What factors determine international crude oil prices?

What are some of the key commodities across the globe that are guarded and monitored heavily? The topmost answer to this question is crude. This single moist commodity is capable of making or breaking an economy. The country that dominates the crude oil market in terms of supply can be seen flourishing. The middle east countries, The USA, Russia, etc., all these countries are major suppliers of crude oil and the strength of these economies reflects the importance of this commodity in the world markets. 

In the recent past, crude oil prices have come a full circle from bottoming out in the Covid era to breaking all the records and reaching new heights. But who decides the crude oil prices. Fortunately, this decision is not based in the hands of a single country or person, imagine the kind of power it can wield across the world!. 

Let us understand hereunder the pricing policy of crude oil and the market dynamics relating to the same. 

Why is monitoring crude prices important for an economy?

First, let us understand why crude is a crucial commodity for any country and why monitoring its prices is essential for its growth and survival. 

Take the case of Sri Lanka, we have all seen how the country’s economy is in shambles today and while crude oil is not a dominant factor for the same, it is nonetheless a contributor. The rising crude oil prices have a trickling effect on the prices of every other commodity in the market as the transport costs for the suppliers increase and therefore, it is a large contributor to the rising inflation. 

Similarly for any economy, control of the crude oil prices is important to control inflation. In India, when the fuel prices had gone beyond Rs. 100 a liter, it had created a huge impact on the daily lives of the citizens and was the cause of major protests and general discontent. The government to counter this reduced the indirect taxes which had created a huge dent in its revenue but was necessary to control the rising inflation that will ultimately hurt the pockets of the common citizen. 

What are the types of crude oil in the market?

Most of us think crude oil is a single commodity that is majorly controlled by the oil-producing middle east countries. 

However, there are two types of crude oil available in the market. These are the Brent crude oil and West Texas Intermediate (WTI). Brent crude oil is more popular across the globe and the latter is a benchmark for the USA. with the rising contribution of the USA to the global crude oil supply, WTI is gaining more popularity but for it to become the dominant benchmark is a long way to go. 

What are the factors affecting crude oil prices?

After understanding the importance and the available options of crude oil in the market, let us now focus on the factors that affect its prices. Some of the key factors that influence global crude oil prices are highlighted below.

1. Demand and supply of crude oil

Like any commodity, crude oil pricing is also heavily dependent on its demand and supply dynamics. The demand for crude oil as we know is quite strong but when this demand reaches extreme levels and is unable to match the overall supply available in the market, the crude oil prices are corrected and increased so the demand automatically reduces. Also when the market is flushed with the supply of crude oil and the demand is lower the prices of the crude oil are slashed so the demand and consumption go up (for example, when the crude oil prices were slashed to never seen before levels after the severe lockdowns across the world owing to covid pandemic). 

2. Production of crude oil

The production of crude oil is dominated by the countries having the largest oil reserves across the world. Few countries have managed to utilize their production more efficiently and have a lower reserve-to-production ratio. On the other hand, a few countries are now facing depleting reserves on account of high production rates. When the overall production of crude fluctuates, it affects its supply in the market thereby influencing its prices.  

3. OPEC

OPEC refers to the Organization of Petroleum Exporting Countries and is formed by a few Middle East countries and a couple of countries in the African Continent. This organization was formed in 1960 and presently has 13 member countries. This organization controls approximately 44% of the global oil production and approximately 81% of the proven oil reserves. This gives them an upper hand and a greater influence on the production and supply of crude oil in the world and thereby affecting their overall prices.

4. Speculators and brokers and prices in the futures market

Crude oil is a heavily traded commodity in the world and the speculators and brokers of the market as well as the prices of the commodity in the futures market have a great deal of influence on crude oil prices. The prices of crude oil in the open market are essentially the result of its prices in the forward market and the market sentiment. The speculators and brokers take advantage of the market sentiment and tap into the trading opportunities which further influence the global crude oil prices.

5. Economic growth

China and India are some of the biggest consumers of crude oil. These are emerging economies and the rising infrastructure and manufacturing in such economies give rise to the growing demand for this commodity. Crude is the backbone of the growth and progress of a country and it is also an unavoidable expense. Even European countries and developed countries like the USA, UK, and Australia focus on their energy security despite being developed economies.

6. Rising importance of cleaner energy resources

The world has since long realized the devastating impact of carbon-emitting fuels on the climate and the planet as a whole and has therefore tried to gradually move away from fossil fuels towards cleaner and renewable energy. These fossil fuels are limited natural resources in the world and are rapidly depleting. Therefore the need for alternative energy sources is quite urgent. 

The automobile industry is one of the dominant sectors with a huge carbon footprint and consequently, the use of electric vehicles is increasing steadily across the globe. Countries like Norway have become an example where electric 2-wheelers and 4-wheelers are now dominant in the auto sector. This has been a consistently contributing factor in affecting the demand for crude. 

7. Other factors like war & unrest

Apart from these key factors mentioned above, the prices of crude oils are also affected by a few other factors like any natural calamities that disrupt the production or supply of crude oil across the globe. Another factor that the world is currently facing and is a driving force for crude oil prices is the ongoing war between Russia and Ukraine. The war has resulted in disruption of the supply chain which is a huge contributor to driving the crude oil prices to all-time high levels.

Conclusion

Crude oil is one of the strongest commodities that have an influence on the prices of other commodities in a country. Therefore, these prices must be kept in check. In a country like India where a major chunk of our foreign reserves is spent on crude oil imports, understanding the dynamics of its pricing and keeping a check on the same is crucial. 

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