were able to go permanently long on crude because the ‘cost of carry, which is the cost of interest rates and storage, was so low it made sense for them to constantly talk the market up into an almost permanent state of contango.

“Gullible journalists bought their nonsense stories about robust demand in the developing world – e.g. the growth of the Asian middle classes – justifying higher crude.

“But the truth was that some governments were crippling themselves economically by spending a lot of money on subsidies for crude in order to protect their people from the real costs of expensive oil, whilst supply of crude globally was actually getting longer.”

He used the example of his own country, Indonesia, which, as we discussed last week, spent $321bn on fuel subsides in just five years – more than it spent on education, electricity supply, roads and sanitation. All of these things need to improve in Indonesia if people are going to be able to escape extreme poverty and by so doing, enter the modern consumer economy.

India, too, spent $23bn during the last financial year on fuel subsidies when it would have been better spending that money on installing more toilets.

The marvellous news is that, thanks to lower crude prices, India has been able to deregulate diesel prices.

And Indonesia’s new visionary president, Joko Widodo, has followed suit. Thanks again to the leeway he has been given by cheaper oil, he has all but eliminated fuel subsidies.

As my Indonesian friend, quite rightly, added: “Expensive oil was only ever a thing that the rich world could afford. It was a rich world luxury”.

The price of oil has fallen because of the end of the Fed’s quantitative easing programme – and also because China has, in effect, pulled the rug from beneath the speculators by reducing its own supply of easy credit.

To repeat, be careful what you wish for if you want oil to return to $100 a barrel. This might force the Indian, Indonesian and other governments to backtrack on vital poverty alleviation work, which, in the longer run, would weaken the global economy.

The good news is that I don’t think there is any risk of oil returning to $100 a barrel, barring major geopolitical shocks, as we are in an era of abundant and so much cheaper energy.