WHY ARE OIL PRICES RISING?

Crude oil prices have hit US$50; up nearly 55% from the start of the year. Fears abound that energy prices at such a level can lead to inflation, restricting economic growth. Why the inability to get runaway oil prices under control? For the answer to this, we must first understand the factors esponsible for driving this biggest increase in oil prices for 24 years.

RISING DEMAND

		Strengthening economic recovery leading to higher than expected demand from industrialised countries, specially the US economy that devours 25% of world oil.
		China's rapidly expanding economy : Chinese crude imports are up 40% so far this year. Instead of slowing down, the Chinese energy demand is forecast to continue rising even next year.

NEED FOR NEW INVESTMENTS

Most of Opec oil reservoirs are mature, most producers are producing flatout to meet demand and the finds are smaller. There is a need for investments towards development of costly technology for newer finds.

OPEC STRATEGY

Opec holds around 70% of world oil reserves; almost 50% of the world's crude oil exports and attempts to keep prices under control by sprucing or restricting supplies to the market. In the past, Opec strategy was to wait for prices to drop before agreeing to cut output. The time of seasonally weaker demand - when prices were lower, was the time international oil companies traditionally capaitalised upon, to rebuild stocks. But Opec has adopted a change in strategy towards aggressiveness, announcing production cuts to pre-empt any weakening in prices. Market experts erred on the lower side regarding oil consumption forecasts because such a quick global economic recovery was not anticipated. This miscalculation resulted in producers keeping supplies even tighter than was needed to prevent rebuilding of stocks.
Major OPEC opinion is divided in two groups :
One group is countries like Venezuela that argue against appeasing big consumers, particularly USA.
The other group consists of Saudi Arabia and Kuwait that favour raising output to ease prices. Among suppliers only Saudi Arabia has significant spare capacity that it can make available to the market.

LOW OIL INVENTORIES

Efficiency has been the key word for companies in recent years. In a bid to attain efficiency, oil companies have started operating with lower inventories of crude oil, diminishing the cushion against supply interruptions. This is why events like violence in the Middle East, ethnic strife in Nigeria, strike in Venezuela, Hurricane Ivan have a greater effect on prices now, than might have been if inventory levels were higher.

MARKET SPECULATION

The combination of low stocks and Opec strategy to maintain them at low levels, leaves the market exposed to the prospect of sudden price rises if supplies are threatened. Hedge funds and other speculators betting on the possibility of higher prices have aggravated price pressure in the market.

ENVIRONMENTAL PRESSURES ON US REFINERIES

Growing pressure on US refiners to increase production of new gasoline blends as per newer environmental regulations, have also helped drive world crude oil prices. Building processing facilities to serve varied needs as per different state regulations is expensive and environmental concerns can make planning permission difficult to obtain.