## _sdn1515

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### Executive summary — key findings
- Lower oil prices should translate into higher spending and therefore support global growth.
- The net effect on global activity is positive because:
  - the increase in spending by oil importers is likely to exceed the decline in spending by exporters, and
  - lower production costs will stimulate supply in other sectors for which oil is an input.
- The report is based on information as of June 4, 2015.

### Drivers of the oil price decline
- The price of oil fell by 50 percent between mid-2014 and early 2015.
- Supply factors have played a somewhat larger role than demand factors in driving the 50 percent drop:
  - Higher oil production resulted partly from non-OPEC developments (especially U.S. shale) and higher-than-expected OPEC output in countries such as Iraq, Libya, and Saudi Arabia.
  - Demand was weaker than expected in Europe and Asia.
  - Increased financial flows into oil in recent years may have contributed to increased volatility, but clear evidence of speculative forces or financialization driving the price decline is hard to find.
- Weaker demand and substitution effects have pushed down prices of other energy commodities.

### Oil price outlook and forecasting approach
- Futures markets imply an increase in Brent oil prices to some $75 a barrel in 2020.
- Recent experience—including the Brent price rally to about $65 a barrel in April—suggests there may be considerable volatility around this upward trend.
- The IMF uses futures contracts for its baseline assumptions for oil prices.
- IMF staff are developing an alternative supply-demand model that also points to gradually higher oil prices over the longer term, but with a very wide range of uncertainty.
- There is no simple alternative to futures for price forecasting at this stage; institutions using models missed the large price drop as well.

### Pass-through to retail fuel prices and fiscal effects
- By end-2014, retail fuel prices had declined globally, on average, by only half as much as world oil prices.
- Median pass-through:
  - The median pass-through to gasoline and diesel prices was about 50 percent in the second half of 2014.
  - The pass-through was similar to the second half of 2008 (40 percent).
  - Over longer periods, pass-through tends to be higher (for example, the pass-through was 80 percent between end-2008 and mid-2014).
  - Pass-through for kerosene was less than 30 percent (estimate based on a smaller sample).
- Regional patterns:
  - Europe has had the highest pass-through; countries in the Middle East and sub-Saharan Africa have generally had the lowest pass-through.
  - Advanced economies tend to have higher pass-through than emerging markets and developing countries.
- Fiscal implications:
  - The fiscal costs (explicit and implicit) of low domestic prices have declined and net fuel taxes have increased, implying significant fiscal/quasi-fiscal benefits.
  - Among oil exporters, the lower costs of providing cheap domestic energy have partly offset the loss in hydrocarbon revenue.
  - Several countries (for example, Iran, Venezuela, and Croatia) have high costs associated with low fuel prices—more than 2 percent of GDP.
  - Fiscal savings could be partly reversed if there is no policy action; in countries with regulated prices, savings could vanish (at least partially) when oil prices rebound.
- Distributional and macro implications:
  - With limited pass-through, some real income gains accrue to the government or energy companies rather than households and end users.
  - If no price pass-through and government or energy companies save all windfall gains, there would be no transmission to demand channels, though benefits could occur via lower government borrowing costs, improved financial balance sheets, and confidence effects.

### Macroeconomic implications and simulations
- After accounting for the limited pass-through to retail prices, the fall in oil prices should boost global growth by about ½ percentage point in 2015–16.
- Other shocks expected to offset this positive effect include:
  - slowing growth in emerging markets and developing countries,
  - exchange rate depreciation in some oil-importing countries that mutes positive growth effects,
  - lower non-oil commodity prices affecting non-oil commodity exporters,
  - some low-income oil importers could be hurt by lower remittances and foreign aid from oil exporters.
- Scenario design (G-20 model):
  - Scenarios calibrated so the oil price path matches the difference between the oil price baseline assumptions in the April 2015 WEO and the October 2014 WEO: 40 percent lower in 2015, moderating gradually to about 20 percent by 2020.
  - Two pass-through scenarios:
    - Full pass-through scenario: decline in world oil prices is passed on fully to households and firms in all countries.
    - Incomplete pass-through scenario: complete pass-through in advanced economies; incomplete pass-through in most emerging market and developing economies and in oil producers.
  - Key simulation results:
    - If the decline in global oil prices since August 2014 were to fully pass through to domestic end-user prices, global GDP—excluding those countries in which oil supply is increasing—would rise by roughly 1 percent in the first two years.
    - If the decline fails to fully pass through and the resulting increase in fiscal revenue is saved, the increase in global GDP would be reduced by almost half.
    - The growth effect would be larger if governments used windfalls to cut distortionary taxes or make efficient investments.
- Transmission nuances:
  - For temporary declines: real income gains in advanced oil-importing countries accrue mainly to the private sector and will mostly be saved; real income losses in oil exporters accrue mainly to the public sector and will often lead to increased borrowing.
  - For permanent declines: spending patterns and fiscal policy need to adjust; in oil exporters, fiscal and external positions can deteriorate substantially without timely adjustment.
  - Financial channels can both amplify and dampen macro effects depending on credit, fiscal, and balance-sheet dynamics.

