What is the price of oil and why is it rising?

The price of oil has been on a roller-coaster ride over the past few years, plummeting from its 2014 peak before recovering – all with huge consequences for the global economy and especially oil-producing states.

The threat of war between the US and Iran continues to drive oil prices up amid fears supplies could be disrupted.

Brent Crude, the major benchmark price for purchases of oil worldwide, rose to $73 a barrel on Tuesday.

It follows comments by Iran’s President Hassan Rouhani yesterday in which he said Iran could block oil shipments from the Gulf if its oil exports were stopped, cutting off the world’s most vital oil supply route.

In May, the price of oil hit a four-year high of $75.43, an increase of nearly 20% on the start of the year, driven primarily by Trump’s promise to pull the US out of the Iran nuclear deal and reimpose sanctions on the world’s third biggest oil exporter.

Amid pressure from the Trump administration to bring down oil prices, last month the Organization of Petroleum Exporting Countries (Opec) voted to increase production by an extra 708,000 barrels per day in a bid to keep oil prices steady.

Why did the price of oil plummet in 2014?

With prices hovering around the $70 mark, it is a far cry from the heady days of June 2014 when Brent Crude hit $115 a barrel.

What followed became known as the Great Oil Bust of 2014, when prices dropped roughly 40% between June and December of that year, and continued to fall until they hit a low of just $36.05 a barrel in early 2015.

Robert J Samuelson writing in the Washington Post said the price collapse “mainly reflects too much supply chasing too little demand”.

Surging US shale oil production, which had increased by 3.5 million barrels a day from 2008, coincided with lower-than-expected global demand and the lifting of US economic sanctions against Iran by Barack Obama – all contributing to pushing down prices.

This is because even small shifts in the supply-demand balance can result in significant price changes.

“Modest surpluses and shortages can trigger dizzying price swings, because consumers’ needs - in the short run - are rigid,” said Samuelson, while “shortages cause a scramble for supply; surpluses produce price plunges to clear the market”.

What are the consequences of oil price fluctuations?

Declines in oil prices signal a massive transfer of wealth from producers to consumers, estimated at about $1.5trn annually by economist Edward Yardeni.

Writing in December 2014, Samuelson said that “although the full implications are hazy - in part because it’s unclear where prices will settle - likely effects include a boost to the sluggish global economic recovery and political strains for some major exporters, including Nigeria, Venezuela, Russia and Iran”.

Nowhere has the political impact of plummeting oil prices been more acute than in Venezuela.

According to Reuters, the country’s output has halved since the early 2000s to 1.5 million barrels per day, hit by a lack of investment in the oil industry.

Combined with falling oil prices, the socialist government of Nicolas Maduro has been forced to dramatically cut public spending, leading to huge shortages in the likes of food and medicine. This in turn has provoked mass public unrest and brought the country to the brink of civil war.

To a lesser extent, Nigeria and Russia have experienced a similar level of public upheaval in recent years. In these countries, an over-reliance on oil revenue has hit their economies hard.

There are also, however, concerns the price correction of the past six months could spark the next economic downturn.

CNBC says “this should not come as a surprise for any investor who is a student of market history” given the last five US recessions were also preceded by a rise in oil prices.

What does the future hold?

Opec appears split on future cuts, says Fortune, with Iran wanting to see crude prices held at $60-$65 a barrel and its great regional rival, Saudi Arabia, aiming for $80.

This should see prices stabilise in the short-term around the $70 mark.

The biggest medium-term unknowns which could hit supply and drive up prices include the deteriorating political situation in Venezuela and the impact of renewed US sanctions on Iran.

Russia’s oil minister Alexander Novak believes that the sanctions have already pushed up oil prices by anywhere from $5 to $7 per barrel.

CNN Money says this could affect as many as one million barrels per day of crude supply. Although some American allies, including India, Japan and South Korea, are expected to follow suit and cut off Iran, the effect could be tempered if the EU and China stick to the agreement and decide not to reimpose sanctions.

Investors, meanwhile, “remain concerned that key Opec producer Saudi Arabia will increase output to make up for losses from countries such as Venezuela”, says Bloomberg, while “the same time, there are fears that ongoing trade conflicts between the U.S. and China will damage economic activity and hurt demand”.