The collapse of oil. A second wave. Who's next?
Material posted: Publication date: 17-01-2015

It is difficult to say which country will suffer most from falling oil prices. So far the worst affected was Russia, Iran and Venezuela, but it is likely that over time this will change.

The Obama administration should be concerned about because of the so-called side effects, which eventually manifested in the form of growing unemployment, market volatility and a fragile Bank balance sheets. This is the main threat, as the loss ratio and non-performing loans can lead to full-scale financial crisis.

Here is what writes the resource "According to estimates of the Federal reserve Bank of Dallas of approximately 250 thousand people in the USA could lose their jobs in 2015 if oil prices will not grow. More than half of the job losses will occur in Texas, which produces most of the oil in the country."

Reducing consumption

Already visible signs that the reduction in drilling could spread to the productive sectors of the economy of Texas, the Head of one steel company said that "the decline in oil prices will quickly lead to the deterioration of the situation on the market."

Another company, which is engaged in the production of equipment, States that "low oil prices will lead to a reduction of drilling rigs in the U.S., which in turn will reduce the market for our products." The same opinion is shared by Directors of companies operating in the chemicals industry.

The economy of such States as Texas, North Dakota, Oklahoma, and Louisiana, over the past few years has prospered because of the growth of oil production. However at the moment the sector is going through a difficult period, which has resulted in a growth of unemployment and difficulties to balance the budgets of these States.

Of course, in different sectors of the economy, there are times when you have to fire employees, but this does not necessarily lead to financial crisis. However, unemployment is only one element of a more complex picture. Other – the decrease of personal consumption expenditures.

The decline in oil prices is a more serious deterrent to economic growth than the gradual accumulation of consumers... to see this graphically, you can look at a graph of annual consumer spending compared with the consumer cost of energy and related products. This ratio is shown in the graph.

Thus, it is possible to see that low gas prices do not lead to growth in consumer spending or economic growth. Quite the contrary, they lead to increased deflationary pressure forces and reduces the activity of consumption which reduces economic growth.

Mining and chemical industry

In addition, there are indirect effects of rising unemployment and lower prices in other industries, such as mining, industrial production and chemical industry.

Oil and gas accounts for a significant share in employment statistics in the field of "mining and manufacturing". Since 2000, when oil prices rose, Texas accounts for over 40% of all jobs in the country according to official data.

Most of the jobs created since the financial crisis, was low-paid jobs in retail, healthcare and other services.

As for the jobs created in the energy sector, they offer more attractive terms on a salary.

"The ripple effect"

Generally, all jobs created in the energy sector and related industries, had a so-called “ripple effect”: the creation of one job in the energy sector led to the creation of an average of 2.8 in the workplace in other sectors of the economy from the production of pipes to manufacture coatings of pipelines, from trucking and transportation restaurants and retail centres.

The obvious impact of falling oil prices is that lower revenues will lead to a reduction of production, capital spending plans, the freezing or reduction of employment, and a decline in profitability.

Simply put, lower prices of oil and gasoline may have a more negative impact on the economy than the savings of consumers.

However, many of the media claim that the economic growth will reach high speed due to the decrease in oil prices. However, this is absurd.

The economy is much more important to create well-paid jobs than low prices in the energy sector. However, now that prices have fallen, the number of well-paid jobs will be reduced, which will have a negative impact on economic growth.

Not only USA

If oil prices continue to decline, unemployment will only grow, and economic activity will decline, which will lead to the deterioration of the economic situation in the country. Furthermore, this situation will affect not only the U.S. economy.

Here is what writes the British newspaper Telegraph UK:

"A third of British oil and gas companies is at risk of bankruptcy amid falling oil prices, according to a new study. In the company's financial risk management Company Watch believes that 70% of listed UK companies working in the field of exploration and production of oil, currently are non-profit and the losses reach £1.8 billion."

Oil company of Canada are also experiencing difficult times. Problems with attracting new loans, caused by the collapse in oil prices, and a drop in own production volumes led to the default company Laricina Energy, producing oil from tar Sands.

According to published press release, the company are unable to reach the planned levels of oil production that have been agreed in the terms of credit previously provided. Thereby defaulted on the loan in the amount of $150 million, which at the beginning of 2014 has provided Canada Pension Plan Investment Board (CPPIB) – largest pension Fund in Canada.

CEO Glen Schmidt in an interview, quotes from which leads the Wall Street Journal (WSJ), said that amid collapse in oil prices, companies had become more difficult to attract new capital.

Negative consequences have intensified after the November OPEC decided not to reduce quotas on oil production, despite the decline in oil prices. This decision has led to an extremely difficult situation on the market, when the price per barrel of Brent crude oil has fallen 45% since June.

Banks - the next victim?

Many beginners in the field of drilling decided to take advantage of low interest rates and earn easy money on the bond market. However, now that oil prices have fallen, investors have fled from bonds in the energy sector like the plague.

That is why now small companies it is very difficult to repay its debt and attract fresh capital. When these companies start to massively declare the inability to pay one's debts, but it will happen if oil prices do not rise, it will negatively affect the balance sheet of banks across the country that will lead to a new financial crisis.

The main problem is that banks have placed a huge part of their for doubtful debts in financial products such as collateralized loan obligations (CLO) and collateralized debt obligations (CDOs) that will inevitably be outstanding because the borrowers cannot service their loans.

This situation will lead to the fact that many small companies will go to the bottom if the oil prices will not grow, and this in turn will lead to the fact that the banking system will again be on the verge of crisis.

That's why Washington's plan to reduce oil prices to hurt Russia's economy, could be a good short-term strategy, but as a long term strategy it does not make sense. It is unlikely that Obama would dare to harm the economy of their country.

However, there are those who doubt. Here is a quote from a recent interview of Barack Obama:

"If you'll recall, their (Russia's) economic growth has already started to decline, as capital left the country before oil prices fell. Our explanation is that the only thing that kept the economy afloat was the price of oil. And when we imposed sanctions, we took into account the fact that over time they will make Russia's economy more vulnerable, so that when start running the price of oil – as they inevitably would have begun this year or next, then Russia would be very hard to cope with it."

In fact, Obama says that he wanted to "disruption" in the oil price that Russia "was hard to cope with it."

That is why among industry analysts there are many who are not so skeptical about conspiracy theories between the U.S. and Saudi Arabia.

A week before the Minsk Protocol was signed, Kerry made a visit to Jeddah (Saudi Arabia) to meet with king Abdullah at his summer residence. On this visit, little said in the media, but if it did, it was served as part of a "campaign of Kerry to support the Arab world in the fight against "Islamic state".

According to some sources, the visit was not limited to the discussion of this problem. In addition, they discussed Washington's plan to destroy the Russian economy. To do this, Kerry told the Saudis that they should 1) to increase production and 2) lower prices for its oil. Here it is necessary to remember the following facts: in order that production remained profitable, the Saudis enough at $30 per barrel, while Russia's is $105.

Immediately after Kerry's visit, the Saudis began increasing production by more than 100 thousand barrels per day by the end of September.

However, be that as it may, the current situation affects a number of industries within the United States, worsening the situation in the country, which leads to higher unemployment, lower consumption and General deterioration of the economy.

In addition, it must be remembered that American oil companies are among the largest in the world, so are dragging down the entire market. On the eve the U.S. S&P 500 again closed lower, which happens for the fifth consecutive session.


Tags: assessment , resources , economy , oil