### Financial sector implications and risks
- Overall assessment: financial sector implications appear manageable, but downside risks exist; effects have re-priced countries and companies dependent on oil revenues, especially those with existing vulnerabilities.
- A. Amplification of credit risk
  - Risk premiums on oil-revenue-dependent countries and companies have widened since summer 2014 (bond spreads, equity prices, currency movements).
  - Default dynamics: corporate defaults in the energy sector have tended to pick up with a lag of about 12 months.
  - Fiscal breakeven prices vary widely across oil-producing emerging markets: US$57 per barrel for Kuwait, US$206 per barrel for Libya.
  - Outstanding worldwide notional value of bank loans and corporate debt extended to the energy sector: about US$3 trillion.
  - Of that, US$247 billion is attributable to the U.S. high-yield bond market alone.
  - The leveraged (high-yield) share of syndicated oil and gas loan issuance increased from 17 percent in 2006 to 45 percent in 2014.
  - Majority of global systemically important banks appear to have about 2–4 percent of total loan book exposure to the energy sector, though some emerging market and U.S. regional banks reportedly have much higher exposures.
  - Financing drying up expected to lead to cuts in capital expenditure by companies of 10–15 percent in 2015.
- B. Oil surplus and global liquidity
  - Foreign exchange reserves accumulated by net oil-exporting countries increased US$1.1 trillion, or almost fivefold, over the past decade.
  - These funds account for about 15 percent of the cumulative rise in world foreign exchange reserves since 2004.
  - Deposits from oil-exporting countries in banks reporting to the BIS have doubled to US$972 billion since 2004.
  - This group now holds more than US$2 trillion in U.S. assets, split as:
    - Equities: US$1.3 trillion
    - Treasuries: US$580 billion
    - Credit: US$230 billion
    - Debt instruments issued by U.S. government-sponsored enterprises: US$21 billion
  - Following an US$88 billion contraction in oil exporter reserves in 2014, further significant declines in 2015 are to be expected.
- C. Strains on financial infrastructure
  - Noncommercial investors held about 45 percent of WTI futures contracts in 2014, about three times their share during the 1990s.
  - Assets under management in commodity funds and commodity-linked exchange traded products have nearly halved from their 2010 peak levels.
  - No evidence that unwinding of oil market positions has led to dislocations in market functioning; measures of intraday volatility are within historical norms.
  - Forward-looking implied volatility increased to levels recorded in 2011–12, but remain well below 2008 levels.
  - Commodity exchanges continue to manage counterparty risk and heightened volatility via changes in margining requirements and circuit breakers.

### Policy responses — framework and recommendations
- Overarching framework:
  - Appropriate mix of fiscal, monetary, and exchange rate policies depends on size/direction of terms-of-trade shock, exchange rate regime, fiscal and external buffers, balance sheet mismatches, exchange rate valuation, output gap, and inflation.
  - Policy choices are framed through fiscal vulnerabilities, external vulnerabilities, and the cyclical position.
- A. Oil exporters — priorities and options
  - Because the oil price drop is expected to have a large permanent component, oil exporters will need fiscal adjustments, with magnitude and pace varying according to buffer size (fiscal vulnerability).
  - Exporters with external vulnerabilities and/or fiscal policy rigidities should consider exchange rate flexibility to facilitate adjustment.
  - Monetary policy should be tailored to the domestic cyclical position, inflation expectations, and any external pressures.
  - Countries exposed to potential financial strains should strengthen macroprudential policy frameworks.
  - Lower oil prices underscore the need for real and financial sector reforms to foster diversification.
  - Policy stances by country position:
    - Countries with comfortable fiscal and external buffers can adjust gradually and use buffers to smooth the transition (example: Norway).
    - Countries at the center of vulnerabilities should start adjusting policies briskly and immediately (example: Venezuela); flexible exchange rates help if no foreign-exchange balance-sheet mismatches, while fixed pegs require considerable macro tightening.
    - Some countries (e.g., several GCC members) should maintain currency pegs, formulate medium-term fiscal consolidation plans early, and adjust pace gradually in line with buffer sizes.
  - Structural priorities:
    - Establish or enhance medium-term fiscal frameworks; only 13 of 33 oil exporters reviewed have some form of a fiscal rule, and only 5 explicitly incorporate rules related to oil prices.
    - Pursue diversification via real and financial sector reforms.
    - Strengthen liquidity management, early-warning systems, address concentration risks, and deepen financial sectors.
    - Consider greater exchange rate flexibility where feasible.
    - Reform energy prices and taxation; use targeted mitigation measures and communication strategies.
    - Improve fiscal transparency, including exposing quasi-fiscal activities of energy-sector state-owned enterprises.
- B. Oil importers — priorities and options
  - Core question: how much of the windfall to save where retail prices do not adjust automatically.
  - Guidance by situation:
    - Countries outside the Venn with a negative output gap: allow domestic demand to rise by the full amount of the windfall; use window to increase energy taxation while reducing other distortionary taxes or raising priority spending.
    - Countries with fiscal and external vulnerabilities (example: Egypt): prioritize saving the fiscal windfall to improve sustainability, reduce public debt, and increase international reserves; consider raising energy taxes.
    - Oil importers facing deflationary risks: do not save any of the windfall; ensure inflation expectations remain anchored and, if needed, use unconventional monetary policy.
    - Emerging market economies and low-income countries with policy space: spend part or all of windfalls on longer-term growth-enhancing spending (infrastructure, education, tax cuts).
  - Use the period of lower oil prices to strengthen credibility of monetary policy frameworks; evidence of second-round disinflationary effects could open space to reduce policy rates in some countries.
- C. Medium-term policies (especially for exporters)
  - Recalibrate fiscal policies to lower oil prices with adjustment speed driven by vulnerabilities; favor growth, equity, and noncommodity-sector development.
  - Deepen fiscal frameworks, diversify the economy, strengthen financial-sector resilience, consider exchange rate adjustment where appropriate, and reform energy pricing and taxation.

