Understanding what causes the price of oil to fluctuate can oftentimes be a confusing subject for those outside of the commodities market. There are a number of factors that affect the price of oil in both the U.S. and abroad, understanding the intricacies of oil pricing can help investors better time their investments in this high-demand commodity.
OPEC and Global Oil Supply and Demand
Oil prices are driven by global changes in supply and demand along with a number of other geopolitical factors. Worldwide oil production is controlled by OPEC – the Organization of the Petroleum Exporting Countries, which aims to keep a stable price-per-barrel for crude oil. OPEC’s goal over the past decade has been to keep the price of oil around $30/barrel however major global events have made this task increasingly difficult over time.
Hurricane Katrina and Oil Prices
Wars, recessions, and devastating weather are the main external factors that can affect oil prices. In 2005 Hurricane Katrina halted oil production along the Southern Gulf Coast of the United States. As supply was precipitously cut, and demand remained the same, oil prices increased to over $70 a barrel in a short period of time. As prices at the pump peaked, President Bush released 30 million barrels from the Strategic Petroleum Reserve (SPR) bringing the price of oil back down.
War and Oil Prices
Political instability in the Middle East has caused great concern about access to oil given that this region accounts for a large amount of the worlds oil supply. In July of 2008 oil prices reached over $136 a barrel due to global concerns about the wars in both Iraq and Afghanistan. One of the main reasons that oil prices rose so precipitously during this time period was due to the fact that suppliers were unable to convince buyers that they would be able to properly deliver oil.
When oil prices rise to these levels the American consumer then cuts back on driving in order to save money. This in turn decreases demand, which begins to drive the price of oil down. These are the basic laws of supply and demand that dictate the price of oil and illustrate the complex relationship between consumers and producers.
How the recession affects Oil Prices
In a recession there are a number of factors that can decrease demand for oil which causes the price of oil to drop. First, as consumers cut-back on their expenses driving is oftentimes one of the first expenses that will be cut. Many employers, understanding the financial strain their employees are under during a recession will oftentimes allow employees to work from home one or two days a week. This reduction in driving as a means to save money decreases oil demand and thus reduces oil prices.
Another factor that affects oil prices in a recession is decreased demand for products. As consumers decrease spending, demand for oil also decreases as fewer products are shipped from manufacturers to consumer countries. Stores like Best Buy see less people buying televisions, stereos, etc. and in-turn reduce their forecasts with suppliers. This creates less demand for the shipment of goods which reduces demand for oil.
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