Professional Documents
Culture Documents
deposits and other organic materials. A type of fossil fuel, crude oil can be refined to produce
usable products such as gasoline, diesel, and various other forms of petrochemicals. It is
a non-renewable resource, which means that it can't be replaced naturally at the rate we
consume it and is, therefore, a limited resource. Between 50% and 97% of oil is
hydrocarbons. Between 6% and 10% of it is nitrogen, oxygen, and sulphur. Less than 1% is
metals such as copper, nickel, vanadium, and iron. Oil is called a fossil fuel because of its
origins. It was created 400 million years ago when the remains of prehistoric algae and
plankton fell to the bottom of the ocean.4 It combined with mud and then was covered by
layers of sediment. The intense pressure heated the remains over millions of years. It first
became a waxy substance called kerogen. It became liquid oil after more pressure and heat.
Although fossil fuels like coal have been harvested in one way or another for centuries, crude
oil was first discovered and developed during the Industrial Revolution, and its industrial uses
were first developed in the 19th century. The modern oil industry can trace its origins to Baku
in 1837, where the first commercial oil refinery was established to distil oil into paraffin
(used as lamp and heating oil). Around 20 years later in 1859, Crude oil was first explored in
to line the bore holes to allow deeper drilling. The success of the well, plus a demand for
1914 to $1.98 in 1918. Demand after the war was driven by the ever-increasing popularity of
cars. At this time, major companies were beginning to research other applications for oil,
including in the commercial production of plastics. Major discoveries of sources of crude oil
were made in Venezuela (1922), Iraq (1928), the USSR (1929 and 1932-34), east Texas
(1930), Kuwait (1938) and Saudi Arabia (1938), and the first modern offshore rig was
launched in the Gulf of Mexico (1947). In the 19 th Century, crude oil market primarily
consisted of USA, however the production of oil spread to several other parts of the world
Crude Oil is the lifeblood of the industrialised nations. Oil has become the world's most
important source of energy since the mid-1950s. Its products underpin modern society,
mainly supplying energy to power industry, heat homes, fuelling vehicles and synthesis of
plastics, fertilizers and several other day to day items. Oil remains the world’s leading fuel,
accounting for 32.9% of total global energy consumption. Worldwide, petroleum and other
liquid fuels are the dominant source of transportation energy. The role of Crude oil in modern
day world cannot be overestimated as they fuel over 96% of transportation energy in the
world.1 Hence they can be said to form the lifeblood of the world transportation in the
absence of any viable alternative fuel in the coming future. Global demand for crude oil in
2019 amounted to 100.1 million barrels per day. However, there are only 1.73 trillion barrels
of oil reserve remaining in the world, thus if the world continues to consume the oil at the
1
DETERMINANTS OF CRUDE OIL PRICES
Unlike other commodities, price of crude oil is not merely determined the market forces of
supply and demand but also several other factors like geopolitics of the middle east, research
This chapter will discuss in detail, the determinants of crude oil prices. Though there are
several factors which affects the prices of crude oil, in this chapter we will limit our
discussion to mainly five determinants which are as follows, the cartelisation decisions of
OPEC nations geopolitics of middle east, scientific advancements, natural and man-made
Origins of Organisation
1960, by Iran, Iraq, Kuwait, Saudi Arabia and Venezuela. The group was formed in 1960 by
five members from the Middle East and South America to shift the balance of power in the
global oil industry from the US to the countries responsible for the production and export of
of the oil, and has gone on to dictate global oil supply and prices. Despite internal
disagreements over production quotas imposed on members, and external conflicts such as
the Iran-Iraq War and the Iraqi invasion of Kuwait that inflated oil prices, the group has
Currently it is the world’s most influential group of oil producers and exporters, with 14
member states across three continents, which claims to control over 80% of the world’s
proven oil reserves and it has often been criticized due to its monopolistic pricing policies.
Over the course of years OPEC has controlled to supply of oil in the market in order to keep
the prices of oil high so as to maximise their profits. OPEC nations have also tried to leverage
their control over oil supply in the world to gain political and diplomatic advantage in the
international matters.
