Economists Expect Oil Prices to Average Above $60 Despite Current Volatility

2015-0317 Economists Expect Oil Prices to Average Above $60 Despite Current Volatility

The dollar index posted a back-to-back weekly gain of more than two percent, setting up its strongest two-week performance in more than six years.

Oil prices may remain volatile for some time to come but will ultimately average above $60 for Brent. This is despite the fact that they presently remain below $60, which is due to the dollar’s unrelenting rally that is putting pressure on stocks and commodities, regional analysts say.

The dollar index posted a back-to-back weekly gain of more than two percent, setting up its strongest two-week performance in more than six years.

John Sfakianakis, Middle East director at Ashmore Group, told Arab News: “A stronger dollar is good when it comes to purchasing power and cost of imports, especially as we are in a global deflationary environment. The dollar always plays a role when it comes to commodities and oil.”

However, today the dollar is not the reason for the weaker price of oil but more due to supply and demand dynamics. “Oil prices will remain volatile but will average above $60 for Brent,” Sfakianakis said.

Jarmo T. Kotilaine, chief economist at Bahrain Economic Development Board, said: “There may still be more volatility in the oil price, and a stronger dollar could contribute to that but with some provisions. Firstly, a weaker oil price is already boosting the demand for oil. Secondly, tighter monetary conditions are curbing the speculative investments, especially into shale oil, while the lower prices have curbed margins.”

He said this is translating into a supply correction so the demand-supply balance looking forward is becoming tighter. This will obviously tend to increase oil prices.

Alessandro Magnoli Bocchi, founder and CEO at Foresight Advisors, an economic and business advisory services company, said: “Oil prices tend to follow an inverse relationship with the value of the dollar. When the dollar strengthens against other major currencies, the price of oil typically drops.”

He said crude prices fell 60 percent between June and January because of fears of a global oil glut and the refusal of OPEC members to cut output. Brent has since stabilized at around $ 60 and WTI at around $50.

“The current strength of the dollar is creating headwinds for oil: A rallying dollar hampers oil prices, as expectations of a mid-year US interest rate hike are pushing the dollar to multi-year highs, making commodities denominated in the dollar costlier for holders of other currencies. Brent is getting affected more than WTI (Western Texas Intermediate) as investors take profit in the spread between the two,” Bocchi said.

Commenting on the surging dollar, Kotilaine said the impact for the Gulf will largely depend on what the drivers for the strengthening dollar are.

“The principle reason for the upward pressure in the dollar at the moment is linked to a tighter US monetary stance, and this may begin to put some pressure on the cost of capital in the Gulf as well due to the dollar peg. This may lead to a move toward slightly tighter monetary conditions, but it is still too early to tell just how far the Fed will be able to tighten as other major central banks are moving in the opposite direction,” he said.

However, Kotilaine added: “Higher dollar will reduce imported inflation, which has at times been a major factor. To the extent that this goes hand in hand with tighter monetary conditions it will, other things being equal, dampen domestic inflation as well.”

Bocchi said the decline in oil prices has significant macroeconomic, financial and policy implications. If sustained, it would affect oil exporting countries — such as the GCC — adversely by weakening fiscal and external positions and reducing economic activity. Also, low oil prices will affect investor sentiment about oil exporting emerging market economies, and can lead to substantial volatility in financial markets.

“Inflation in the GCC should remain subdued, helped by lower global commodity prices, especially food and agricultural prices, given the region’s dependence on imported food items, and lower the exchange rate pass-through given the dollar appreciation,” he added.

Yet, on the domestic side, Bocchi said: “Inflation is created by demand factors, such as credit growth and government expenditures — and it is also created by supply side constraints in the housing market and rising labor costs.”

Over the last decades, as oil rose to constitute one-third of its GDP and three-fourth of annual government revenues, the GCC has looked to the United States as a partner and guarantor of security, he said, adding that it has also invested heavily in the United States.

“The region’s exchange rates are pegged — either directly or via a currency board — to the dollar and fiscal policies are fueled by oil proceeds. So far, these arrangements have served the GCC well. The dollar peg has ensured predictability in the monetary value of oil exports revenues. Fiscal spending, backed by saved petroleum earnings, has promoted employment and equity,” Bocchi said.


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