High Inventories, Low Demand Will Continue to Keep Oil Prices Down

By Brittany Kleinpaste

Continued increases in global inventories have put significant downward pressure on oil prices since mid-2004. With global inventory build-up likely to continue in 2016, and against slow global growth this year, upward pressures on crude oil prices will be weak at best.

The U.S. Energy Information Administration estimates that global oil inventories increased by 1.9 million barrels per day in 2015, marking the second consecutive year of inventory builds. High levels of global production have exceeded growth in global oil consumption, pushing oil prices to the lowest monthly average levels since mid-2004. The EIA expects inventories to continue to rise in 2016 by an additional 700,000 barrels per day and does not expect the first draw on global inventories to be until the third quarter of 2017. As long as the oversupply exists, oil prices will remain depressed.

Much of the 2015 growth in oil supply has occurred in North America. According to the EIA, U.S. production of crude oil averaged an estimated 9.4 million barrels a day in 2015. However, low oil prices have already lowered drilling rig counts and will continue to do so, thereby dropping production levels. The expectation is that production levels will decline to an average 8.7 million barrels per day in 2016 and 8.5 million barrels per day in 2017.

These domestic declines largely reflect a slowdown in onshore production. However, productivity improvements, lower breakeven costs and anticipated oil price increases in the second half of 2017 are expected to reverse the falling onshore production trend.

Oil imports dropped dramatically as domestic oil production gained steam. In fact, the share of total U.S. liquid fuels consumption met by net imports fell from 60 percent in 2005 to an estimated 24 percent in 2015. The net import share is likely to remain flat in 2016 but increase slightly in 2017 in response to the decline in domestic production, reversing the trend that began in 2005.

The price of West Texas intermediate crude will rest within the $30 to $40 range through most of 2016, according to ABA’s Economic Advisory Council, a committee of 15 chief economists from among the largest banks in North America. As inventory levels adjust and global growth improves, the EAC expects prices to begin to climb later in the year, reaching $45 per barrel by the fourth quarter, with a gradual increase into 2017.

The values of futures and options contracts support this prediction, but also suggest high uncertainty in the price outlook of oil. For example, West Texas Intermediate futures contracts for April 2016 delivery, traded during the five-day period ending Jan. 7, suggest crude oil prices will range from $25 to $56 per barrel. Periods of heightened volatility this year will reflect the pace and volume at which Iranian oil reenters the market, the strength of oil consumption growth and the responsiveness of non-OPEC production to low oil prices.

Even with the pain suffered by oil and gas producers and servicers, consumers have realized significant benefits. For example, the price of U.S. retail regular gasoline averaged $2.43 per gallon in 2015—down from $3.70 in 2014—and the EIA expects monthly retail prices of U.S. regular gasoline to reach a seven-year low in early 2016. Even with pump prices likely to rise in the spring—to a forecasted average $2.03 per gallon for retail regular gasoline in 2016 and $2.21 per gallon in 2017—consumers will realize as much as a $550 savings on gasoline this year. This will help drive consumption which has been a strong and consistent contributor to GDP for the last five years.

About Brittany Kleinpaste

Brittany Kleinpaste
Brittany Kleinpaste is director of economic research at ABA, where she covers credit unions and ag banking, among other topics.
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