IMF Survey: Global Economy Learns to Absorb Oil Price Hikes
IMF News, May 25, 2012
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- Authors: Jorg Decressin IMF Research Department May
- Published: May 25, 2012
Key overview
- Despite a fourfold increase in oil prices over the past decade, the world has absorbed the price hikes with relatively little disruption due to fundamental changes in the workings of the global economy, and the use of macroeconomic policy to mitigate the effects of rises.
- Sharp price hikes due to supply disruptions remain a concern; supply disruptions could upset growth in the U.S. and Europe.
- During the current economic downturn, the price of oil hit over $100 a barrel, and prices rose close to levels only seen in the 1970s. But the increases have not triggered global recessions as they did in the 1970s and 80s.
IMF research: five underlying factors supporting resilience
- Stronger demand
- Recent price increases since 2000 have been driven largely by stronger-than-expected demand from emerging market economies rather than largely by sharp disruptions to world supply as in the 1970s and 1980s.
- Strong growth of emerging markets has raised living standards and increased their demand for products made abroad; a side-effect may be higher oil prices but not derailing overall benefits of increased growth.
- Central bank policies
- Central banks and economies have become more adept at dealing with price shocks; headline inflation temporarily increases after an oil price increase, but nominal wages hardly respond.
- Workers have grown to expect temporary rises in headline inflation; many oil-importing economies with strong central banks have experienced little impact on core inflation and wage increases, allowing central banks to support recovery rather than raising interest rates.
- Recycling the benefits of oil profits
- Revenues from oil exports are flowing back to oil-importing economies, helping bring down interest rates for households and firms and supporting investment and growth.
- Greater efficiency
- The amount of energy it takes to produce a dollar of income has been steadily declining for 40 years; this decline in energy intensity is expected to continue.
- Major emerging markets are becoming more efficient in the use of energy; by 2030, the major regions of the world—the United States, China, and India—are projected to have the same energy intensity.
- Diversification
- Countries import energy from many more places and use more varied forms of energy than in the 1970s, reducing vulnerability to any one supplier.
- The United States buys crude oil and gasoline from more than 40 countries and jet fuel from more than 25 countries.
- Norway, Qatar, Turkmenistan, Nigeria, Egypt, and Australia are cited as important natural gas exporters or new producers.
- By 2030, oil, coal, and gas are predicted to each have a 30 percent world market share, with hydro, nuclear and renewables accounting for the remaining 10 percent.
Oil supply risks and potential impacts
- Despite reduced impact of high oil prices in recent years, large, abrupt price changes—particularly from supply disruptions—remain difficult to absorb.
- Short-term concerns center on Iran, described as the fifth largest world producer and third largest exporter; supply from Iran is expected to drop during the second half of this year in response to international sanctions.
- Market prices may anticipate impending drops in supply while other producers may react by increasing output; Saudi Arabia has already increased production to a 30-year high in response to recent disruptions.
- Effects of major supply disruptions are particularly damaging because there is limited spare capacity to increase oil production and inventory levels in importing countries are low.
- Higher oil prices raise the cost of fertilizers and thus the cost of food, a development that has already occurred over the past decade and raises special challenges for the poorest economies.
- Some poorest economies have become major oil exporters and are less exposed; others may need to build up social safety nets to reach those most in need.
Response of oil suppliers and market dynamics
- The response by oil suppliers to higher prices has been slow despite many years of rising and high prices; bringing additional oil capacity to the market remains a challenge because of geology, geography, technology, and regulation.
- If oil prices increase fairly gradually in response to scarcity, developments of the past decade suggest the global economy should be able to cope without major output losses, as noted in the April 2012 World Economic Outlook.
- Fears of oil scarcity (the geological view of binding constraints on oil supplies) may amplify price gyrations because market participants give some credence to such views.
Simulations, liquidity-trap concerns, and policy implications
- Simulations of the IMF’s large-scale models show that oil supply disruptions would reduce growth in the United States and Europe, an unwelcome prospect given already weak conditions in those economies.
- An additional worry is that oil price increases due to stronger demand from emerging markets may have negative, short-run effects if increased incomes and savings of oil exporters are not recycled immediately or fully into increased demand for goods produced by oil-importing countries.
- Under normal conditions, higher savings in oil exporters lower global interest rates and boost interest-sensitive demand in oil-importing countries; in the current situation, where global interest rates are low, increased global savings are of little help, and oil price spikes are more unwelcome.
- Many oil exporters are spending an unusually large amount of their revenues on imports of goods and services to improve social conditions, thereby supporting themselves and the global economy.
Source: IMF Survey: Global Economy Learns to Absorb Oil Price Hikes (May 25, 2012), IMF Research Department