If falling energy prices are such a good thing for the global economy then why are we seeing so much turmoil? Oil prices continue to plunge as Russia hikes interest rates to 17% and China’s manufacturing sector slips into contraction falling to 49.5. Deflation fears in Europe rise as UK CPI fell to 1 percent which was a 12-year low. While Europe's manufacturing data and German sentiment came in better than expected, overall the outlook remains dour. The action signals contraction and that is not what the world wants to hear.
We know for a fact that falling oil prices are not a good thing for Russia. While the People may support President Vladimir Putin’s adventures in the Ukraine they may have second thoughts as their economy starts to crumble. The Russian Central Bank took aggressive action on Monday to try to stop a run on the Ruble and perhaps the Russian banks by spiking interest rates to a shocking 17%. Yet after an initial spike in the ruble it seems that 17% may not be enough as OPEC floods a struggling global economy with oil.
Especially when the world’s second largest consumer of oil, China seems to be slowing faster that most people had hoped. So if China slows further where is the demand growth going to come from?
The other concern, of course in Europe, is deflationary fears. In the UK inflation based upon their CPI came in at 1% which was a 12 year low. While Bank of England Governor Mark Carney said that overall the falling price of oil should be a net positive, unless the pain in the energy sector spreads to other sectors.
Yet how can it be contained when there are predictions by Goldman Sachs that $1 trillion on energy projects could be shelved. The Financial Times reports that “Goldman Sachs has warned that any cancellation of these developments would deprive the world of 7.5m barrels a day of new output over the coming decade — or 8% of current global oil demand”. While that may create a bull market and shortages in the future, in the present the market has to fight over supply and fight deflation.
Yet the big question is how the Federal Reserve will react to this plunging oil price. Fed officials have accentuated the positive but behind closed doors there has to be some angst. The last time oil prices plunged like this was 2008. Does anyone really think that that plunge in price was good for the economy? The only thing that stopped oil prices from falling then was when the Federal Reserve went to quantitative easing. Now with the Fed working on an exit strategy it seems oil is unwinding again.
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