The oil price jumped after the attack

After the attacks on oil installations in Saudi Arabia, the price, on Monday, climbed 13% over last Friday. This is an important jump, witnessing the Saudi’s decline in production by almost half of its capacity.

Immediately, Saudi Arabia announced that it would do what was necessary to quickly rebuild the destroyed facilities. At the same time, Arabs and Americans said they were ready to use their strategic reserves if necessary to avoid excessive tensions in the oil market.

However, this market has changed dramatically. Such an attack 10 or 20 years ago would have been apprehended as an oil shock, feeding the darkest scenarios. At this time, Arabia had a major role as the world’s largest producer and main regulator of the market. It was the only country that could quickly adjust its production. Arabia was the regulating country of the market. This is no longer the case. The United States is now the leading producer and its production continues to grow month after month.

The logic is not the same anymore. Americans may eventually adjust their production to reduce the losses from Arabia. It’s a completely different game that avoids getting into the logic of an oil shock

Moreover, if the price has risen rapidly but it is still below the prices observed last spring and almost 4 dollars below the average recorded in 2018. There is no danger.

For now, the rise is not strong enough and its duration too small to change rapidly the economic scenario. If Saudi rebuilds its facilities, the price may remain for some times a little higher than in recent weeks. But, the impact on inflation will be reduced. In October, last year, the price per barrel was higher than 80 dollars, even 85 dollars. This high price level then was the trigger for the yellow vests movement in France.

We could thus have a slight adjustment on prices, companies adjust the price rather quickly a few cents at best, but a negligible impact on inflation given the very high prices seen last year, significantly higher than those observed in the current period. .

An oil shock could only be perceived if tensions persisted and prices rose sharply every day. This market dynamic would then change with a persistent shift. It would also affect expectations of all the players in the economy, at the risk of provoking a self fulfilling negative shock. This is not the case.

We’re not at this stage yet as we don’t know the origins of the drones It is therefore difficult to perceive how the equilibrium has changed in the Middle East.

In 1973/74, the oil shock reflected the quadrupling of the price of oil after a very long period during which prices were very low. This is not the current configuration. Given the positions on the possible use of strategic reserves, the escalation of tensions in the oil market is far from the most likely scenario.

Low inflation rate expected in 2019, lower than core inflation

The price of oil is, on December 19, 20% below its 2018 average. The contribution of energy to the inflation rate will quickly be negative. Inflation will fall below 1% in the euro zone in 2019. (The energy price is the main source of fluctuations of the inflation rate. Sometimes on the upside sometimes on the downside. Currently it’s on the downside)

For a zero contribution to inflation, on average over 2019, the price of oil should increase by 25% It is only above this 25% increase, on average in 2019, that inflation will go above underlying inflation (close to 1%). No rush for the ECB to change its mind on monetary policy

The ECB will be unable to normalize its monetary policy soon

The ECB will not start the normalization of its monetary policy in 2019. The interest rate level will remain stable, my bet is that the refi rate and the deposit rate will remain at the current level in 2019.
The lack of external impulse, the slower momentum in the manufacturing sector and the convergence of the headline inflation rate to the core inflation rate are three reasons that suggest that the ECB will not take risks in the management of its monetary policy. The monetary policy normalization, even the expectation of it, may weaken economic activity. Therefore it’s not the good policy when the inflation rate is way below the ECB target with no convergence to the target in a foreseeable future.

The framework I have in mind is the following: Due to more heterogeneous behaviors and uncertainty at the political level, global growth will become, in 2019, weaker than in 2017 and in 2018. Inside the Euro Area, there are no coordinated policies that may boost growth, therefore growth trajectories will converge to potential growth. This framework is not a source of monetary policy normalization. But we can add that the dramatic oil price drop in recent weeks (due to excess supply in the US and in Arabia) will push the headline inflation rate to the core inflation rate which has been close to 1% for months. It’s still way below the ECB target and therefore not a source of monetary policy normalization.  Continue reading

Italy, Oil – My Monday column

Judging by the Italian president Sergio Mattarella’s (justified) refusal to approve a government that would have been dominated by the League with its aversion to Europe and its institutions, the forthcoming parliamentary elections in Italy will focus on the euro and Italy’s membership of the euro area.

The worrying point here is that the Italian population is no longer in favor of the euro, as shown by the latest European Commission Eurobarometer survey (October 2017), when 40% of Italians said that the euro is a bad thing for the country as compared to 25% of the population in the euro area as a whole, and also in France. Meanwhile, only 45% of Italians think that the euro is a good thing for the country vs. 64% on average in the euro area and France. The European question played a major role in the French electoral campaign in spring 2017, but we can see that the European aspect of the Italian elections was driven by different considerations. Close to half of Italians are skeptical on the usefulness of the single European currency, and herein lies the real difference. Continue reading

Oil above $75/bbl for long

Oil price trends have shifted since the start of April, with figures set on a range of $70–75, compared with a previous figure of around $67 on average, i.e. higher than figures seen since late 2014. This reflected the impact of demand driven by world growth.

The chart below shows that trend altered after April 6, when the White House implemented sanctions against Russia, with subsequent threats on Iran merely serving to amplify this trend. This morning after Donald Trump’s decision on Iran it is above 75 as shown on the graph. Continue reading