Oil could hit $50 a barrel, economist says

(August 16, 2004) Crude oil prices — which have been hitting record highs of late on an almost-daily basis — could have even more upside potential, says BMO Nesbitt Burns senior economist Douglas Porter, and that could mean a $50 barrel in the not-too-distant future.

In an online commentary, Porter notes that the cushion of excess global oil supply is at its lowest level in over a generation, at around 1 million barrels per day. “Any serious supply disruption carries the potential to send prices sky-rocketing, at least temporarily,” he says.

In addition, it’s expected that demand for oil could rise as much as 3% in 2004, the biggest increase in 24 years. And with China creating more demand for oil that the entire world did in the 1990s, “Lofty prices look increasingly sustainable,” Porter believes.

So what are the economic implications of a sustained period of $50 a barrel oil prices? Porter’s rule of thumb assumes that a $10 rise in oil prices cuts 0.3% off the U.S. gross domestic product and slices 0.5% from global growth.

“It just so happens that oil prices in the second quarter of this year were nearly $10 above the year-ago level, and consumer outlays on gasoline and fuel oil in Q2 were up 0.3% as a share of GDP from a year ago,” he says. “A rise to $50 would take oil prices up a little more than $10 from their Q2 average, and would chop consumer spending power by another 0.4% of GDP.”

Porter says that although spikes in oil prices no longer pose the same inflationary risk as they did in the 1970s and 1980s, a $10 rise would still add about one percentage point to the year-over-year inflation rate.

Stocks have suffered the most, says Porter, noting that higher energy costs have been a major factor behind this year’s weak performance on the North American markets. “The Dow and Nasdaq have traded with a strong inverse correlation to oil prices since the start of the year, and even the energy-heavy TSX has largely followed suit,” he says.

Oil prices hovered close to a record $47 a barrel Monday morning, but retreated later in the day on hopes that a recall election victory by President Hugo Chavez of Venezuela — the world’s fifth-largest oil exporter — would help stabilize supplies.

Filed by Doug Watt, Advisor.ca, doug.watt@advisor.rogers.com