### Targeted country and regional notes (selected)
- Timeline and levels cited:
  - $110 a barrel of Brent oil in June 2014.
  - Declined to $80 a barrel before the OPEC meeting in late November 2014.
  - Fell sharply to below $50 a barrel by early January 2015.
  - Recovered partly to about $65 a barrel in May 2015.
- Sub-Saharan Africa and Western Hemisphere (Box 1):
  - Slightly more than half of African countries regulate fuel prices in a discretionary way; 40 percent rely on automatic adjustment formulas.
  - About one-third of WHD countries allow domestic fuel prices to be fully market determined.
  - Mexico: no fuel subsidies since December 2014; authorities plan to fully liberalize domestic fuel prices in 2018.
  - Jordan (NEPCO): NEPCO’s losses expected to decline from 4½ percent of GDP in 2014 to 3½ percent of GDP in 2015; fall in oil prices yields additional savings of about 1½ percent of GDP in 2015.
  - Egypt: in 2013/14 untargeted energy subsidies cost more than 6 percent of GDP; July 2014 price increases expected to deliver budget savings of about 2 percent of GDP for 2014/15; authorities intend to totally eliminate energy subsidies over the next five years except for liquefied pure gas targeted to the poor.
  - Sudan: sharp domestic fuel price increases in late 2013 reduced subsidies by more than 1 percent of GDP in 2014; decline in international oil prices will further reduce those subsidies, which authorities plan to eliminate by 2019.
- Asia and Pacific (Box 5):
  - IMF revision exercise shows a striking increase in both private and public net saving ratios and broadly unchanged growth because a sizable part of the windfall to net oil (and commodity) importers is expected to be saved, increasing current account surpluses.

### Energy price reform (Box 6) — recommendations and quantitative estimates
- Window of opportunity:
  - Low oil prices open a window to increase domestic energy prices toward international levels and avoid large future gaps.
  - Both oil exporters and oil importers should work toward fully liberalizing domestic prices or adopting automatic pricing formulas.
  - Use targeted transfers financed with fiscal savings from higher fuel prices to protect vulnerable groups.
- Policy recommendations:
  - Liberalize domestic energy prices or adopt automatic pricing formulas to align domestic prices with international/opportunity costs.
  - Use targeted transfers financed by fiscal savings from higher fuel prices to protect vulnerable groups.
  - Consider increasing energy taxes for revenue and environmental reasons; resources could reduce fiscal vulnerabilities or finance priority spending (for example, social or investment) or finance reductions in labor taxation where unemployment is high.
- Key quantitative estimates:
  - “Pre-tax subsidies” amount to some $330 billion globally.
  - “Post-tax subsidies,” which include health effects, traffic congestion, impact of global warming, and other factors, are estimated at $5.3 trillion.
- Budget transparency:
  - Budget documents should reflect the true size of implicit and explicit fuel subsidies.
  - Greater transparency of accounts of energy-related state-owned enterprises will help ensure windfalls are used consistently with fiscal strategy.

*Source: IMF report "Global Implications of Lower Oil Prices", based on information as of June 4, 2015.*

### EXECUTIVE SUMMARY ___________________________________________________________________________ 5

### EXECUTIVE SUMMARY

### Key findings
- Lower oil prices should translate into higher spending and therefore support global growth.
- The net effect on global activity is positive because:
  - the increase in spending by oil importers is likely to exceed the decline in spending by exporters, and
  - lower production costs will stimulate supply in other sectors for which oil is an input.
- The report is based on information as of June 4, 2015.

### Drivers of the oil price decline
- The price of oil fell by 50 percent between mid-2014 and early 2015.
- Supply factors have played a somewhat larger role than demand factors in driving the 50 percent drop.
  - Higher oil production resulted partly from non-OPEC developments (especially U.S. shale) and higher-than-expected OPEC output in countries such as Iraq, Libya, and Saudi Arabia.
  - Demand was weaker than expected in Europe and Asia.
  - Increased financial flows into oil in recent years may have contributed to increased volatility, but it is hard to find clear evidence of speculative forces or financialization driving the price decline.
- Weaker demand and substitution effects have pushed down prices of other energy commodities.

### Oil price outlook and forecasting approach
- Futures markets imply an increase in Brent oil prices to some $75 a barrel in 2020.
- Recent experience—including the Brent price rally to about $65 a barrel in April—suggests there may be considerable volatility around this upward trend.
- The IMF uses futures contracts for its baseline assumptions for oil prices.
- An alternative supply-demand model being developed by IMF staff also points to gradually higher oil prices over the longer term, but there is a very wide range of uncertainty.
- There is no simple alternative to futures for price forecasting at this stage; institutions using models missed the large price drop as well.

### Pass-through to retail fuel prices and fiscal effects
- By end-2014, retail fuel prices had declined globally, on average, by only half as much as world oil prices.
- Europe has had the highest pass-through; countries in the Middle East and sub-Saharan Africa have generally had the lowest pass-through.
- Fiscal implications:
  - The fiscal costs (explicit and implicit) of low domestic prices have declined and net fuel taxes have increased, implying significant fiscal/quasi-fiscal benefits.
  - Among oil exporters, the lower costs of providing cheap domestic energy have partly offset the loss in hydrocarbon revenue.

### Macroeconomic implications
- After accounting for the limited pass-through to retail prices, the fall in oil prices should boost global growth by about ½ percentage point in 2015–16.
- Other shocks are expected to offset this positive effect, including:
  - slowing growth in emerging markets and developing countries (partly related to structural bottlenecks, reassessment of potential growth, and geopolitical risks),
  - exchange rate depreciation in some oil-importing countries that mutes positive growth effects,
  - lower non-oil commodity prices affecting non-oil commodity exporters,
  - some low-income oil importers could be hurt by lower remittances and foreign aid from oil exporters.
- Even where immediate growth benefits are muted, lower crude oil prices benefit public and private sector balance sheets, supporting medium-term growth prospects.

