Oil price implications
Gail Tverberg offers her view on possible ramifications of the severe drop in prices for oil and debt financed growth:
There are really two different problems that a person can be concerned about:
- Peak oil: the possibility that oil prices will rise, and because of this production will fall in a rounded curve. Substitutes that are possible because of high prices will perhaps take over.
- Debt related collapse: oil limits will play out in a very different way than most have imagined, through lower oil prices as limits to growth in debt are reached, and thus a collapse in oil “demand” (really affordability). The collapse in production, when it comes, will be sharper and will affect the entire economy, not just oil.
In my view, a rapid drop in oil prices is likely a symptom that we are approaching a debt-related collapse–in other words, the second of these two problems. Underlying this debt-related collapse is the fact that we seem to be reaching the limits of a finite world. There is a growing mismatch between what workers in oil importing countries can afford, and the rising real costs of extraction, including associated governmental costs. This has been covered up to date by rising debt, but at some point, it will not be possible to keep increasing the debt sufficiently.
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There is of course insurance by the FDIC and the PBGC, but the actual funding for these two insurance programs is tiny in relationship to the kind of risk that would occur if there were widespread debt defaults and derivative defaults affecting many banks and many pension plans at once. While depositors and pension holders might try to collect this insurance, there wouldn’t be enough money to actually cover these demands. This problem would be similar to the issue that arose in Iceland in 2008. Insurance would seem to be available, but in practice, would not pay out much.Also, I learned after writing this post that bail-ins were mandated for US banks by the Dodd Frank Wall Street Reform and Consumer Protection Act of 2010. In the language of the summary, bank depositors are “unsecured creditors,” and are thus among those to whom the burden of loss is transferred. The FDIC is not allowed to borrow extra funds, beyond bank funds, to cover this loss.
Gail’s always looking for the worst angle
there are other viable explanations
like China or oil production being kept at a level to squeeze out competitors and make a killing when they collapse
Gail’s been spreading total collapse stories for years and none of it has happened
collapse never seems to show up
it might be centuries away
p
“1. Peak oil: the possibility that oil prices will rise, and because of this production will fall in a rounded curve. Substitutes that are possible because of high prices will perhaps take over.”
2. Debt related collapse: oil limits will play out in a very different way than most have imagined, through lower oil prices as limits to growth in debt are reached, and thus a collapse in oil “demand” (really affordability). The collapse in production, when it comes, will be sharper and will affect the entire economy, not just oil.”
Over the last decade the US has had more and more domestic oil production so we have been importing less and less oil. Somehow globally high oil prices were maintained, but something has changed and oil prices plummeted in the last part of 2014.
I expect that the immediate effect on oil production from falling prices will be minor. Oil producers still have to pay their debt or fund their economies. Eventually I would expect domestic oil production to fall since oil production from fracked oil wells drops quickly and new oil wells would be unprofitable. Thus eventually oil prices would start to creep up.
But the practical reality is that oil prices will only rise until US oil companies can profitably bring more oil production back online. The eventual real oil price should be somewhere between the oil price today and the previous high oil prices in early 2014.
Problem number 1 is not a practical outcome.
For the foreseeable future, real oil prices will be lower than the price per barrel in early 2014. The only possible reason for higher prices would be if the growth in the world economy came roaring back to pre recession levels, thus radically increasing the demand for oil. I view that as next to impossible.
Problem number 2 is not a practical outcome either.
First, high oil prices did not bring the US economy down, we had been there before in the 1970s. What has brought the US economy down was Global Free Trade and stagnant domestic wages. Increasing consumer debt compensated until it couldn’t.
Second, more and more domestic oil production was being brought online even after the recession started in 2008 and we still import a lot of oil. Domestic oil production will rise and fall with global oil prices. Global oil production will rise and fall with global demand. Global oil producers have been lowering their prices to keep their production up, which is signaling a glut of oil. As some non profitable global oil production goes offline the global oil price may creep back up a little but I see no reason for that price to exceed what it was in early 2014. (Long before that the global oil production which was removed would be put back online.)
My conclusions:
Countries that have allowed their economies to become dependent on $100 per barrel oil are in trouble. And any bank, or other speculator who bought the debt of those countries is also in trouble. Speculators sometimes lose.
There is a much smaller problem of US speculators buying the junk bonds of oil companies. But we should not be concerned about their fate either except that any pension fund managers which speculated in them should be indicted for their recklessness.
If you believe that depositors with less than $250,000 in domestic banks are going to lose some of their money then heaven help you. I have serious doubts that regulators would allow depositor funds over $250,000 to be lost. Either one would cause bank runs coast to coast. Before that would happen, they would nationalize those speculating banks. And eventually we would be told that they had turned a profit on them.
And last but not least, in the worst case we get an opportunity to break up large banks. OR we get a chance to throw politicians out of office on a grand scale. Americans are madder than hell about the previous bank bailouts and any politician trying to order up another bazooka will be toast.
Regardless of the outcome, the sun will come up in the morning and the sky will not have fallen!
oil prices did “bring the US economy down”. We have had real wage growth since 2013 and that was lessened because of the inflationary impact of high oil prices. Now, the US economy is growing rapidly again………..hmmmmmmm