Peak oil, cheap oil

Peak oil, cheap oil

Oil is trading at close to its lowest price since 2021 at $67 a barrel, down from a peak of $130/b in 2022. The US Energy Information Administration expects prices to fall further to $51/b next year. This is despite heightened tensions in the Middle East, and the continued threat of disruption to oil supply in the region. Today’s subdued oil prices are in marked contrast to the 1970s when conflict in the Middle East led to a quadrupling of oil prices, triggering a global surge in inflation and recessions in the West. 

Why are oil prices so low today?

• The outbreak of hostilities between Israel and Iran in June prompted fears that Iran might attempt to disrupt traffic in the Strait of Hormuz and led to a spike in the oil prices. Prices fell back following the ceasefire between Israel and Iran on 24 June.

• Supply and demand fundamentals also point to lower prices. US tariffs have dimmed prospects for global growth and demand growth in China, the world’s second-largest consumer of oil, remains subdued. Meanwhile oil supply is rising.  OPEC+ has been reversing cuts to production introduced in 2022 in an attempt to bolster prices. Analysts expect a glut of oil to hit the market towards the end of the year.

• Longer-term shifts have also helped reduce the vulnerability of western economies to the disruption of energy supplies from the Middle East.  

• First, OPEC’s hold over the oil market has weakened. Its market share has fallen from 50% in the 1970s to around 30% today as supply has surged elsewhere, particularly in the US. Fracking has enabled the US to more than double its oil output in the last 20 years. It is now the world’s leading oil producer, accounting for one-fifth of global output.

• Second, the creation of strategic petroleum reserves since the 1970s has provided a buffer against oil shocks. Members of the International Energy Agency are required to ensure oil stock levels equivalent to no less than 90 days of net imports and to be ready to collectively respond to severe supply disruptions. The UK, for instance, currently has stocks equivalent to about four months of net oil imports.

• Third, economic activity has become less energy intensive. Vehicles, appliances and industrial processes are more productive, generating more output for a given level of energy input. Despite a shift towards larger, heavier cars the mpg (miles per gallon) of the average US car has doubled over the last 50 years. In countries with stringent regulations electricity consumption of many household appliances has halved in the last two decades.

• Fourth, the composition of economic activity in the West has moved from energy-intensive manufacturing towards services. Even in the US, with its cheap and abundant energy, manufacturing’s share of GDP has fallen from 20% to under 10% today.

• Finally, oil’s share of global energy has declined from an average of 42% in the 1970s to 30% last year. Gas, solar, wind, nuclear and coal have all increased their share in the mix.  The contribution of solar and wind is relatively small, consisting of a combined 6% of global energy supply, but is growing at a breakneck rate. Solar output has risen by an average of 25% each year since 2018, doubling every three years. Energy output from wind is increasing by 12% a year. By contrast average growth in energy from oil is less than 1% a year.

• In the UK solar power output so far this year has exceeded the total for 2024 due to sunny weather and the rapid rollout of panels. Plans for battery storage have surged and planning consents for new renewable capacity have reached record levels.

• In the 1970s it was widely thought that the world was likely to run out of oil, causing energy shortages and driving up prices. The so-called peak oil theory did not anticipate new extraction techniques, such as fracking. Nor could it foresee the emergence of the US as the world’s leading oil producer or the reduced role of OPEC and Middle East oil producers in global energy supply.

• Hydrocarbons, including oil, are still critically important for global growth. But the fact that the oil price remains subdued in the face of geopolitical instability speaks to a shift in the global energy landscape. It has been made possible by gains in energy efficiency,  new technologies and the exploitation of new sources of supply. This adaptability bodes well for the transition to renewables.

PS: Last week we wrote about UK housing but didn’t touch on the rental market. Private rents have risen sharply in recent years. The average household renting privately spent 36.1% of its gross income on rent in the year to March 2024 up from 33.1% the previous year and well in excess of the 30% level the Office for National Statistics defines as affordable. Rents have been pushed up as landlords pass on higher mortgage costs and demand for rentals has increased as fewer people can afford to buy a home. Research by SpareRoom, a company that helps to let rooms in flat shares, found that 50% of flat sharers do not have a living room, as it is being used as another bedroom.

PPS: Our former colleague in the economics team, Max Lambertson, now senior economist at the Mastercard Economics Institute, confirmed the point in last week’s briefing about UK mortgage costs rising, not falling, even though interest rates are declining. Max pointed out that direct debit data show that the average UK mortgage payment in July was £997, 6% higher than a year earlier, despite the fact that interest rates have fallen from 5.0% to 4.25% over this period.

OUR REVIEW OF LAST WEEK’S NEWS
The US S&P 500 equity index ended the week up 0.3%. The UK FTSE 100 equity index rose 2.0% to close at 9,321. 

