The price for a barrel of oil was less than nothing yesterday, and it’s not much higher than that today. Oil prices dropped below $-40/barrel for a short while and have been slipping in and out of negative territory this morning. What that effectively means is that the intermediate contracts for oil are free… producers are having to pay consumers to take it.
This does not mean, obviously, that gasoline is suddenly free. The costs of refining the oil and transporting the product to stations still exist, the cost of maintaining the stations still exists, and most of all the taxes levied on the gas by state and federal agencies haven’t changed.
Still, the gas prices are cheap… as are the petrochemicals needed for the manufacture of many plastics and other goods. On the bare surface, this would seem to be a good thing for the consumer. It’s not.
The oil prices aren’t representative of oil’s long-term value as a commodity. They’re simply reflective of the fact that consumption is temporarily down due to the effects of the coronavirus. While most necessities are still being produced, many luxuries have stopped or at least slowed production as workers throughout the world observe movement restrictions.
The shift to “just in time” supply chains – a very popular business trend over the last decade – has resulted in many production lines being closed until such time as shipment of a needed component resumes. This, in turn, has diminished the need for some transportation lines. Meanwhile, reduced consumption has resulted in some places that have storage facilities to remain full, not needing replenishment.
This is where the oil industry finds itself. With fewer cars on the road and a marked reduction in air and ship freight being transported, fuel storage is near capacity; meanwhile, many places which use petrochemicals in their production have temporarily decreased their production. Hit on both ends, they have further seen problems arise due to a squabble between Russia and Saudi Arabia about production and more problems as President Trump attempted to negotiate on behalf of both countries.
$0 oil isn’t going to last. The price is going to rise as world manufacturing resumes, and industry recognizes that fact… it’s only the intermediate contracts which are trading near zero, not long-term contracts.
In the meantime, we’re going to see a devastating shock to the oil industry. Canadian oil fields have been temporarily shut down. American businesses, which had been laboring in a market where a barrel of oil cost more to extract than it was worth, are facing bankruptcy as the profit made during the transport and refinement processes are no longer enough to offset the production losses.
As American oil businesses fail, the broader market will adjust… but it will result in a period of grave weakness and uncertainty. New investors, having seen the economic devastation, will be hesitant about stepping into the oil market despite the potential profits. There will be supply chain disruptions, damaging the ability to rebound from the coronavirus. These are factors which are driving world stock markets lower today.
Free oil isn’t going to exist for very long but the damage it leaves it its wake might be. This is going to be a test of the administration’s economic policy – and, likely, the economic policy of the administration to follow.