### Financial sector implications and risks
- The speed and magnitude of the oil price decline has the potential to trigger financial strains, which could reduce the global benefits of lower oil prices, although the effects have so far been contained.
- Observed and potential vulnerabilities:
  - Countries and companies dependent on oil revenues have been significantly re-priced, especially those with existing vulnerabilities; the impact may not yet have been fully felt.
  - A number of energy firms accumulated sizable debt during the period of high oil prices, and some banking systems saw a marked increase in loan exposures to the energy sector.
  - Redistribution of wealth among investors with varying saving and portfolio preferences could have market repercussions that will take time to play out.
  - For those concerned about market infrastructure, there does not appear to be evidence of dislocations in the oil markets so far, but significant changes in the composition of oil market participants suggest policymakers should remain vigilant about the possibility of disorderly market functioning.

*Source: IMF report "Global Implications of Lower Oil Prices", based on information as of June 4, 2015.*

### 7. Policy responses to lower oil prices should depend on the terms of trade impact, fiscal and

### _sdn1515 - 7. Policy responses to lower oil prices should depend on the terms of trade impact, fiscal and

### Key policy conclusions
- Because the oil price drop is expected to have a large permanent component, oil exporters will need fiscal adjustments, with their magnitude and pace varying according to the size of buffers (fiscal vulnerability).
- For some exporters—especially those with external vulnerabilities and/or fiscal policy rigidities—exchange rate flexibility could facilitate adjustment.
- The monetary policy response should be tailored to the domestic cyclical position, inflation expectations, and any external pressures.
- Countries exposed to potential financial strains would benefit from strengthening their macroprudential policy frameworks.
- Lower oil prices underscore the need for real and financial sector reforms to foster diversification of oil exporters’ economies.
- Oil importers, in deciding how much of the windfall to save, should balance rebuilding policy space with managing domestic cyclical risks:
  - Those with significant vulnerabilities should save much of the windfall.
  - Those facing large output gaps should spend it.
- Low oil prices provide a window of opportunity to undertake fuel pricing and taxation reform in both oil-importing and oil-exporting countries to create space for priority expenditures and/or cutting distortionary taxes.
- In a number of low- and middle-income countries, energy sector reforms aimed at broadening access to reliable energy would have important development benefits.

### Nature, drivers, and persistence of the oil price decline
- Oil prices fell by about 50 percent between June 2014 and January 2015.
- Timeline and levels cited:
  - $110 a barrel of Brent oil in June 2014.
  - Declined to $80 a barrel before the OPEC meeting in late November 2014.
  - Fell sharply to below $50 a barrel by early January 2015.
  - Recovered partly to about $65 a barrel in May 2015.
- Medium-term Brent futures:
  - Did not materially drop below the established $90–$100 a barrel range until after the OPEC meeting.
  - Adjusted rapidly to about $70–$75 a barrel after the OPEC meeting.
- Underlying drivers:
  - A large share of the recent oil price decline—likely more than one-half—was due to supply factors.
  - Supply factors included positive non-OPEC developments (especially U.S. shale oil) and better-than-expected OPEC output in Iraq, Libya, and Saudi Arabia.
  - Weaker-than-expected demand stemmed mainly from Europe and Asia.
  - Following OPEC’s late-November decision not to curtail production, prices fell quickly by about 20 percent as market expectations about future OPEC supply changed.
- Empirical model indications:
  - Econometric approaches in recent analysis place a larger weight on supply factors than on demand factors.
  - A daily two-variable model for October 2014–April 2015 attributes roughly Supply (60%) and Demand (40%) to the oil price movement shown in the source.
- Financial investor role:
  - Changes in noncommercial trading have increased over the past decade, and shifts in aggregate noncommercial positions may have exacerbated oil price swings, but strong evidence that speculation drove the 2014–15 movements is hard to find.
  - Examples cited:
    - In late 2014, the net long position of speculative players increased even as oil prices continued to fall.
    - In April 2015, oil prices rebounded despite an oversupplied market; difficult to assess whether financial factors or expectations about future tightening drove the rebound.

### Oil price outlook and uncertainty
- Futures markets predict a gradual increase in Brent oil prices to about $75 a barrel over the next several years, with wide uncertainty.
- Price uncertainty sources include:
  - OPEC supply (strategic behavior and geopolitical factors).
  - Non-OPEC supply (adjustment of unconventional production).
  - Demand (global growth prospects and policies).
- Investment response:
  - Evidence of announced reductions in investment plans by major oil companies and declines in the number of U.S. drilling rigs.
  - With capacity already in place from previous investments, oil production may take time to adjust to the new price environment.
  - Shorter-term investment horizons of nontraditional production may result in quicker adjustment.
- IMF staff modeling:
  - Staff are developing a supply-demand model predicting rising oil prices over the medium term so that sufficient investment takes place to expand supply capacity.
  - Illustrative scenarios show enormous uncertainty around energy efficiency, substitution from oil to other energy sources, and climate change policies.

### Spillovers to other energy commodities
- Natural gas:
  - Prices have moved downward with differentiated regional impacts.
  - Evidence suggests gas prices tend to follow oil prices with a lag, implying further softening possible.
  - Regional notes:
    - North America: expanding shale gas production had pushed down prices well before the oil price decline.
    - Europe: contracts typically indexed to oil prices with a lag; prices have decreased partly due to U.S. coal displaced from electricity generation.
    - Asia: reliance on Middle Eastern LNG and pricing indexed to crude oil; benchmark Asian LNG price elevated since Fukushima but spot prices have decreased dramatically in recent months.
- Coal:
  - Not formally linked to oil prices but has followed oil given substitution opportunities and a common cycle.
  - Coal prices have been declining since early 2011; given they have halved already, room for further downward adjustment from lower oil prices may be limited.

