How low can it go?
This story first appeared in the January 5, 2015 issue of WWD. Subscribe Today.
The oil price collapse in 2014 — the biggest in nearly six years — has been a boon for U.S. consumers, bad news for financial markets and a vexing matter for anyone looking to take the long view on the world economy.
Pessimists staring at barrels below the $60 mark (oil closed at $52.81 on Friday) point to a future of increased geopolitical unrest, the growing specter of deflation, billions of dollars of aborted investment in the North Sea, the U.S. and elsewhere, and spooked consumers from emerging markets that rely on crude-oil exports.
The naysayers point to further evidence of a slowdown in China: Less demand for oil from Asia’s biggest importer can surely only mean that country is headed for a hard landing. Indeed, China’s economic growth could slow to 7.1 percent in 2015 from 7.4 percent this year, according to the country’s central bank.
Optimists are celebrating that savings at the gas pumps will boost consumer spending, especially in America, while businesses will benefit from reduced shipping and manufacturing costs. In October, Citigroup Inc. declared that lower oil costs could unleash a global economic stimulus of $1.1 trillion.
If that were not enough reason to cheer, those who see the glass as being half full also dismiss the downward spiral in oil prices as a short-term trend — with little risk of lasting damage.
Neither optimist nor pessimist, the Bank of England’s Governor Mark Carney prefers to keep his options open: “The recent sharp fall in the oil price should support global and U.K. growth,” he said in mid-December, during a speech about world financial stability.
“It is a positive development, but it is also one that entails some risks. Geopolitical risks could intensify. Inflation expectations could be further depressed in economies, such as the euro area, where core inflation is already weak, slowing nominal income growth and increasing the burdens of debts.”
For retailers, especially e-commerce companies, lower oil prices could not be better for business. According to Bernstein Research, since 2000, transport- and housing-related fuel has averaged about 6 percent of U.K. consumer spending.
With the fall in oil prices, the bank said it expects more room in consumer budgets to spend on discretionary items. “In addition, lower oil prices may also lead to a reduction in transport costs for the retailers.” Bernstein said Asos and Inditex should be among the winners.
“Asos has significant distribution costs — about 15 percent of sales — while Inditex has a centralized supply chain and uses daily air freighting. This means both can potentially benefit from a fall in oil prices,” the bank said.
According to the BBC, a 10 percent fall in oil prices should lead to a 0.1 percent increase in economic output in the euro zone overall. China, which is set to become the largest net importer of oil, should gain from falling prices, according to the news outlet.
In addition, the lower oil price is unlikely to have a dramatic impact on business in the Middle East. According to Matthew Green, head of research at CBRE Middle East, the slump is unlikely to impact retailers and mall traffic in the Gulf, one of luxury’s major markets.
“Whilst the recent decline in oil prices and local stock markets is, of course, a concern, in reality it only becomes an issue for local economies if the slump worsens and then is prolonged for a sustained period of time,” he told WWD. “At this point, GCC [Gulf Cooperation Countries Bahrain, Kuwait, Oman, Qatar, Saudi Arabia and the United Arab Emirates] should be relatively well insulated as a result of high revenues achieved from $100-plus oil prices that have prevailed during the first six months of the year.
“In terms of individual malls and retailers, the impact is only really likely to be felt if there is a material drop in the local or global economy, which could then, in turn, impact tourism inflows and consumer spending power,” he added.
Others see the drop in price as a harbinger of bad times to come.
While countries such as Saudi Arabia, Qatar and the U.A.E. have robust foreign-currency reserves and can run oil deficits for years, exporters — Nigeria and Venezuela, among them — need oil prices to be well over $100 a barrel in order to balance their budgets. Russia, meanwhile, is heavily dependent on its oil exports, and falling prices have been a body blow to an already stumbling economy and crumbling currency. The impact already has been seen in major Russian tourist destinations in Europe and the U.S. as consumers cut back spending, particularly on luxury goods.
“Many emerging-market customers make a lot of money when oil prices are high, so lower oil prices is not so good for high-end luxury,” said Antoine Belge, global co-head of consumer and retail equity research at HSBC in London.
To make matters worse for some of those oil-producing nations, the stronger dollar is also wrecking havoc on their currencies.
In early December, a basket of emerging-market currencies fell to a 14-year low against the dollar, according to the J.P. Morgan Emerging Market Currency Index. According to Global Blue, the company that oversees tax-free shopping, emerging markets were already showing signs of distress in November — at least at U.K. cash registers, where the local currency is even stronger than the dollar.
“International spending has been down across the board this year, following the weakening economies of key spending nations such as Russia and Thailand, making shopping in the U.K. less appealing as currency rates soar,” said Gordon Clark, U.K. country manager at Global Blue. “Even the biggest markets have slowed, with China seeing growth of 5 percent, Kuwait seeing 6 percent and Saudi Arabia seeing 9 percent year-over-year to date in 2014.”
Looking ahead, it appears the days of the sub-$60 barrel will be short-lived.
In mid-December, Ali al-Naimi, Saudi Arabia’s minister of petroleum and mineral resources, said the drop in oil prices was temporary. “I am optimistic about the future. What we are facing now — and what the world is facing — is a temporary situation and will pass,” he told SPA, the Saudi Arabian state news agency.
“The global economy, especially the emerging economies, will return to sustainable growth, and therefore, the demand for oil will also grow,” he said. This came a month after OPEC, the Organization of Petroleum Exporting Countries, refused to control the oil glut by cutting its production.
Analysts at Barclays agree that the $60-or-less barrel is not sustainable in the long term. The bank said in a recent report that, at some point, OPEC’s refusal to take action will have “massive implications” for the health of the global economy.
“Given the speed and magnitude of the price move in the fourth quarter of 2014, we question OPEC’s willingness to stick to its mandate,” the bank said in a report. “Furthermore, the instability in several key oil export nations means that the risk of potential supply disruptions is still present and arguably more dangerous. In our view, as short-term demand remains inelastic, something has to give: Time, structure, price or production.”