With this piece we take a look at what are negative crude oil prices, we understand why they’re negative and finally, what’s next. Let’s get right in the piece!
Negative Crude Oil Prices – memes?
What they say is quite right – when you just think that things are going in the right direction is when you realize that there is no direction at all. It happened during the midnight of 21st April 2020 (IST) – the news started flashing how the crude oil prices have fallen by 99% to $0.01. Followed by the news there came this barrage of memes indicating how an actual empty barrel was now costlier than the filled barrel of oil.
Soon enough the oil prices went negative and the memes presented us with the list of things one can buy for themselves if they buy a barrel of oil from the market. That is, if you bought oil yesterday for (-$15) you were “paid” $15 to buy the oil.
So, what happened?
The lockdown! You probably are not travelling as often, which means you are not driving, which also means you are not consuming petrol – see where we’re going? Owing to the ongoing lockdown and travel restrictions due to Covid-19, there has been a drastic drop in demand for oil all over the world. Oil being bought in terms of dollars all over the world, The United States is the worst affected country because of this economic recession brought by the pandemic.
The US is the highest crude oil-producing country, is running out of room to store barrels and at the same time, Russia and Saudi Arabia are flooding the world with excess supply. Due to the obvious gap in demand and supply of oil, US crude for May delivery (so, there’s a delivery every month – with new prices) turned negative on 20th April 2020.
The OPEC-Russia price war:
There was a disagreement about crude oil price between OPEC (Organization of the Petroleum Exporting Countries) and Russia.
OPEC is a group of 14 oil producing nations:
|Venezuela||United Arab Emirates|
In 2018, Russia struck a deal with OPEC nations to cut oil production in order to control or raise the oil prices in the world. They agreed to curb oil output by 1.2 million barrels a day. But in March 2020, Russia backed out of the deal and didn’t stop their production (comment below and tell us what you think maybe the reason). But since Saudi Arabia wanted to keep-up the OPEC-Russia alliance, Russia’s abandoning hurt their sentiments. And in order to teach Russia a lesson, Saudi Arabia raised its production and started offering crude oil at steep discounts.
The Technical stuff explained:
Future contracts: So, here’s some easy cookie for you – futures are a type of agreement in which the buyer agrees to pay the seller a specified amount for a specific asset (here, Oil) in the future. So, now, regardless of what happens to the price of that commodity in the future (Oil is trading at -$15), the buyer has to pay what he promised.
Now, what happened is, the US was not able to sell its oil due to the slowdown in demand and so they had to reduce the prices. But it agreed with Mexico (the futures contract) to buy Oil from them at a specific price and so, even when they did not really need oil, they had to buy it (because of the contract). And now, they have too much oil that they cannot store.
There are two major future contracts (explained in following notes) – WTI (West Texas Intermediate) referring to the oil from North America, while Brent refers to oil from the Middle East, Europe and Russia. The May-delivery futures contracts of WTI were the only ones that went into the negative zone as they were due to expire on Tuesday i.e. 21st April 2020. However, June future contracts are trading at $20/barrel.
The US President Donald Trump intervened signing up a deal with OPEC plus countries to curb oil production by 9.7 million barrels a day in May and June.
This is a significant step in bringing the oil price stability back.
Related: Take a look at Trump vs Twitter: Content Moderation game
Impact on India:
India is the third-largest consumer of crude oil in the world. In 2019, India imported 85% of the oil it consumed. Though the crude oil prices are plunging, the effect on the final price paid by the consumer for petrol and diesel is negligible. This is because the total price of 1-litre petrol/diesel includes VAT and excise duty, together of around 54%, which brings the price equal to Rs.69.59 in state capital i.e. Delhi. But for the Indian Government, this is a golden opportunity to cut their costs on oil imports. This may also be a good opportunity for airlines since the industry relies on oil prices.
P.S. Petrol won’t be free post lockdown 🙂