### Pass-through to retail fuel prices and fiscal implications
- Median pass-through:
  - The median pass-through to gasoline and diesel prices was about 50 percent in the second half of 2014.
  - The pass-through was similar to the second half of 2008 (40 percent).
  - Over longer periods, pass-through tends to be higher (for example, the pass-through was 80 percent between end-2008 and mid-2014).
  - Pass-through for kerosene was less than 30 percent (estimate based on a smaller sample).
- Regional and cross-country patterns:
  - Wide differences across regions: Middle East and sub-Saharan Africa had the lowest pass-through; Europe had the highest median pass-through.
  - Advanced economies tend to have higher pass-through than emerging markets and developing countries.
  - Large differences within regions reflect discretionary policy responses and fuel pricing reforms; examples include negative pass-through (domestic prices rose) in Ghana, Angola, and Cameroon, and higher-than-median pass-through in Zambia and Guinea-Bissau.
- Net fuel taxes and fiscal savings:
  - Net fuel taxes rose in 2014, reflecting partial adjustment in domestic prices, across all regions except Europe.
  - In the Middle East and Central Asia, median net fuel taxes on major fuel products (diesel and gasoline) turned slightly positive by end-2014—still, net taxes remained the lowest.
  - Fiscal savings estimates reflect changes in both explicit and implicit subsidies (or taxes) and not just budgetary subsidies.
  - Potentially large fiscal savings if pass-through remains low; Middle East countries with low retail prices could potentially generate the largest fiscal savings.
  - Several countries (for example, Iran, Venezuela, and Croatia) have high costs associated with low fuel prices—more than 2 percent of GDP.
  - However, fiscal savings could be partly reversed if there is no policy action; in countries with regulated prices, savings could vanish (at least partially) when oil prices rebound.
- Distributional and macro implications:
  - With limited pass-through, some real income gains accrue to the government or energy companies rather than households and end users.
  - If no price pass-through and government or energy companies save all windfall gains, there would be no transmission to demand channels, though benefits could occur via lower government borrowing costs, improved financial balance sheets, and confidence effects.

### Macroeconomic transmission and policy choices
- The full global economic impact depends on:
  - Nature and magnitude of the oil price decline.
  - Size of the price decline experienced by oil users (extent of pass-through).
  - Whether the price decline is a shock causing changes in global activity or a response to other shocks.
  - Persistence of the decline (temporary vs permanent).
- For temporary declines:
  - Real income gains in advanced oil-importing countries accrue mainly to the private sector and will mostly be saved.
  - Real income losses in oil exporters accrue mainly to the public sector and will often lead to increased borrowing.
- For permanent declines:
  - Spending patterns and fiscal policy need to adjust.
  - In oil exporters, fiscal and external positions can deteriorate substantially; the extent and pace of fiscal adjustment and possible exchange rate adjustment are critical.
- Financial channels:
  - In oil importers, higher savings—public or private—could boost activity via lower interest rates and lower country risk premiums.
  - Conversely, adverse effects on corporate balance sheets in the oil and financial sectors and on fiscal positions in oil exporters could raise country risk premiums and cost of credit, dampening activity.
- Policy questions highlighted:
  - How much of the oil price windfall should governments save when fiscal positions are weak or output is below potential?
  - In oil exporters, the extent and pace of fiscal adjustment to restore macro balances and the role of exchange rate adjustment.

*Source: International Monetary Fund, “GLOBAL IMPLICATIONS OF LOWER OIL PRICES,” chapter and sections as provided in the source content.*

### Box 1. Price Pass-Through in Sub-Saharan Africa and Western Hemisphere Countries

### Box 1. Price Pass-Through in Sub-Saharan Africa and Western Hemisphere Countries

### Price adjustment regimes and pass-through: Sub-Saharan Africa (AFR)
- Slightly more than half of African countries regulate fuel prices in a discretionary way.
- 40 percent rely on automatic adjustment formulas.
- Retail prices fell in most countries in the second half of 2014, but at a slower pace than the drop in international prices.
- In some countries (Angola, Cameroon, Ghana, and Madagascar), domestic prices rose in the context of fuel pricing reforms.
- Pass-through among net oil exporters was smaller (close to zero).
- Sample: 69 countries from AFR (35) and WHD (34).

### Price adjustment regimes and pass-through: Western Hemisphere (WHD)
- About one-third of WHD countries allow domestic fuel prices to be fully market determined.
- The remainder are split between countries with discretionary price adjustment and those where prices are adjusted through a formula.
- In addition to countries with market determined prices, about one-quarter of countries in the regulated-prices category (for example, Chile, Costa Rica, and Guatemala) are also expected to allow full pass-through.
- Overall expectation: about two-thirds of countries in the region will allow a full pass-through by December 2015.
- WHD sample used for pass-through expectations: 25 countries (April 2015) and 22 countries (December 2015).
- WHD countries allowing only limited or no pass-through primarily comprise net oil exporters where a state-owned oil company maintains a large or sole presence and lower oil prices accrue mostly to the public sector.

