THE GLOBAL ECONOMY

Oil's Dramatic Price Retreat Ripples Around the World

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By Steven Mufson
Washington Post Staff Writer
Wednesday, September 17, 2008

Just two months ago, spiking petroleum prices were emboldening confrontational oil exporters such as Venezuela, Russia and Iran, fueling inflation anxiety at the Federal Reserve, raising expectations at American biofuel producers, and crimping the budgets of airlines and ordinary households alike.

Suddenly, the oil market's dynamic has changed. Prices have beaten a two-month retreat, confounding forecasts that many experts had just revised upward, fanning tensions within OPEC, dimming the financing prospects for alternative-fuel firms, and erasing tens of billions of dollars of value of energy stocks and oil and gas investments.

Prices remain extremely high by historical standards, and the House of Representatives, sensitive to voters' unhappiness, passed an energy bill that would allow oil drilling in new offshore areas, trim oil company tax breaks, ease the way for oil shale development and help finance alternative energy sources.

But in two months, the world's total energy costs have dropped by more than $4 billion a day. That will hurt government budgets from Tehran to Juneau, but it will ease burdens for countless others. The United States, which spent $51.4 billion on oil imports in July, accounting for most of its trade deficit, is on track to spend much less than that this month, reducing pressure on the dollar, the trade deficit and inflation.

Oil markets, analysts said, have been spun around by lower consumption in a U.S. economy weakened by financial instability and by a change in sentiment among financial players, many of whom are scurrying to stem losses or protect much-needed capital.

"The downward pressure on oil is just extraordinary right now," said Daniel P. Ahn, an energy economist at Lehman Brothers. Just a few weeks ago, Lehman looked bearish when it forecast $94 oil for 2009, he said, "and that is already upon us."

Oil prices fell again yesterday. The cost of the benchmark light sweet crude oil settled at $91.15 a barrel on the New York Mercantile Exchange yesterday, down $4.56, or 4.8 percent. It is at the lowest level since Feb. 7. Prices now stand about 38 percent below their July 11 peak.

"Personally, I expect oil prices will go further down," said Paolo Scaroni, chief executive of ENI, the Italian oil giant. He said that prices could fall as low as what it costs to produce the world's most expensive oil, citing the $65- to $70-a-barrel cost of developing Canadian tar sands. "This seems to me the bottom," he said.

Like rising oil prices, falling prices can scramble everything from foreign policy to the plans of automobile companies.

The Organization of the Petroleum Exporting Countries, which in late 2006 slashed production by 1.5 million barrels a day to prevent prices from falling to $50 a barrel, bickered about prices in Vienna last week. OPEC hardliners advocated a new $100 floor on prices, but Saudi Arabia last week resisted a call to trim its output to comply with official OPEC quotas. Now the market has already broken through the $100 level, and analysts said the Saudis might be reconsidering.

For oil-exporting nations, high prices this year have helped underwrite political agendas. In Venezuela, they have helped President Hugo Chávez pay for nationalizations of banks, the Caracas electric utility, a portion of foreign oil interests, radio stations and the local plant of an international cement firm. Other analysts said high prices may have emboldened Russia, which invaded Georgia, and Iran, which continues to defy international calls to abandon its nuclear program.

"An oil drop of $30 a barrel is significantly more damaging to Iran's economy than U.N. Security Council sanctions," said Karim Sadjadpour, an associate at the Carnegie Endowment for International Peace. "That's a loss of about $75 million per day in oil revenue. A further drop in prices could play a decisive role in the June 2009 presidential elections, for it could deflate [President Mahmoud] Ahmadinejad's populist agenda."

Falling prices could alter corporate agendas, too, though the rise and fall of oil prices have been so sudden that most energy companies, which usually make conservative price forecasts, have said their plans are not changing.

Chevron said it is going ahead with its new oil and gas production projects in Nigeria, Angola, Brazil and the United States. "When we are considering our investments in these projects, we look at both prices and costs over the long term, as the projects we bring on today will continue producing 20 or 30 years from now, or longer," said Kurt Glaubitz, a Chevron spokesman. "While we don't disclose our price forecasts externally, I can say that these projects are economic under a variety of scenarios, including the price ranges we're seeing today."

ENI's Scaroni said that his company assumes that oil prices will be as low as $65 a barrel in 2012 when it calculates whether to go ahead with a costly exploration and production project. ENI assumes that the price will rise about 2 percent a year after that.

For other companies and investors, the swift turnaround in prices has been a reminder of the unpredictability of energy prices.

T. Boone Pickens, the Texas oilman and hedge fund manager, suffered heavy losses over the summer while he was predicting higher oil prices and promoting his own comprehensive U.S. energy plan. Figures compiled by Morningstar show that the energy funds managed by Pickens's firm, BP Capital, fell by a third in July and then nearly 10 percent in August.

"There's a run-up and you profit, and there's a correction the other way and you take a hit," said Daniel Farkas, a hedge fund analyst at Morningstar. Farkas also said that an energy-intensive fund run by Sprott Management slid 10 percent in July and another 10 percent in August.

Major oil companies' shares have tumbled. Exxon Mobil has lost roughly $80 billion of market value this year. The shares of Brazil's Petrobras, whose new offshore fields will be expensive to develop, have plunged 45 percent from their 52-week high. Airline stocks, however, have soared in anticipation of cheaper jet fuel.

Auto companies, most of which are working on hybrids or plug-in vehicles, worry that falling fuel prices could reduce the incentive for consumers to pay extra for fuel-efficient vehicles. (While oil prices are falling, gasoline prices have been temporarily boosted by refinery outages on the hurricane-battered Texas coast.)

"If we stabilize, will people get used to it?" said John German, manager of environmental and energy analysis for American Honda.

"The price of oil will be what it will be," said John B. Howe, a vice president at Verenium, a Massachusetts firm that has built a demonstration plant in Louisiana for making cellulosic ethanol. Verenium sealed a $90 million financing deal with BP over the summer, and it hopes that BP will help finance the construction of commercial plants.

Like many executives with alternative-fuel firms, Howe insists that the freefall in oil prices will end. "It's possible that oil could fall for a short period of time and disrupt investments," he said. But, he added, growing Asian demand will eventually buoy prices. "What the last couple of years have shown is that everything hinges on the price of oil. . . . Do we want our long-term security to be subject to fluctuations of a volatile commodity?"


© 2008 The Washington Post Company

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