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China Provides Another Threat To Oil Prices

China Provides Another Threat To Oil Prices

First it was a stock market meltdown, now it’s a weakening currency.

China continues to present significant risks to the oil market. On August 11, China decided to devalue its currency in an effort to keep its export-driven economy competitive. The yuan fell 1.9 percent on Tuesday, the second largest single-day decline in over 20 years. The yuan dropped by another 1 percent on Wednesday. Related: Bullish Bets On Oil Go Sour

The currency move followed shocking data that revealed that China’s exports plummeted by 8 percent in July. A depreciation of the currency of 3 percent will provide a jolt to Chinese exporters, but will slam companies and countries that export to China.

China insisted that the devaluation was a “one-off” event. “Looking at the international and domestic economic situation, currently there is no basis for a sustained depreciation trend for the yuan,” the People’s Bank of China said in a statement. Related: When Will Oil Prices Turn Around?

But it also appears to be a move to allow the currency to float more freely according to market principles, something that the IMF has welcomed. “Greater exchange rate flexibility is important for China as it strives to give market-forces a decisive role in the economy and is rapidly integrating into global financial markets,” the IMF said. Although there is still quite a ways to go, the move is also seen as a prerequisite for the yuan to achieve reserve-currency status.

For oil, the move has raised concerns that oil demand will take a hit. China is the world’s largest importer of crude, and a devalued currency will make oil more expensive. On August 11, oil prices dropped to fresh six-year lows, surpassing oil’s low point from earlier this year. But with China’s economy – once the engine of global growth – suddenly looking fragile, it would be difficult to argue with any certainty that oil has hit a bottom. Related: The Oil Price: How Low Is Low?

China’s economic growth was already slowing, but its GDP growth rate could dip below 7 percent this year, and drop to 6.5 percent in 2016. The EIA estimates that WTI will average just $49 per barrel in 2015, and $54 next year, an acknowledgement that the recent downturn in oil prices may last longer than expected.

The news came on top of new data showing that OPEC is significantly exceeding its stated quota of 30 million barrels per day (mb/d). According to OPEC, the group is pumping more than 31.5 mb/d, with large production gains achieved from Iraq, Iran, and Angola.

By Charles Kennedy of Oilprice.com

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