Comments on: Reader Question http://www.mesirowfinancial.com/blog/economics/2011/11/10/dswonk/reader-question-2/ Thu, 31 Jan 2013 15:19:06 +0000 hourly 1 By: Diane Swonk http://www.mesirowfinancial.com/blog/economics/2011/11/10/dswonk/reader-question-2/comment-page-1/#comment-34 Diane Swonk Wed, 16 Nov 2011 21:36:51 +0000 http://www.mesirowfinancial.com/blog/economics/?p=1590#comment-34 The issue is as much the composition as the level of growth in China. As China shifts its reliance on growth from exports and construction to domestic demand, which it is beginning to do, China’s demand for energy will rise less rapidly. The issue is that the composition of growth is shifting from extremely inefficient and high energy parts of the economy to more energy-efficient and less energy-consuming parts of the economy. So, we could see China become less of a mover in global oil markets, even if it does not slow down demonstrably. Moreover, it is in China's best interests to become more energy-efficient and less energy-dependent as it represents a major cost for them. This is pushing them to replace inefficient state-owned enterprises with more efficient, less state-controlled substitutes. The hurdle is the military, which still has a major hold on much of the country's export manufacturing capacity and doesn't want to give it up. The military would also like to regain some power with a change in leadership in China in 2012. For the second part of your question, natural gas prices are expected to remain low relative to oil for many reasons. One is the discovery of cheap ways to extract natural gas from shale and ample domestic reserves. The other is that the price of oil is being supported by an artificial floor as a result of the "Arab Spring," as monarchies in the Middle East are upping their subsidies to prevent their populations from rebelling against them. The revenues for those subsidies come from oil, which means that the Organization of the Petroleum Exporting Countries (OPEC) tends to resist declines in the price of oil at a much higher threshold than in the past. Some in the oil industry estimate that the clearing price for oil to meet budget (subsidy) demands has moved from about $72 per barrel to well above $80 per barrel in Saudi Arabia and is still rising. In some of the smaller oil-producing nations, they need the price of Brent North Sea Crude to clear $100 per barrel to meet their needs to pay subsidies. This could cause revolt over the longer haul, and all could unravel if we truly are forced to endure another global financial crisis (this time emanating from Europe). Short of a crisis, it will take much longer for that differential to narrow. The issue is as much the composition as the level of growth in China. As China shifts its reliance on growth from exports and construction to domestic demand, which it is beginning to do, China’s demand for energy will rise less rapidly. The issue is that the composition of growth is shifting from extremely inefficient and high energy parts of the economy to more energy-efficient and less energy-consuming parts of the economy. So, we could see China become less of a mover in global oil markets, even if it does not slow down demonstrably. Moreover, it is in China’s best interests to become more energy-efficient and less energy-dependent as it represents a major cost for them. This is pushing them to replace inefficient state-owned enterprises with more efficient, less state-controlled substitutes. The hurdle is the military, which still has a major hold on much of the country’s export manufacturing capacity and doesn’t want to give it up. The military would also like to regain some power with a change in leadership in China in 2012.

For the second part of your question, natural gas prices are expected to remain low relative to oil for many reasons. One is the discovery of cheap ways to extract natural gas from shale and ample domestic reserves. The other is that the price of oil is being supported by an artificial floor as a result of the “Arab Spring,” as monarchies in the Middle East are upping their subsidies to prevent their populations from rebelling against them. The revenues for those subsidies come from oil, which means that the Organization of the Petroleum Exporting Countries (OPEC) tends to resist declines in the price of oil at a much higher threshold than in the past. Some in the oil industry estimate that the clearing price for oil to meet budget (subsidy) demands has moved from about $72 per barrel to well above $80 per barrel in Saudi Arabia and is still rising. In some of the smaller oil-producing nations, they need the price of Brent North Sea Crude to clear $100 per barrel to meet their needs to pay subsidies. This could cause revolt over the longer haul, and all could unravel if we truly are forced to endure another global financial crisis (this time emanating from Europe). Short of a crisis, it will take much longer for that differential to narrow.

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