Economics

• UK inflation increased by more than expected to 3.8% in the year to July, the highest rate since January 2024, driven by the rising price of food and airfares
• UK economic activity reached a 12-month high in August, the fourth consecutive month of expansion, according to surveys of purchasing managers
• Purchasing managers' surveys for the US and euro area for August also showed activity at a 12-month high
• Germany’s key ifo survey of business confidence rose in August continuing an improving trend that started in January 
• US Federal Reserve chair Jay Powell hinted that the Fed may cut interest rates in September
• Credit rating agency S&P Global maintained its credit rating for US government debt, saying that it expects tax revenues from import tariffs to help offset the cost of the government’s recent tax and spending bill
• US president Donald Trump said that Fed governor Lisa Cook should step down following accusations of breaching mortgage rules. Ms Cook said she has “no intentions of being bullied to step down”
• The US could meet most of its demand for critical minerals by making better use of its mining waste which can be rich in materials such as copper, iron, nickel and zinc, according to researchers at the Colorado School of Mines
• US data centres used 4.4% of total US electricity in 2023, according to the Department of Energy. Their share of consumption is expected to increase to up to 12% by 2028
• The UK Office for National Statistics delayed the release of its monthly consumer retail sales data to allow for greater “quality assurance” amid continuing challenges with the quality of national economic statistics
• UK consumer confidence reached its highest level this year in August, according to GfK
• The RMT union announced strikes across the London Underground from 5 September over pay and working conditions
• The number of UK bank branches has fallen by a third over the last five years to 6,870, according to official data, as banks move towards online services
• The EU and US announced the details of their recently agreed trade deal, which includes a baseline US import tariff rate of 15% on EU goods. The US administration said tariff rates on European cars will remain at 27.5% until the EU “eliminate tariffs on all US industrial goods”
• Euro area consumer confidence fell in August, according to initial estimates, reversing the gains made since April
• The FT reported that the EU is speeding up plans to establish a European digital currency over fears that recent US legislation in support of the stablecoin market will reduce EU competitiveness
• Japanese exports fell for the third consecutive month in July, driven by falling exports to the US in the wake of tariff increases   

Business

• The US government is finalising a deal to acquire a 10% stake in US chipmaker Intel
• Japanese technology company Softbank also said it will invest $2bn as part of plans to expand its US tech investments
• Social media company TikTok is expected to lay off hundreds of UK security and content moderators as it looks to use artificial intelligence to automate some of the work
• Australian airline Qantas was fined $59m, the largest in Australian corporate history, for illegally sacking nearly 2,000 workers during the COVID pandemic
• Member’s club Soho House announced a $2.7bn takeover deal by a group of investors led by US hotel company MCR Hotels
• Danish pharmaceuticals company Novo Nordisk halved the price of its Ozempic diabetes and weight-loss drug in the US for people purchasing it without using health insurance, in response to Mr Trump’s demands for drugmakers to lower prices in the US
• Online bank Monzo is in discussions with telecom companies to offer its own mobile phone service as it looks to expand beyond its current financial services offerings. Other digital finance firms, such as Revolut and Klarna, are also looking to offer mobile phone services
• US self-driving technology company Nuro raised $230m in its latest funding round, valuing the start-up at $6bn, amid increased investor appetite for autonomous driving vehicles
• The UK government dropped demands for Apple to provide a “back door” to its customers’ data, ending its disagreement with the US government over the issue
• UK retailer Marks and Spencer announced plans to build a £340m automated warehouse in the Midlands as part of plans to double the size of its food business and increase automation across its supply chain

Global and political developments

• Ukrainian president Volodymyr Zelensky travelled to Washington along with European leaders for talks with the US administration. Mr Trump said the US would help arrange European security guarantees for Ukraine if a peace deal was agreed
• Russian foreign minister Sergei Lavrov said that Russia’s agreement to any security guarantees is contingent on its inclusion in the process, alongside China
• Russia increased its missile and drone attacks on Ukrainian cities. Moscow suspended petrol exports last week following Ukrainian missile attacks on Russian oil refineries that led to record petrol prices
• A Ukrainian man was detained in Italy on suspicion of being involved in damaging the Nord Stream gas pipeline from Russia to the EU in 2022
• Hamas said that it would accept a ceasefire proposal to end the conflict in Gaza, the FT reports
• The Israel Defence Forces said it will call up 60,000 reservists over the coming weeks as it prepares to take control of Gaza City
• UK asylum applications surpassed 111,000 in the Labour government’s first year in office, up from 97,000 in the previous year. UK home secretary Yvette Cooper announced reforms to the current asylum appeals process
• UK health minister Wes Streeting walked away from talks with drug companies after they refused to accept the government’s latest offer on drug pricing

And finally… more than 6,000 words have been added to the Cambridge English Dictionary this year. Many of the additions are heavily influenced by internet culture, including phrases such as “skibidi”, “delulu” and “mouse-jiggler” – English slanguage