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Escalating oil prices will become politically sensitive: Kemp

Oil prices have risen to their highest for more than seven years, climbing above levels that triggered a U.S.-led release of strategic petroleum reserves last November.

Policymakers may be less likely to respond at this time as consumers and businesses have had more time to grow accustomed to prices around current levels.

However, if prices rise nearer to $100 per barrel and look like they will continue increasing, the probability of intervention will grow rapidly.

In the advanced economies, oil, gas and electricity are some of the most sensitive prices for households and businesses and therefore for elected policymakers.

Gasoline and diesel are one of the largest components of consumer spending, with one of the highest individual weightings in the consumer price index .

Price changes are highly visible since fuel is purchased frequently ― in contrast to durable goods, which cost more but are purchased rarely.

Rapid increases in fuel costs therefore tend to depress consumers’ sentiment about their own finances, heighten anxiety about broader changes in the cost of living, and exacerbate concerns about the state of the economy.

Political sensitivity around fuel price changes is not just about the absolute level of fuel prices but also the direction and rate of change, and expectations about whether increases will be short-lived or more permanent.

Consumers, businesses and policymakers continually update their expectations of “normal” fuel prices based on relatively recent experience of actual prices.

Recent prices over the last 12 months, three years or even five years have much more influence on perceptions than prices 10, 20 or 30 years ago, which have begun to fade from memory.

Sensitivity also depends on how changes in fuel prices compare with other goods and services and with changes in household incomes.

Oil prices attract more attention when they are escalating more rapidly than other goods and services, wages and household incomes.

PAIN THRESHOLD
On most of these measures, the sensitivity of oil prices was exceptionally high in October and November 2021, which helps explain the Biden administration’s decision to release 50 million barrels from the U.S. Strategic Petroleum Reserve.

Sensitivity was also very high in May and June 2011, which explains why the Obama administration ordered a coordinated release of emergency oil stocks with other members of the International Energy Agency.

In both cases, prices were high in real terms, had increased rapidly over the previous twelve months, and the rate of increase seemed to be accelerating.

There were widespread expectations prices would continue rising unless OPEC and its partners increased output or strategic stocks were released.

In both November 2021 and June 2011, oil prices were rising much more rapidly than core inflation rates and much faster than wages and household incomes, maximising their impact on household spending.

At present, there are fewer reasons to believe prices are especially sensitive because the rate of increase is slower and consumers and businesses have had more time to get used to them over the last 12 months.

Front-month Brent futures prices are currently 60% higher than a year earlier, but the increase was as much as 125% in October 2021.

Since the start of the year, however, prices have started to accelerate and are now entering a much more politically sensitive area.

The closer they get to $100 per barrel in the next few months, the greater the likely reaction from consumers, businesses and policymakers.

If prices continue escalating, policymakers will start to scrutinise the output and investment decisions of OPEC+ and U.S. shale firms much more closely, and ask why there has not been a corresponding production response.
Source: Reuters (Editing by David Evans)

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