### Country-level subsidy and pricing reforms: selected cases
- Mexico
  - Maintains a system of variable excises that turn into a subsidy when international fuel prices are high and into a tax when prices are low.
  - There have been no fuel subsidies in Mexico since December 2014.
  - The increase in fiscal revenues from these excises offsets an important fraction of the decline in export-related fiscal revenues.
  - Mexican authorities plan to fully liberalize domestic fuel prices in 2018.
- Jordan (NEPCO)
  - NEPCO’s losses were expected to decline from 4½ percent of GDP in 2014 to 3½ percent of GDP in 2015 following a tariff increase and the start of operations of the LNG terminal.
  - Thanks to the fall in oil prices, additional savings of about 1½ percent of GDP in 2015 are expected.
  - Medium-term energy strategy: tariff increases, diversification of energy sources, and measures to enhance efficiency aimed at returning the company to cost recovery.
- Egypt
  - Prior to reform, in 2013/14 the budgetary cost of untargeted energy subsidies was more than 6 percent of GDP.
  - Authorities decided in July 2014 to drastically raise domestic prices on a range of fuel products.
  - The measure is expected to deliver budget savings of about 2 percent of GDP for 2014/15.
  - Authorities intend to totally eliminate energy subsidies over the next five years, except for those for liquefied pure gas, which are targeted to the poor.
- Sudan
  - Government sharply raised domestic fuel prices in late 2013, reducing subsidies by more than 1 percent of GDP in 2014.
  - The decline in international oil prices will further reduce those subsidies, which the authorities plan to eliminate by 2019.

### Macroeconomic simulation scenarios and global implications
- Scenario assumptions on drivers and magnitude of the oil price decline:
  - Strong evidence of an important supply component in the large oil price decline since June 2014.
  - Scenarios calibrated so the oil price path matches the difference between the oil price baseline assumptions in the April 2015 WEO and the October 2014 WEO: 40 percent lower in 2015, moderating gradually to about 20 percent by 2020.
- Two G-20 model scenarios differ in pass-through assumptions:
  - Full pass-through scenario: decline in world oil prices is passed on fully to households and firms in all countries (stylized reference).
  - Incomplete pass-through scenario: replicates current pricing regimes—complete pass-through in advanced economies; incomplete pass-through in most emerging market and developing economies and in oil producers.
- Key simulation results and implications:
  - If the decline in global oil prices since August 2014 were to fully pass through to domestic end-user prices, global GDP—excluding those countries in which oil supply is increasing—would rise by roughly 1 percent in the first two years.
  - If the decline fails to fully pass through and the resulting increase in fiscal revenue is saved, the increase in global GDP would be reduced by almost half.
  - In countries with managed retail prices, the boost to growth can be much more modest (examples shown for China and India).
  - The growth effect would be larger if governments used windfalls to cut distortionary taxes or make efficient investments.
  - More limited pass-through would also moderate the impact on global inflation, albeit by a relatively small margin.
- Factors explaining muted projections despite simulations showing potential boosts:
  - Other shocks (e.g., Ukraine conflict implications for Russia, fiscal consolidation effects in Japan, deceleration in China, conflicts in Middle East) can offset positive impacts of a supply-driven oil price shock.
  - Initial conditions: unresolved balance sheet strains can lead households and firms to use windfalls to retire debt rather than spend.
  - Policy responses: governments or state-owned energy companies may save oil windfall gains, increasing national savings and improving fiscal positions without boosting domestic demand.
- Model and scope notes:
  - Simulations use IMF’s G-20 Model and reflect empirical evidence on household and business responses and feedbacks between oil prices and global economic developments.
  - For simulation simplicity, the assumed oil price decline is driven by an increase in oil supply; simulations do not account for the implications of demand-driven declines or exchange rate effects beyond adjusting domestic-currency oil prices for bilateral U.S. dollar exchange rate changes since August 2014.
  - Global GDP and inflation results in simulations exclude other oil exporters listed in the note.

*Source: IMF staff calculations and IMF, G20 Model simulations, as presented in the IMF paper.*

### Box 5. Macroeconomic Effects of Lower Oil Prices in the Asia and Pacific Region

### Box 5. Macroeconomic Effects of Lower Oil Prices in the Asia and Pacific Region

### Counterfactual forecasting exercise and regional macro effects
- IMF staff revised their October 2014 macroeconomic forecasts under the assumption that the oil price decline was the only change in assumptions; all other assumptions remained the same as for the October projections.
- Key findings:
  - The increase in both private and public net saving ratios is striking.
  - Growth is broadly unchanged because a sizable part of the windfall to net oil (and commodity) importers is expected to be saved, increasing current account surpluses.
- Chart metrics (deviation from October 2014 WEO as a result of the January 2015 WEO update’s oil price baseline):
  - Variables shown: GDP Growth; S-I (public); S-I (private); Inflation.
  - Groups shown: Net oil importers (Simple average, Weighted average, Max, Min); Commodity exporters (Simple average, Weighted average, Max, Min).

*Source: IMF staff estimates.*

### Financial sector implications: overview
- Three potential sources of financial vulnerabilities:
  - A self-reinforcing cycle of rising credit risk and deteriorating refinancing conditions for countries and companies with substantial exposures to the oil sector.
  - A decline in oil-related financial surplus recycling in global funding markets.
  - Strains in the ability of financial market infrastructure to accommodate a prolonged period of heightened energy price volatility.
- Overall assessment: financial sector implications appear manageable, but there are downside risks; the impact has already re-priced countries and companies dependent on oil revenues, especially those with existing vulnerabilities.