During the Yom Kippur War, OPEC nations which were dominated by Arabs used crude oil
as a political weapon when they cut oil exports to the United States and other nations that
provided military aid to Israel in the Yom Kippur War of October 1973. According to OPEC,
exports were to be reduced by 5 percent every month until Israel evacuated the territories
occupied in the Arab-Israeli war of 1967. In December, a full oil embargo was imposed
against the United States and several other countries, prompting a serious energy crisis in the
OPEC controls oil prices through its pricing-over-volume strategy. According to Foreign
Affairs magazine, the oil embargo shifted the structure of the oil market from a buyer's to a
seller's market. In the magazine's view, the oil market was earlier controlled by the Seven
Sisters, or seven western oil companies, that operated a majority of the oil fields. Post-1973,
however, the balance of power shifted towards the countries that comprise OPEC.
The Changing Balance of Power
But OPEC's monopoly over oil prices seems to be in danger of slipping. The discovery of
shale oil in North America has helped the U.S.A achieve near-record volumes of oil
production was 12 million barrels per day (bpd) in 2019, making them the world's largest oil-
producing country.1819 As of December 2019, U.S.A. was the world's top producer followed
by Russia and Saudi Arabia. However, Saudi Arabia is still the global leader in exporting oil
followed by Russia and Iraq. In fact, these three nations, all members of OPEC+, account for
nearly 36% of the supply of oil for the rest of the world.
Though every political decision of the world involving middle east has an affect on the prices
of world’s oil prices but in this section, we will be mainly focussing on the recent hostilities
involving US and Iran and its impacts on the World Oil prices.
Around last year Iran and US nuclear deal blew off after US claimed that Iran was preparing
a nuclear bomb. Soon US also imposed severe economic sanctions on Iran. Due to the
sanctions, Iran's ability to produce oil has declined over time. Oil production requires
expensive equipment that is slow to deploy and expensive to maintain, and the aging oil
Iran is believed to have stored around 25 million barrels of oil, but that amount is not enough
to flood the market and drive a steep decrease in prices. If the sanctions are lifted, production
will slowly ramp up to pre-sanction levels, which by itself still will not cause a significant
current production. Iran does have large oil reserves, but it will take some time to access
them. When the nuclear deal with Iran was announced in 2015, oil prices fell about 2%, but
the decline was only temporary. While traders initially feared that Iran could flood the
market, we now know that it simply does not have the ability to do so immediately.
Furthermore, countries like the U.S. and China have become more efficient producers of their
own oil. In 2018, the U.S. became a net exporter of oil given the increase in shale production
and other methods. But still, the moment US pulled out of the Iran-US nuclear deal, Crude
Scientific Advancements
With regard to conventional drilling, the drilling rate has increased and the time required to drill a
well can sometimes be halved, compared with 10 years ago. In the course of years, the cost of
conventional offshore drilling thus has been reduced substantially. The technological advancements in
exploration of crude oil have greatly impacted the cost of finding oil in even the unlikeliest of places,
In exploration, the development of geological modeling software allows better evaluation of the
petroleum potential of prospects. More importantly, the new two and three-dimensional seismic
surveying methods are now widely used and provide a more detailed picture of the subsurface, which
is particularly useful as the industry turns to the exploration of smaller and smaller targets and the
development of more and more complex structures. This reduces the number of dry wells drilled in
exploration. Twenty years ago the success rate was lout of 10. Today it is approximately lout of 5, and
there are hopes of achieving a rate of lout of 3 within the next 10 years.
Progress is also significant in drilling. With regard to conventional drilling, the drilling rate has
increased and the time required to drill a well can sometimes be halved, compared with 10 years ago
Reductions of 70 percent were observed between 2012 and 2020 for a depth of 3,500 meter although
this includes the lower margins of service companies due to the competition mentioned earlier.
Slimhole drilling also reduces costs by around 40 percent and at the same time provides greater
environmental protection.
The discovery of shale oil gas has also greatly impacted the oil prices as it has greatly reduced USA’s
dependence on exporting oil and has increased the supply of oil to such an extent that it has exceeded
the current demand of the market thus leading to the 2015 oil glut during which the prices of crude oil
decreased sharply.
