US markets peaked in January, a sign that investors are confident about the future of the US economy.
At the same time, the conflict in the Middle East and the Red Sea is likely to get even more heated, posing risks to world trade and the supply of our economies, especially in energy. Such conditions could have led to a spike in oil prices. It is not, and the barrel of Brent remains relatively stable, around 80 USD, a rare situation but finally quite logical in the current situation.
A weak demand in the immediate
If oil prices remain relatively stable despite the conflict in the Middle East, it is primarily because demand remains weak. Although investors are confident, activity indicators show that, for the time being, industrial production (generally more energy-intensive than services) is at a low level in Europe and the United States. At the same time, the workshop of the entire planet, China, has not restarted as expected, and its domestic demand also remains sluggish. There are many reasons why OPEC is worried about the evolution of demand.
Of course, the prospect of cheaper credit in the West and new stimuli in China could change the situation quite quickly. But at this point, we must face the facts: oil demand remains below expectations.
An offer that evolves
With weak demand, OPEC countries and Russia are organising to reduce their production. Their objective was to find a balance between supply and demand that would stabilise the price of a barrel at still-high levels of the order of 80 USD. This level is finally acceptable to all since it allows for the generation of already significant profits on the producers' side, and on the consumers' side, it is no longer likely to fuel soaring inflation.
However, if OPEC reduces production, its members and the countries close to it (including Russia and Mexico) represent only about half of the world oil market. And everywhere else, the order is clearly to produce more, at least as long as it will not precipitate a collapse of the price of the barrel.
This is particularly the case in the United States. Since the introduction of the Inflation Reduction Act (IRA), the country has been betting on the energy transition and, for its part, is putting the necessary assets in place to become a power in renewable energy and other technologies of the future. But it does not abandon hydrocarbon production; quite the contrary. Worried about the impact of soaring fuel prices on its popularity, the White House does not hesitate to help the oil sector, which benefits from some of the provisions of the IRA.
And it works because, at this stage, the United States pumps about 13.5 million barrels of oil daily, an absolute record for the country and the world: no country has ever pumped so much oil. As a result, it has become the world’s second-largest oil exporter, behind only Saudi Arabia. The calculation is simple: to maintain energy prices at prices acceptable to the US consumer – but also to continue to meet European demand for sources of supply that could replace Russia – the US fossil energy sector lives bright days.
Recent mergers in the sector, with the acquisition by giants Exxon and Chevron (both to be retained) of shale oil specialists Pioneer Natural Resources and Hess, respectively, allow the sector to manage its supply better and optimise its production according to market conditions. American production should continue to increase in the coming years, and it will not be the only one since the United States is far from isolated. Canadian production is also up sharply and at record highs. At the same time, new players are entering the market.
This is the case of French Guiana, whose production is growing very fast - now reaching half a million barrels per day - and is expected to grow at high speed. In short, despite European efforts to limit hydrocarbon exploitation, the latter will continue to increase.
Many assets
Given this state of affairs, it isn't easy to know how the price of oil will evolve in the coming months. A rebound in activity in our Western economies and China would undoubtedly allow OPEC to revive its production, forcing the market to find a new balance. Still, it is not sure that this would translate into a price surge. Therefore, the possibility of a large-scale conflict in the Middle East poses the most significant risk of a sudden spike in oil prices.
But the barrel could also go down. For this to happen, it would be enough for OPEC to no longer be able to ensure discipline among its members and for everyone to start producing more without consultation with its partners. There are also economic risks. For the moment, investors are betting that the United States will avoid a recession, that the recession that the eurozone will experience will not be profound, and that, failing to excite investors, China’s economy will remain afloat and continue to reach honourable levels of growth. Interest rates that remain higher for longer could challenge these calculations, precipitating an otherwise more difficult economic situation.
Nevertheless, without the oil blot effect in the Middle East and catastrophic global economic conditions, a barrel of oil may remain around the current price level of USD 80 for Brent. This level does not bother many people.
After a long history of contributing to soaring inflation throughout 2022, oil prices have eased. This was due to the gradual weakening of demand (deterioration of the economic situation) and a continuing increase in hydrocarbon supply.
A worsening geopolitical situation in the Middle East will likely cause a price surge. On the other hand, a further deterioration in the global economic crisis would damper prices.
Nevertheless, in the absence of a major worsening both geopolitically and economically, the path of least resistance would be towards a barrel that will continue to oscillate around current levels.