### A. Amplification of credit risk
- Observed market reactions:
  - Risk premiums on oil-revenue-dependent countries and companies have widened since summer 2014 (bond spreads, equity prices, currency movements).
  - Default dynamics: corporate defaults in the energy sector have tended to pick up with a lag of about 12 months.
  - The oil price downdraft accelerated in September 2014—at which point Brent and WTI prices were still above $100 per barrel—so corporate-sector aftershocks may yet remain.
- Country refinancing risk:
  - Fiscal breakeven prices vary widely across oil-producing emerging markets: US$57 per barrel for Kuwait, US$206 per barrel for Libya.
  - U.S.-dollar-based bond spreads for emerging market oil-exporting countries have widened materially in many—but not all—cases since summer 2014.
  - Local currency depreciation could raise inflation where expectations are not well anchored, raising sovereign risk premia, although depreciation may improve exporters’ fiscal positions.
- Corporate refinancing in the energy sector:
  - Outstanding worldwide notional value of bank loans and corporate debt extended to the energy sector: about US$3 trillion.
  - Of that, US$247 billion is attributable to the U.S. high-yield bond market alone.
  - Global issuance in 2014 was substantially higher than during the previous cycle peak in 2007.
  - The leveraged (high-yield) share of syndicated oil and gas loan issuance increased from 17 percent in 2006 to 45 percent in 2014.
  - Majority of global systemically important banks appear to have about 2–4 percent of total loan book exposure to the energy sector, though some emerging market and U.S. regional banks reportedly have much higher exposures.
  - Financing drying up expected to lead to cuts in capital expenditure by companies of 10–15 percent in 2015, possibly lowering future oil production.
- Regional spillovers:
  - In some Caucasus and Central Asia countries, declines in remittance flows from oil-producing countries have contributed to exchange rate pressures and banking-sector financial stability risks.
  - In the Middle East and North Africa, oil price declines led to broad-based declines in stock prices of oil-exporting countries and drawdowns of government deposits in commercial banks.

### B. Oil surplus and global liquidity
- Accumulation and potential reversal:
  - Foreign exchange reserves accumulated by net oil-exporting countries increased US$1.1 trillion, or almost fivefold, over the past decade.
  - These funds account for about 15 percent of the cumulative rise in world foreign exchange reserves since 2004.
- Deposits and holdings:
  - Deposits from oil-exporting countries in banks reporting to the BIS have doubled to US$972 billion since 2004.
  - This group (private and public sector) now holds more than US$2 trillion in U.S. assets, split as:
    - Equities: US$1.3 trillion
    - Treasuries: US$580 billion
    - Credit: US$230 billion
    - Debt instruments issued by U.S. government-sponsored enterprises: US$21 billion
- Recent and prospective adjustments:
  - Following an US$88 billion contraction in oil exporter reserves in 2014, further significant declines in 2015 are to be expected given the oil price outlook.
  - Decline in investable oil surpluses is part of global rebalancing and could be counterbalanced by wealth gains for oil importers, but redistribution among agents with different savings and portfolio preferences may create market repercussions.
  - The rebalancing could result in modest upward pressures on global long-term real interest rates.

### C. Strains on financial infrastructure
- Market structure changes:
  - Noncommercial (speculative) investors held about 45 percent of WTI futures contracts in 2014, about three times their share during the 1990s.
  - Exchange-traded products based on oil and other commodities have risen in size, making the asset class accessible to retail investors.
  - Banks have retreated from market-making and structuring roles in energy markets; trading shifted toward centrally cleared contracts and physical commodity trading houses.
- Risks and observed adjustments:
  - Concern that heavy selling plus reduced bank capacity to accommodate volumes could cause disorderly market conditions.
  - Net investment positions of noncommercial investors in oil futures were cut by nearly half during the second half of 2014.
  - Prospectuses in early 2015 suggest U.S. high-yield bond funds adopted an underweight position in energy vis-à-vis benchmarks.
  - Assets under management in commodity funds and commodity-linked exchange traded products have nearly halved from their 2010 peak levels.
- Market functioning assessment:
  - No evidence that unwinding of oil market positions has led to dislocations in market functioning.
  - Measures of intraday volatility are within historical norms.
  - Forward-looking implied volatility increased to levels recorded in 2011–12, but remain well below 2008 levels.
  - Commodity exchanges continue to manage counterparty risk and heightened volatility via changes in margining requirements and circuit breakers; financial intermediaries should stay alert for threats to market functioning.

