Introduction
Of great importance is a correct understanding of the cause-and-effect relationships that determine the dynamics of the price of oil, which directly affects the prices of other types of products, both exported and consumed domestically. The dynamics of the price are characterized by periods of sharp ups and downs, often associated with the action of economic and political forces.
The intertwining of economic, political, geostrategic, and natural factors increases the inherent uncertainty of the future, which greatly complicates the analysis, modeling, and forecasting of the dynamics of key indicators of the oil market. Oil prices affect the value of shares of oil companies and exchange rates and can also determine the dynamics of the entire stock market. The price of oil itself, in turn, depends on the balance of supply and demand.
Literature Review
Impacts on Oil Prices
Any factors that limit access to energy sources or raise energy prices to unacceptably high levels are detrimental to the country’s energy security. Public discussions about energy security almost inevitably lead to talk about energy independence. It usually means eliminating the need to import oil into the country and switching to other energy sources. Consequently, supply and demand in the world oil market are constantly changing for many reasons, and consequently, oil prices are changing.
Impact of News Cycles and Policy Changes
Crude oil prices move rapidly in response to news cycles, policy changes, and fluctuations in global markets. Thus, under the influence of foreign policy, oil prices have been changing since 2014, falling from $105 per barrel to $30 per barrel by mid-2020 (Aloui et al., 2020). This fall was accelerated by the COVID-19 pandemic, which caused a sharp drop in oil demand and, as a result, its price (Aloui et al., 2020). Today, the oil market has many governmental and non-governmental organizations that control the main flows of raw materials between countries, as well as pricing policies (Offermans & Glasbergen, 2018). The major oil producers could not agree on oil production cuts, exacerbating the problem (Uren, 2022). Huge reserves of unsold oil and the lack of the possibility of its sale provoked a decrease in oil prices.
Impact of Economic Growth
Demand for oil rises in line with economic growth: the faster it is, the greater the demand. It is significant that in April 2020, due to lockdowns, people around the world began to move less, economic activity dropped sharply, and the price of oil fell by more than 75% (Engebretsen, 2020). A similar example of economic dependency can be found when the price of oil plummeted in 2008 as a result of the global financial crisis.
In October 2021, the authoritative International Energy Agency (IEA), in its annual report for the first time, noted the inevitability of a fall in global oil demand in the long term (Oil 2021, 2021). That will lead to the efforts of governments around the world to reduce carbon dioxide emissions in order to combat global warming. For example, the European Union plans to reduce greenhouse gas emissions by 2030 by at least 55% compared to the level of 1990, and China – to achieve carbon neutrality by 2060 (Oil 2021, 2021). The global green transition raises questions about the fate of oil companies.
The process of reforming the system may take a long time, during which certain links between key economic indicators may remain inert. Therefore, an important stage preceding the formation of scenarios for changes in the oil price in the short and medium term is econometric and simulation modeling of the relationship between oil price dynamics (Perifanis & Dagoumas, 2021). It is also important to consider the dynamics of US macroeconomic indicators, as they have the most powerful financial system and are the leaders in the world economy.
Impact of Regional and Seasonal Variations
Economic growth and industrial production tend to stimulate the oil demand, which is reflected in the changing structure of demand in countries. Thus, oil consumption in China, India, and Saudi Arabia has the largest growth (Godil et al., 2022). Demand for oil includes population growth and seasonal changes (Huang et al., 2021). For example, oil consumption increases during busy summer travel seasons and during winter when more heating fuel is used and more. Oil is used in heavy and light industries in the production of chemicals, textiles, detergents, and others.
Impact of Inflation
Inflation has a significant impact on oil prices. The inflation rate and oil prices are considered to be related in a causal relationship. As oil prices rise, inflation, which is a measure of general price trends throughout an economy, also increases the price of oil (Picture 1) (Perifanis & Dagoumas, 2021). On the other side, as oil prices fall, inflationary pressures begin to ease. The reason for this connection is that oil is used in various activities, the cost of petroleum products is rising, and prices and costs of end products are rising (Perifanis & Dagoumas, 2021).
If the price of oil rises, then the production of, for example, plastic will cost more, and then the plastics company will pass on part of these costs to the consumer. That is, it will raise prices and thereby create inflation. Thus, many factors influence the price of oil, such as growth in oil production, reserves, political events, economic growth among importing countries, natural phenomena, speculative mood, and more.
Economic Theory of Relevance
The concept of relevant value, which refers to the price of assets and liabilities. They may be disposed of under normal ordinary market conditions in an ordinary transaction between knowledgeable, willing, independent market participants at the measurement date, including the impact of non-execution risks (Koijen & Yogo, 2020). The relevant value is the market (fair) value adjusted for the result of the revaluation of non-current assets.
The dynamics of the oil economy are complex, and the process of determining the price of oil goes beyond simple market rules of supply and demand, although at its most primitive level, the market is the ultimate arbiter of the price of oil. In theory, oil prices should be a function of supply and demand: when supply and demand rise, prices should fall and conversely.
However, the reality is quite different since the status of oil as an energy source has complicated its pricing. Supply and demand are only part of a complex equation with elements of geopolitics and world problems. The regions with price power over oil control the vital levers of the global economy. The United States controlled oil prices for much of the previous century in the 1970s and lost this position to the OPEC countries (Claes & Garavini, 2020). Recent events have helped shift some of the price power back to the US and Western oil companies.
Domestic market prices are set mainly on the basis of indicative prices calculated according to formulas based on the principle of equal profitability of export and domestic deliveries of petroleum products. Such a pricing system for petroleum products is aimed at maintaining relevant business profitability when selling products on the domestic market compared to selling for export (Claes & Garavini, 2020). However, such a pricing system in the domestic market is based on prices formed on the trading floors of importing countries.
Real-World Implications
It is possible to identify some of the main immediate results and identify key trends and issues that have arisen in connection with the decline in the price of oil, the COVID-19 pandemic, and the slowdown and recession of global economic development (Picture 2) (Norouzi et al., 2020). The global economy and the economies of most states are drastically weakened and will remain relatively weakened and transformed for several years and possibly decades (Gourinchas, 2022). It means that the recession will spread more widely, reversing the trend of the past seven decades.
In addition, geopolitical tensions, which affect the supply and demand for oil, are often associated with many oil-producing countries, especially in the Middle East (Su et al., 2019). However, other countries have added to the uncertainty in oil supply, affecting prices. Economic sanctions resulting from geopolitical tensions could also lead to instability in energy markets (Su et al., 2019). The geopolitical situation that began in late 2021 and escalated in early 2022 led to a 35% increase in US oil prices (Kuik et al., 2022). Changing oil prices have a significant impact on the economy of all countries of the world, regardless of whether they are exporters or importers.
Conclusion
The movement of the US GDP largely determined the dynamics of oil prices over the past decade. Undoubtedly, in the future, as the financial system is reformed towards greater transparency and the degree of regulation of the stock and commodity markets, GDP will become more complicated.
Another factor that can affect the nature of the relationship between these indicators may be the transition of the financial crisis into a protracted economic one. In addition, the supply and demand for oil, as well as changes in its prices, directly depend on international relations. Although the oil market has been subject to constant crisis situations since 2020, there is still an expectation of demand growth in the near future.
Reference List
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