The incredible growth in US shale, from next to nothing in 2010 to more than 7 mb/d at the
start of 2020, is transforming global oil markets. This is happening because US shale is able
to respond to price signals more swiftly than other sources of supply - in fact even more US
supply could be on the way if prices rise beyond where they are today. It is expected that by
2024, US oil exports will overtake Russia and close in on Saudi Arabia. This brings
Natural Disasters
One of the most devastating hurricane Katrina hit the US shores in 2005, which housed
most of the oil drilling units and several refineries. Hurricane Katrina caused severe
damage to U.S refinery and production capacity in the Gulf of Mexico. The storm, which
killed at up to 80 people, shut nearly all of the Gulf of Mexico's oil production - about a
quarter of US oil output - and closed down nine refineries along the coast. The effects of the
Hurricane were so pronounced that it led to a huge increase in the prices of oil to $80 a barrel.
The US government even had to release the oil from the Strategic Petroleum Reserve in order
The recent COVID-19 pandemic has also adversely impacted the oil prices all around the
world. The Lockdown measures put in place to contain the spread of COVID-19 represent an
unprecedented shock to global oil demand. The global forecasts show that as a result of the
crisis, the demand of oil will fall to almost 30% of the pre-pandemic levels leading to an
In response, Saudi Arabia and Russia have struck a deal with other major oil producing
nations to slash production as they attempt to stabilize a market that has been upended by the
coronavirus. Members of OPEC and their allies, including Russia and Mexico, announced
Sunday that they have agreed to cut production by 9.7 million barrels a day in May and June
of 2020, the deepest cut ever agreed to by the world's oil producers
The study of supply and demand inside a market is known as micro-economics. (This differs
from macro-economics, which is the study of inflation, unemployment, and the like.) So, let
us take a simplified market; it has a demand curve that looks like this:
The x-axis is the price, and the y-axis is the demand. There is an inverse correlation between
price, and quantity demanded. If we pretend this is the car market, then we see that at lower
price levels, people who couldn’t previously afford (or justify) cars can now buy them, and
that some families which previously owned one car, will spend on a second. Demand varies
If the price rises, so will supply. At first, this can be difficult to appreciate; surely supply is a
function of how many factories make cars? But supply is “elastic”, it does grow with price. In
the short-term, higher car prices encourage factories to run with two or three shifts and to pay
over-time. Longer-term, higher-prices will feed into firms’ capital expenditure decisions: new
The market price is the point at which demand meets supply. That is, there is a price level
where the level of demand is equal to the level of supply. This point cannot be emphasized
enough: the market will clear. In any normal market, there cannot be enormous inventories of
unsold products, or millions of people willing to pay the prevailing market price. An excess
of supply, or shortage thereof, is merely another way of saying that the clearing price is
The market for oil is unusual, because – in the short-term – both demand and supply are
highly inelastic. Irrespective of what petrol costs, your car cannot easily switch to another
fuel. Ships and aeroplanes cannot move from diesel oil and kerosene for their propulsion. If
it’s freezing cold, and you need to heat your house, the only option may be to pay more for
heating oil. Likewise, if the price of petrol was to halve, you would not drive twice as far, or
In other words, a large change in price only has a small impact on demand.
Supply of conventional oil is also relatively inelastic, although for a different reason. The
actual cost of pumping a marginal barrel of oil is relatively low, once the capital expenses of
prospecting and building an oil rig (and associated infrastructure) has been put in place. An
oilfield will cost roughly the same to operate whether it is producing at 50% of capacity or at
full capacity. Given this, once you have an oil field in place, producers will tend to pump at
their maximum sustainable rate. Of course, there is always some flexibility: old wells can be
“uncapped”, scheduled maintenance can be postponed, and greater concentrations of gas can
be pumped into the well. But these have costs, and oilfield owners are loath to do these,
unless the price of oil is high enough to justify it. The result of this is that the oil market is
one where small changes to the supply or demand curve cause large changes to the clearing
price.
