What is driving oil prices so high?


Oil prices have surged to record highs above $88 a barrel. Prices have more than quadrupled since 2002 and are currently 40% higher than at the start of the year. What factors are causing this unremitting increase and what are the likely consequences for consumers and the global economy?

Why is causing the latest price spike?
This has been triggered by simmering tensions between Turkey and Kurdish separatists in northern Iraq. Analysts are worried about the consequences of possible incursions by Turkish troops into Iraq. The Turkish government has sought parliamentary authority to launch attacks against Kurdish militants, who have long sought their own independent homeland. The amount of oil produced in northern Iraq is actually very small while the major pipeline linking the Iraqi town of Kirkuk, just south of the Kurdish region, with Turkey has been shut for long periods since the 2003 invasion of Iraq. But it is fears that the dispute may escalate and threaten oil output in the wider region - Iraq, Iran, Kuwait and Saudi Arabia between them account for 20% of global supplies - which have fanned the price rises. In particular, there are concerns about potential Kurdish reprisals on an important pipeline in Turkey, which delivers 700,000 barrels a day from Azerbaijan to the port of Ceyhan.

The situation in northern Iraq is just one of a number of geopolitical factors which are causing uncertainty in the market and helping to push prices up. Iran’s push to acquire nuclear power and, many believe, nuclear weapons has sparked concerns it could use its own oil supplies as a bargaining chip in any future showdown. Barely-veiled threats from the US, suggesting that military action remains a live option, have further accentuated fears. Militant violence in Nigeria’s largest oil-producing region, where kidnappings of foreign oil workers have become common, has also served to inflate prices.

Is demand for oil continuing to soar?
Yes. The biggest catalyst for oil’s seemingly remorseless rise has been the simplest economic driver there is: the balance between demand and supply. Demand is at an all-time high, fuelled by the continued breakneck economic expansion of the Indian and Chinese economies. With more than a billion people in each country, and sustained growth rates of 8% in India and 10% in China, manufacturers and consumers are sucking in energy at an ever-increasing rate. China overtook Japan as the world’s second-largest consumer of oil in 2003 and is closing in on the US, with demand for oil growing at about 15% a year. Analysts worry global demand for oil is so intense that supplies may not keep pace. Demand will rise by an average of 2.2 million barrels a day next year, the International Energy Agency says, compared with the 1.5 million-barrel rise seen in 2007. It says annual demand will rise 2% up to 2012, while other projections suggest demand could soar from about 90 million barrels a day to as much as 140 million over 25 years.

What is Opec doing about the situation?
As the leading oil supplier in the world, producers’ cartel Opec is under constant pressure to do something about the price bubble. It recently bowed to pressure to pump more oil, agreeing to raise its production quotas by 500,000 barrels a day from 1 November. Reports suggest the move was forced through by Saudi Arabia and that few other Opec members either have much stomach for increasing output or much capacity to spare. Opec has said the market is “very well supplied” with crude and will continue to be so in the immediate future. It has blamed speculation by market traders - who can make money by betting on the future direction of prices - for the continuing price rises.

Critics of Opec say it must act more aggressively to bring prices down. “The response from Opec has been pretty poor so far,” says John Roberts, an energy security analyst with commodities research firm Platt’s. “The sentiment in the market is that it is time for Opec to increase production again.”

Who are the winners and losers from costly oil?
Taking inflation into account, prices are still below levels seen in 1980, when a barrel of oil - in today’s prices - was worth more than $95. Back then, costly oil helped contribute to a recession in the US and similar fears are resurfacing now. The Bush administration has said it is “very concerned” about current price levels, at a time when the economy is already expected to slow significantly next year. High energy prices make life more expensive for consumers and businesses, having an knock-on effect on their spending in other areas. Gasoline prices are hovering not far below the $3-a-gallon mark in the US, while UK petrol retailers have warned prices could soon rise above £1 a liter.

But on the other side of the fence, oil giants such as ExxonMobil and GP are having a wonderful time, while oil-rich countries are also smiling. Oil wealth has underpinned President Hugo Chavez’s efforts to reshape Venezuela, allowing him to fund extensive social programs and reject US criticism of his policies. Russia’s oil and gas bonanza has underwritten efforts by President Vladimir Putin to exert state control over the country’s energy sector.

Where will prices head next?
Many people scoffed when analysts from investment bank Goldman Sachs said in 2005 that prices could eventually top $100 a barrel. This now seems a real possibility, although analysts caution that the market remains volatile. “There is every reason to suppose the price could hit $100,” says Platt’s John Roberts. “At the same time, one good thing goes right and the price goes tumbling back down to $70 or $60.” (BBC)

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