By mid-October, the world economic situation had deteriorated to the point where I opined to my Daily News editor over dinner that the price might well drop to $50 per barrel. As of this writing it has done more than that. So are we at or near the bottom or will the free fall continue?
No one has a definitive answer to that question because the worsening economic agony that the world is suffering through is threatening to move off the chart with respect to the post-World War II, Bretton Woods experience. Even so, one can at least get a sense of where we might be going and it is not pleasant to consider.
Hold your breath. If the worldwide recession continues to deepen, the price of North Slope crude sold on the U.S. West Coast could drop to $30 per barrel over the next 12 months, which is to say, all the way back to numbers last seen in 2002 and 2003. A little background will help to explain why this could happen.
Between 1978 and 2007 the West Coast price of North Slope crude averaged just under $30 per barrel after restatement in 2007 inflation-adjusted values. On occasion the price swung wildly, dropping over 50 percent in 1986 and 45 percent in 1998. The 70 percent drop since last July from about $140 per barrel to about $40 per barrel surpasses both the 1986 and 1998 percentage drops but need not be the end of the line because this year's drop has been in large part a reaction to what might well have been a new high in speculative excess.
Going a little further, if the July 2008 no-speculation price of Alaska crude really was about $75 per barrel, as I estimated in my July 20 column, then a 50 percent drop to under $40 per barrel is not entirely without historical precedent and a drop to $30 per barrel not far outside.
Other factors reinforce the possibility of continued free fall, chief among them being that crude oil markets have been and continue to be battered by declining demand as they have never been battered before. If the world economy continues to worsen beyond current expectations, then an unprecedented effort by oil producing countries will be needed to keep crude oil prices from plummeting even further than they have.
But such an effort might not be forthcoming because the financial pressure on OPEC members to cheat on quotas might be too much for some to resist. Furthermore, OPEC's swing producer, Saudi Arabia, might find itself in the unusual position of supporting the price decline for long-run strategic reasons of its own. The Saudi's might be forced to let oil prices drop in order to help prop up the world economy. That sounds very strange, I know, but Saudi Arabia and other key OPEC countries well understand that world economic recovery is in the cartel's best long-term interests and sooner rather than later.
The situation in the United Arab Emirates makes this point and is representative of the economic distress now coursing through the Middle East in response to the world economic crisis. As of close of business Monday, the United Arab Emirates stock market index was down 60 percent this year. The UAE, until recently one of the fastest growing economies in the world, now faces the real prospect of a sustained real estate market slump that rivals the U.S. mortgage crisis. Its best long-term strategy, and that of most other OPEC producers, may be to lower crude oil prices rather than to raise them. Oil price hawks like Iran and Venezuela will not like it but there might not be much that they can do.
David M. Reaume is a Washington state-based economist who was based for many years in Juneau. His opinion column appears every fourth Sunday.
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