Short-Term Changes to Supply and Demand Curves
This model can be applied to the oil price shocks of the 1973. Following US support for
Israel in the Yom Kippur war, the newly founded OPEC announced it would stop selling oil
to the US, and would restrict its overall oil output. Because OPEC supplied so much of the
world’s oil, this had the effect of changing the shape of the supply curve. In other words, for
As can be seen from the chart above, this restricting of supply caused the blue supply curve to
move to the left, and – as the market must clear – the price rocketed. Dropping out of theory
and into practice, we see that this is exactly what did happen. The price of Saudi Light oil
production in the Gulf of Mexico it had a similar effect: the supply curve was shifted to the
The rise of emerging markets has also changed the supply and demand dynamics. As China,
India and the like industrialize, and their emergent middle classes buy cars, then the demand
curve moves to the right. For any given level of price, more oil is demanded. As the chart
below shows, this has exactly the same impact on the clearing price of oil as does reducing
Oil demand and supply may be inelastic in the short-term, but in the long-term, they are
remarkably elastic. Hurricane Katrina does not cause a long-term change in consumer
behaviour; but if long-term expectations for oil prices rise, then both the demand and supply
Nowhere is this clearer than in the study of the results of the 1970s oil shocks. In the US the
government responded by introducing a 56mph national speed limit, and mandating strict
new efficiency standards. In 1975, the average American new car had 136 horsepower under
its hood; by 1982, that number had fallen to under 100. Consumers shifted to more fuel
efficient cars (a boon for Japanese makers, and a bane for Detroit), and the demand curve
moved to the left. Similarly, electricity generators chose to build nuclear or coal-fired power
stations rather than oil-fired ones. EDF, France’s national generator, now supplies the vast
majority of its electricity from nuclear power stations. In the three years following the first oil
shock in 1973, oil consumption continued to rise – despite soaring prices. Yet from a peak in
1976, consumption began to fall, dropping eventually 15% from its highs. And, again,
consumption continued falling for three years, even after oil prices peaked in 1980 and after
the world economy began recovering. Moves towards energy efficiency and towards
alternative power sources are slow to ramp up, but their effect on the demand curve cannot be
over-stated.
Rising prices had another effect in the 1970s, they spurred investment in exploration and
production in areas that had previously not been cost efficient. Building rigs in the hostile
waters of the North Sea, or in the wilds of Alaska, made little sense while Saudi crude was
available for $3 a barrel. But if the Saudi’s oil was restricted, and the price had shot up north
of $30, then a lot of new oil suddenly became competitive. And because the key expenses are
upfront – building the infrastructure in the first place – then once the new oil came on stream
then it was unlikely to be removed, irrespective of the price of oil. The oil supply curve
demand curve that moved left (less demand at any given price) was a collapse in the market
clearing price. By 1985, the oil price had fallen back to $10. On an inflation-adjusted basis,
oil was as cheap as it had been before the 1973 oil shock.
The lesson here is simple: there is no “over” or “under” supply, there is only the price at
which the market clears. And over the long-term, high oil prices will tend to encourage
consumers to either reduce energy consumption or shift to other forms of energy. Similarly,
quantities of oil or synthetic crude coming on to the market. Each boom in the oil price sows
1999 to 2008, the crude oil price spiked from under $25 per barrel to more than $160 per
barrel. Rapidly increasing demand in emerging economies, such as China and India, and
production cuts by the Organization of Petroleum Exporting Countries (OPEC) in the Middle
East drove the price of oil to record heights. At the same time, natural gas spot prices went
from under $3 per million BTU to over $12 per million BTU between 1999 and 2008.
Shortly after that, a deep global recession throttled demand for energy and sent oil and gas
prices into a precipitous free fall. By the end of 2008, the price of oil had bottomed out at
$53. The economic recovery that began the following year sent the price of oil back over
$100. It hovered between $100 and $125 until 2014, and then it experienced another steep
drop. Natural gas fell below $3 per million BTU in 2009, but it was up to $6 per million BTU
by early 2014. However, natural gas prices declined sharply during that year.