### VI. Policy response to low oil prices — framework and recommendations
- Policy framework basis:
  - Appropriate mix of fiscal, monetary, and exchange rate policies depends on size/direction of terms-of-trade shock, exchange rate regime, fiscal and external buffers, balance sheet mismatches, exchange rate valuation, output gap, and inflation.
  - A flexible framework (Venn diagram) frames choices through fiscal vulnerabilities, external vulnerabilities, and the cyclical position.
- A. Oil exporters — priorities and options
  - General guidance:
    - Since the oil price drop is expected to have a large permanent component, focus on fiscal adjustment supported by stronger medium-term fiscal frameworks.
    - Speed and extent of adjustment depend on size of buffers and scale of oil reserves.
    - Exporters with external vulnerabilities should consider depreciation and/or greater exchange rate flexibility.
    - Countries with potential financial strains should strengthen macroprudential policy frameworks.
  - Specific policy stances by country position:
    - Countries outside the Venn space with comfortable fiscal and external buffers and limited policy risks can adjust gradually and use buffers to smooth the transition (example: Norway).
    - Countries at the center of the Venn should start adjusting policies briskly and immediately (example: Venezuela); policy choices diverge by exchange rate regime:
      - Flexible exchange rate regimes help partly mitigate external and fiscal impacts if there are no major foreign exchange balance-sheet mismatches.
      - Fixed exchange rate regimes would need to considerably tighten macro policies (especially fiscal) to maintain the peg; moving to a different nominal anchor could reduce adjustment costs in some cases.
    - Countries with sizable fiscal buffers can consolidate gradually over the medium term and possibly ease fiscal policy in the short run to minimize negative growth impacts; if inflationary pressures or external vulnerabilities exist, monetary policy must remain tight.
    - Some countries (e.g., several GCC members) should maintain currency pegs, formulate medium-term fiscal consolidation plans early, and adjust pace gradually in line with buffer sizes; low government debt could facilitate issuance of government securities to develop local bond markets.
- B. Oil importers — priorities and options
  - Core question: how much of the windfall to save where retail prices do not adjust automatically.
  - General effects of lower oil prices: improve household real incomes, corporate profits in non-oil sector, and fiscal positions where energy subsidies are large.
  - Venn guidance: the higher the vulnerabilities and the more advanced the business cycle, the more of the windfall should be saved to rebuild buffers and slow aggregate demand impact.
  - Policy prescriptions by situation:
    - Countries outside the Venn with a negative output gap: allow domestic demand to rise by the full amount of the windfall; lower energy prices provide a window to increase energy taxation while reducing other distortionary taxes or raising priority spending.
    - Countries with fiscal and external vulnerabilities (example: Egypt): prioritize saving the fiscal windfall from lower energy subsidies to improve fiscal and external sustainability, reduce public debt, and increase international reserves; consider raising energy taxes to improve fiscal positions and compensate for negative externalities.
    - Oil importers facing deflationary risks: do not save any of the windfall (when the windfall accrues to the private sector there is no need for active public saving); ensure inflation expectations remain anchored and, if needed, use unconventional monetary policy.
    - Emerging market economies and low-income countries with policy space: spend part or all of windfalls on longer-term growth-enhancing spending (infrastructure, education, tax cuts).
  - Use the period of lower oil prices to strengthen credibility of monetary policy frameworks; evidence of second-round disinflationary effects could open space to reduce policy rates in some countries.
- C. Medium-term policies (especially for exporters)
  - Recommended structural reforms and priorities:
    - Fiscal consolidation and frameworks: recalibrate fiscal policies to lower oil prices with adjustment speed driven by vulnerabilities; favor growth, equity, and noncommodity-sector development; establish or enhance medium-term fiscal frameworks.
      - From 33 oil exporters reviewed for this paper, only 13 have some form of a fiscal rule, of which only 5 oil exporters explicitly incorporate rules related to oil prices.
    - Diversification: pursue real and financial sector reforms to strengthen the private sector and boost non-oil growth.
    - Financial sector policies: strengthen liquidity management, enhance early-warning systems, address concentration risks, and deepen the financial sector.
    - More flexible exchange rate regime: consider greater flexibility where feasible; decision depends on capacity for independent monetary policy, credibility of peg, financial depth, economic diversification, and fiscal policy flexibility. In some cases exchange rate shifts have limited role where non-oil sector is small and imports/services by foreign workers are large.
    - Reform of energy prices and taxation: take advantage of lower oil prices to remove distortions such as fuel subsidies and consider increasing energy prices/taxes where appropriate; targeted mitigation measures and communication strategies are crucial.
    - Other considerations: improve fiscal transparency (including exposing quasi-fiscal activities of energy-sector state-owned enterprises); monitor inflation expectations in advanced oil importers; consider distributional effects of policies.

*Italic source attribution: Source: IMF staff estimates and analysis as presented in Box 5 of the provided document.*

### Box 6. Energy Price Reform

### Box 6. Energy Price Reform

### Window of opportunity from low oil prices
- The low oil prices open a window of opportunity to increase domestic energy prices toward international levels and avoid a large gap reopening in the future.
- Both oil exporters and oil importers should work toward fully liberalizing domestic prices or adopting automatic pricing formulas to lock in the savings.
- The use of targeted transfers, financed with fiscal savings from higher fuel prices, would protect the most vulnerable groups.
- The IMF offers a free online course on energy subsidy reform (footnote referenced in the source).

### Policy recommendations
- Liberalize domestic energy prices or adopt automatic pricing formulas to align domestic prices with international/opportunity costs.
- Use targeted transfers financed by fiscal savings from higher fuel prices to protect vulnerable groups.
- Consider increasing energy taxes in many countries for revenue and environmental reasons:
  - Strengthening the fiscal position: resources could be used to reduce fiscal vulnerabilities or to finance key spending priorities (for example, social or investment).
  - In countries with high unemployment, reductions in labor taxation could be financed through higher taxation of fuel products.
  - Limiting negative spillovers (for example, environmental costs and inefficiencies) which are typically larger where fuel products are cheaper due to higher consumption.

### Economic rationale and externalities
- Pre-tax subsidies arise when consumer prices are below the opportunity/supply cost.
- For tradable energy (petroleum products, natural gas, coal), opportunity cost equals the international price; for nontraded products, the supply cost is the domestic recovery cost evaluated at efficient prices (as described in the cited work).
- Local externalities include health risks due to air pollution; global externality includes climate change.

### Key quantitative estimates and costs
- The “pre-tax subsidies” amount to some $330 billion globally.
- “Post-tax subsidies,” which also include the health effects of local pollution, costs of traffic congestion, impact of global warming, and other factors, are estimated by Coady and others (2015) at $5.3 trillion.
- While subject to substantial uncertainty, these magnitudes highlight the need for urgent policy action.

### Budget transparency and state-owned enterprises
- Budget documents should reflect the true size of implicit and explicit fuel subsidies, allowing a more transparent analysis of trade-offs between budget priorities.
- Greater transparency of accounts of energy-related state-owned enterprises will help ensure that the portion of the windfall that accrues to them is utilized consistently with the overall fiscal strategy.

*Source: Box 6. Energy Price Reform (excerpt) from the IMF PDF chapter.*

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_Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/sdn/2015/_sdn1515.pdf_