Economic Report 1999 Index

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Oil Price Trends/Market During 1998 the oil price declined steadily over the first two quarters, settled at historically low inflation adjusted levels and then declined further towards the end of the year, (see Figure 7). For the oil market, the unfolding of the financial crisis in Asia, and its repercussions in other emerging markets provided a steady stream of bad news. Demand forecasts for the "Tiger Economies", which were previously regarded as the engine of growth for the world oil market, were successively revised downwards, and initial perceptions of a rapid recovery were marked down. Figure 7 - Oil Prices Since 1982 World supply was cut during 1998, but only marginally. UK production did not decline because of the high fixed costs of the UKCS, and together with production from many other non-OPEC countries, oil supply reached record levels. Exploration and investment budgets were cut but the impact of these measures has still to feed through to UK production. By late 1998 inventories were very high and the price of Brent Crude declined to $9.13/bbl on December 10th 1998. Sustained production cuts by OPEC and Mexico in Spring 1999 had an immediate impact on the price. In addition, demand growth started to increase and the stabilisation and recovery of the Asian economies led to a return to growth in oil demand from the region, albeit at a modest rate. In the second quarter of 1999 OPEC re-stated its output targets and largely held to them. The oil price rose, initially in anticipation of declining inventories in the approaching winter months. Subsequently, as production restraints held firm, and the expected inventory declines materialised, the higher prices have continued, reaching over $25/barrel in November 1999. Despite the rising prices during 1999, industry investment has not been restored to its pre-1998 levels. Rig rates have risen in various competing oil and gas provinces but have remained low in the UK, and spare capacity is high in UK fabrication yards. Oil price expectations have not followed the spot price. During the period of very low oil prices at the beginning of 1999, the forward curve remained significantly above the spot price. More recently, with spot prices in the low $20s, the forward price in three years has continued to be approximately four dollars lower. In the last 20 years the real oil price has gradually declined from $80/barrel to the current low levels of around $18/barrel (average price for 1999). The supply fundamentals of the upstream business continue to point to downward pressure on prices. The high prices witnessed in late 1999 were a result of OPEC cohesion but the majority of industry analysts do not believe these will be sustained. The average of 25 independent forecasts of oil prices for 2000 collated by HM Treasury was $18.70/barrel1*. In the early 1970s, global reserves were estimated at 700 billion barrels; they now stand at some 1100 billion barrels, despite the fact that 600 billion barrels have been produced in the intervening period. A third of the reserves since 1972 have come from outside OPEC. The international oil industry has become increasingly more successful in finding new commercial reserves in ever more remote and hostile environments through the application of technology at all levels of the business. The continuation of this global success will, through its impact on the supply side, sustain downward pressures on the oil price. *Source: Treasury publication "Forecasts of UK Economy" 13 October 1999