A stronger U.S. dollar was one of the principal reasons for plummeting natural gas and oil
prices in 2014. Commodities are generally traded in U.S. dollars, which means there is a
direct relationship between the dollar and oil prices. The U.S. Federal Reserve (Fed)
decreased the value of the dollar to deal with issues in the U.S. economy in the early 21st
century. The first interest rate cuts were aimed at reducing the impact of the collapse of the
dotcom bubble and the 9/11 attacks. The rate cuts limited damage to the stock market by
weakening the U.S. dollar, but that also increased the prices of most commodities in U.S.
dollar terms. The Fed pushed interest rates to zero during the 2008 financial crisis and then
engaged in quantitative easing to further reduce the value of the dollar. Markets were restored
again, but commodity prices started to go back up. Anticipating the strength or weakness of
the U.S. dollar can make a big difference to investors. A weak dollar favors commodities and
emerging markets, while a strong dollar favors U.S. stocks and bonds. In 2013, the Fed
finally changed course and began a period of strengthening the U.S. dollar. The first event
was the taper tantrum that sent Treasury yields higher after the Fed reduced the pace of
quantitative easing. Initially, many investors were skeptical that the Fed would stick to a
course of tighter monetary policy. By 2014, the change in the tide became clear. Prices for
many commodities, including oil and natural gas, began to fall. The Fed steadily tightened
Emerging Economies
Numerous specific factors contributed to the 2014 drop in oil prices. Economies such as
China, where rapid growth and expansion created an unquenchable thirst for oil in the first
decade of the new millennium, began to slow after 2010. China is the world's largest country
by population, so its lower oil demand had significant price ramifications. Many other large
emerging economies experienced similar economic trajectories in the early 21st century.
They had rapid growth during the first decade, followed by much slower growth after 2010.
The same countries that pushed up the price of oil in 2008 with their ravenous demand helped
U.S. and Canada increased their efforts to produce oil. In the U.S., private companies began
extracting oil from shale formations in North Dakota using a process known as fracking.
Meanwhile, Canada went to work extracting oil from Alberta's oil sands, the world's third-
largest crude oil reserves. The two North American countries were able to boost their oil
Saudi Arabia's actions also contributed to the 2014 oil glut. The country was faced with a
decision between letting prices continue to drop or ceding market share by cutting production
to increase prices. Saudi Arabia kept its production stable, deciding that low oil prices offered
more of a long-term benefit than giving up market share. Saudi Arabia produces oil very
cheaply and holds the largest oil reserves in the world. So, it can withstand low oil prices for
a long time without any threat to its economy. In contrast, extraction methods such as
fracking are more expensive and not profitable if oil prices fall too low. Saudi Arabia hoped
that other countries, such as the U.S. and Canada, would be forced to abandon their more
surging especially in China and there simply wasn't enough oil production to keep up. That
led to large price spikes, and oil hovered around $100 per barrel between 2011 and 2014.
Yet as oil prices increased, many energy companies found it profitable to begin extracting oil
from difficult-to-drill places. In the United States, companies began using techniques like
fracking and horizontal drilling to extract oil from shale formations in North Dakota and
Texas. In Canada, companies were heating Alberta's gooey oil sands with steam to extract
Booming U.S. shale oil production played a significant role in the oil price plunge from mid-
2014 to early 2016. Efficiency gains in the sector lowered break-even prices considerably,
making U.S. shale oil the de facto marginal cost producer on the international oil market.
From a global perspective, the rapid rise of US shale oil has been the main driver behind the
sustained annual rate of 6.7%, while non-OPEC oil supply produced outside the Unites States
was stable, on average. The US share in total non-OPEC supply jumped to more than a
quarter in 2012, compared to just over a fifth in 2008. In 2012, US shale oil accounted for
2.5% of world oil supply. Production growth has been accelerating as shale drillers become
more efficient at locating wells and drilling them faster. Output increased by 160,000 bpd in
2011, 850,000 bpd in 2012, 950,000 bpd in 2013 and 1.2 million bpd in 2014.
