Navigating oil price volatility

Pakistan must decide whether to risk potential oil price rally or safeguard its interests

KARACHI:

In the uncertain landscape of fluctuating oil prices, it is imperative for Pakistan to be proactive rather than reactive.

Pakistan, an oil-importing nation facing financial instability, has found relief this year as oil prices declined. At this juncture, it must decide whether to wait and risk a potential price rally that could strain its finances, or start taking measures to safeguard its interests.

The global oil benchmark, Brent crude, has fallen from over $100 per barrel a year ago to $75 at present. This downward trend has positively impacted Pakistan’s import expenditure, helping to safeguard valuable foreign exchange.

In May, the country spent an average of $533 per MT on buying crude oil and purchased petroleum products, which are more expensive, for around $630 per MT, PBS data shows. This represents a decrease of about 25% compared to the same month of last year.

Will oil prices sink further into the $60 a barrel range, providing an additional advantage to Pakistan and reducing the import bill even more? Or, will prices rebound to $90 or above, thereby putting a strain on Pakistan’s financial situation?

The reality is that the future appears decidedly uncertain, with a myriad of elements that could drive commodity prices upwards or downwards.

Interestingly, some indicators suggest oil prices may be near equilibrium. One such crucial data is the volume of commercial crude oil and refined petroleum product reserves held by advanced economies, specifically member nations of the Organisation for Economic Co-operation and Development (OECD).

Generally, an upsurge in crude oil inventories among OECD countries implies oversupply in the market, leading to a potential drop in oil prices. Conversely, a reduction in these stockpiles signals tightening supply, which could put upward pressure on oil prices.

The US Energy Information Administration data shows OECD nations held 2,842 million barrels of oil and petroleum products in May. This quantity largely aligns with the 10-year seasonal average.

Additionally, the one-month Brent futures price at the end of May stood at $73 a barrel, which is in proximity to the current level and parallels the long-term median price after inflation adjustments. Although this is a rough estimate, it indicates a market that appears to be in balance.

Nevertheless, a drop in commercial inventory levels could drive oil prices upwards. Such a decrease could transpire as major oil producers curtail output. Members of OPEC+, including Saudi Arabia, are preparing to further scale back crude oil production.

Meanwhile, the ongoing reduction in active oil drilling rigs in the US, sustained over nine consecutive weeks, also hints at a potential drop in shale oil production from the US oil fields in the coming months.

Such circumstances could slash inventory levels and consequently push oil prices higher.

Conversely, several factors could push oil prices lower, such as an increase in crude oil supplies from countries like Iran, Russia, and Venezuela who might ramp up exports. Additionally, economic weakness in Europe and North America could dampen oil demand. With Europe caught in a mild recession and US GDP growth decelerating, oil demand might be adversely affected.

Moreover, China, the biggest buyer of crude oil in the world, is currently grappling with slower-than-anticipated economic growth. Therefore, the Chinese demand might not rise as robustly as many industry experts previously expected.

In summary, while the oil market currently displays equilibrium, the direction Brent oil will take in the future remains uncertain. It could move either way, or possibly remain steady, depending on which influencing factors eventually prevail.

Given such circumstances, how should Pakistan respond? It certainly cannot afford to continue with business as usual. What if oil prices surge – a plausible scenario – and put pressure on the nation’s current account balance? The nation must gear up for adverse scenarios; it must be ready to face the harshest of circumstances. Waiting passively for the market to react could be a costly mistake as by then it could be too late. Policymakers should act proactively.

A vital preparatory measure involves bolstering the domestic oil refineries. Ensuring they are primed to procure and process crude oil is crucial.

The refining sector’s utilisation rate has drastically fallen to below 50% during the first 11 months of FY23, an alarming trend, OCAC data shows. The government needs to collaborate with these refineries to augment their utilisation.

If refineries operate at 100% capacity, this would result in forex savings, regardless of changes in oil prices.

The focus should be on growing and strengthening the oil industry to insulate it against external shocks by ramping up refining capacity, enhancing commercial and strategic reserves of crude oil and petroleum products, amplifying oil and gas exploration and production activities by incentivising both domestic and foreign companies, and bolstering the energy infrastructure like pipelines and terminals. The crux of the matter is to prepare and take proactive steps.

By adopting a forward-thinking approach, Pakistan can navigate the uncertainties of the global oil market, thereby paving the way for a more sustainable and prosperous future.

The writer is a corporate consultant specialising in business and economic issues, with a particular emphasis on
the oil sector

 

 

Published in The Express Tribune, July 10^th, 2023.

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