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The Consequences of Falling Oil Prices

12/09/2014 12:42 EST | Updated 02/08/2015 05:59 EST
Cris Kelly / Alamy

The price of oil has declined significantly in the last several months. The price of crude oil has decreased from over $100 a barrel to around $65 a barrel. This fall in oil price has been due to an oversupply of oil in the world market by the OPEC members. The OPEC members account for 40 per cent of global oil production. They are committed to produce 30 million barrels of crude oil a day. However, they are overproducing by 600,000 barrels a day. The supply glut is leading to a fall in oil prices. The decrease in oil price is expected to have important consequences for various countries.

Falling oil prices is expected to affect the Canadian economy. The low prices may have different effects on the Canadian economy and in various geographical locations of the country. The oil sands in Alberta require high oil prices for the extraction of oil to be feasible. A fall in oil prices may make the production of oil in Alberta economically unfeasible. This may force the oil producers to reduce their production levels; while large producers would be able to sustain the low oil prices and the resultant lower revenue and profit, small producers may face serious problems in sustaining themselves when exposed to low oil prices. The adverse effect on the oil industry may have a multiplier effect on Alberta's economy. Other industries like retail, banking or the housing industry may suffer from dampened demand due to the slowdown in the major industry, oil. This may lead to lower GDP growth and higher unemployment in the oil-rich province. Saskatchewan may also be adversely affected due to its dependence on oil production.

The fall in oil prices may lead to lower oil exports and, consequently, lower demand for the Canadian dollar. A depreciation of the Canadian dollar would be advantageous for Canadian exporters. In the last several months, the Canadian dollar has already depreciated against a soaring US dollar. It depreciated from US $1=CAD $1.06 to US $1=CAD $1.16. A further depreciation of the Canadian dollar would help Canadian exports, including manufacturing. Export of Canadian goods and services would become cheaper in the export destinations which may lead to higher sales in the destination countries. The higher exports would increase the revenue of the exporters that may motivate them to undergo expansion and increase employment. A province like Ontario would definitely benefit from a depreciating loonie. Its economy may benefit from increased exports to the US and large emerging economies like China. This may lead to higher GDP growth and increased employment in the province. Therefore, the declining oil prices may adversely impact Alberta's employment and GDP growth while benefiting exports of manufactured and non-manufactured goods and services that may favor the economy and employment figures in other provinces.

Consumers will benefit from a fall in oil prices. A decrease in oil prices would decrease the transportation cost for people as they would be spending less on fuel. This would essentially mean an increase in the purchasing power of their income which translates into an increase in their real income. Therefore, the fall in oil prices benefits the average citizen in terms of higher real income. Again, businesses that use oil as an input would experience a reduction in their cost of production. This would increase their profit margins, some of which they may pass on to the buyers of their goods and services. The buyers will benefit from lower prices of goods and services that will boost their real income. This may motivate them to increase their purchases of goods and services. On the other hand, businesses may also ramp up their production due to higher profits and increased demand. With increased demand for goods and services and higher business activity, the economy may experience a boost leading to higher growth and employment.

The fall in oil prices would affect the US economy as well. As a significant energy consumer, the US would benefit from low oil prices. Consumers would gain in terms of lower gas costs and resultant higher real income that may motivate them to increase their expenditures. Again, businesses would benefit in terms of lower cost of production and higher profits. Combined with higher demand, businesses may increase their level of production. Therefore, the falling oil prices may accelerate the recovery of the US economy. It would boost the economy that may lead to higher business activity and employment in the US economy. However, the falling oil prices may adversely affect the US shale industry. It may make energy projects economically unfeasible and lead to production becoming financially unsustainable. Therefore, the low oil prices may be unfavorable for the states that are dependent on fracking, and the US shale industry and related industries. Overall, the falling oil prices is expected to help the US economy, and revive employment and business activity.

The low oil prices is predicted to benefit other oil importers like the European Union and Japan. Both the EU and Japan are trying to recover their troubled economies through expansionary monetary policies. The falling oil prices may help them in their recovery by boosting domestic demand and revamping business activity. Also, it may improve their exports as lower oil prices would mean that exporters' cost of production would decrease, making them more competitive in the export destinations. A similar trend would be observed in China which is also an oil importer. The low oil prices may help it to increase domestic demand and production that would help to stem its dampening economic growth.

The low oil prices are harmful for oil exporting countries. It would lead to lower oil revenues for these countries. It would be particularly difficult for the countries that are mostly dependent on oil revenues for maintaining their social programs while the ones with immense oil wealth can ride out the reduced oil prices.

The falling oil prices would affect different countries in different ways. Also, it would have favorable effects on oil-importing countries while negatively impacting the oil exporting countries. Again, within countries, certain regions and industries would benefit while other regions and industries may suffer. The oil industry in countries like Canada and the US may be adversely affected in terms of curtailed production. Also, new oil exploration may be postponed, at least temporarily, as the low oil prices may make them economically infeasible. Overall, the falling oil prices is expected to benefit the world economy in terms of increased economic activity, higher demand, increased employment and, possibly, increased trade. This would boost the growth rate of the global economy and help it to recover to pre-recessionary levels.

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