Oil Prices Face Big Volatility As Spare Capacity Drys Up

The world’s oil supply and demand is set to increase, with OPEC+ agreeing to accelerate the process of supply increases after more than a year of pressure. The increase in oil production is needed to slow inflation and tame fuel prices, but with limited spare capacity, producers will have very little to fall back on should the situation get worse. This tight capacity will keep oil prices volatile and highly sensitive to any disruptions.

The world’s reserves are running at the lowest levels since the 1970s. OPEC+ agreed to boost output and reverse the deep manufacturing cuts after the COVID-19 pandemic. But by the end of this summer, Saudi Arabia will have a production capacity of 11 million bpd, less than half its current output. The group also plans to increase production by 648,000 bpd in July and August.

OPEC is a major swing producer in oil markets. With the recent spike in Covid cases, the country is slowly opening up parts of its country. However, businesses will take longer to recover. Weaker economic growth, more transmissible variants, and less government stimulus are all expected to impact oil demand. With all this uncertainty, the oil price has been held back.

If the oil price spikes, the impact on the global economy will be different in different countries. The amount of spare capacity varies depending on the country’s economic structure, the cost of production, and the concentration of exports. Iraq and Saudi Arabia can produce oil relatively inexpensively, while Venezuela depends on oil prices over USD 50 per barrel. However, this volatility is not limited to the oil-exporting countries, but will affect the entire world.

Developing countries – particularly those in the oil-exporting countries – are feeling the brunt of the shock. The fossil fuel industry is in a phase of structural decline, and the current decline in oil prices hampers their ability to respond. They need more money to finance services, mitigate health risks, and ease macroeconomic pressure. If oil prices continue to plummet, these countries will face even bigger losses.

Oil-exporting countries should invest in alternative and cleaner energy and industrial policies to reduce the risks and diversify their economies away from carbon-intensive industries. The time to act is now. With less spare capacity, the price of oil may never recover. This is a time for proactive responses to reduce the risk of unsustainable debt, corruption, and illicit financial flows. And it’s time to catalyze a transition to a cleaner future.