Geopolitical Developments
The reopening of Libya’s ports and oilfields, which had been closed for months by unrest,
also played an important role in 2014 oil glut. Following the fall of dictator Muammar
Gaddafi, whose overthrow in 2011 was aided by a NATO-led bombing campaign. Successive
administrations have failed to control the country's many militias, which wield the real power
in Libya. Soon enough the violence escalated in Libya due to a power tussle between The
Tripoli-based Government of National Accord (GNA), led by Prime Minister Fayez al-Sarraj,
is recognized by the United Nations and backed by a host of militias. The rival administration
in the country's east is allied with warlord General Khalifa Haftar, who commands the so-
called Libyan National Army (LNA). In the late, Libya’s production, which had dropped to
250,000 barrels per day (bpd) from around 1.8 million bpd before the country’s civil war in
2011, rebounded to almost 900,000 bpd over the next three months. The increase was
significant, but not because of the volume. World production and consumption of oil are
around 93 million bpd so the extra 600,000 bpd amounted to less than 1 percent of daily
COVID pandemic has prompted lockdowns, shuttered factories and stopped people from
pandemic, there has been a loss of 1/3rd global demand – more than 30 million barrels per
day (BPD). As the oil futures contracts are expiring, West Texas Intermediate (WTI) oil
This is probably the first time the prices of oil have gone below zero and people are actually
getting paid for buying oil. As the COVID pandemic hit the world this year almost all the
countries in the world braced by imposing a total lockdown. this has resulted in a crash in the
demand for oil. The price of both Brent Crude and Russian-produced Urals oil also declined
markedly after the negative oil prices seen in the United States. Oil demand in India has
fallen 60-70 per cent due to Covid-19 restrictions. Such a drastic crash in demand wasn’t
expected and now the world is running out of space to store oil, United States of America
announced that it will buy 75 million barrels but that will be too little to shore up the oil
prices.
Thus, the traders all around the world, were willing to pay $38 to get rid of the oil they had
and this is why the prices crashed to negative. In a nutshell, there is an enormous global
surplus in oil supplies with little demand for it, and oil companies are running out of places to
store it. Hence, some traders recently essentially began paying buyers to take extra oil off
their hands.
March to discuss what to do as the disease’s impact has lowered global demand for oil. At
last week’s meeting, Saudi Arabia, the cartel’s leader, suggested the participants collectively
cut their oil production by about 1 million barrels per day, with Russia making the most
dramatic cut of around 500,000 barrels a day. Doing so would keep oil prices higher, which
would bring in more revenue for nations in the bloc whose economies are heavily dependent
on crude exports.
Saudi Arabia and other members considered the move necessary as Asia, which is roiling
from thousands of cases of coronavirus mainly in China and South Korea, no longer
consumes as much energy as it did only a few months ago Lower demand leads to a drop in
the commodity’s price, which thus hurts countries’ bottom lines. The Russians, wary of such
a move for weeks, opted against the plan. It’s still unclear exactly why that’s the case. Some
say Russia wants prices to stay low to hurt the American shale oil industry or is gearing up to
This non- compliance of Russia to lower down its production of oil resulted in a oil war
between Saudi Arabia and Russia. Saudi Arabia to respond with fury, slashing pricing for its
crude by the most in more than 30 years to roughly $31 a barrel. An oil-price war between
Russia and Saudi Arabia sent more shock waves through a world economy already reeling
OPEC and Russia have agreed to extend their record oil production cuts for a further month
as crude recovers to near $40 a barrel, with the group attempting to prop up a market
devastated by the coronavirus pandemic. Saudi Arabia and Russia will continue to take the
bulk of the nearly 10m barrels a day of cuts, but the two countries emphasised they wanted to
see stronger compliance from other members as they held a virtual meeting on Saturday. The
latest agreement builds on a deal struck in April that brought an end to a price war between
both countries that — in tandem with collapsing demand during widespread lockdowns —
The production restraints are set to last for about two years, though not at the same level as
the initial two months. Copying the model adopted by central banks to taper off their bond
buying, OPEC will also reduce the size of the cuts over time. After June, the 10-million-
barrel cut will be tapered to 7.6 million a day until the end of the year, and then to 5.6 million