How and Why Oil Prices Change
It is the undoubted truth that various factors affect the international business. Such factors may include from the policies of the countries to the economic factors around the globe. The international business may suffer or grow depending on the product line that a businessperson deals with and the events in the international market. For instance, various economic events as well as social and political circumstances in the regions that produce crude oil affect the oil prices. The paper discusses how and why the prices of oil change in the international market and how such changes affect business activities in different countries.
Economic Cycles/ Cycles in the Economy
The oil prices may change depending on different triggers in the economy. These prices affect countries that produce crude oil and the consumers of such oil. For instance, the decline in the production capacity of the countries that produce oil translates into a shortage of the oil in the consuming countries. The shortages translate to changes in oil prices. Thus, production fields change oil prices affecting the consumers of oil in other countries (Reboredo, 2011). Such changes of oil prices are indirect. They affect consumers in other countries who are not aware of the decline in the production.
During periods of economic recession, oil prices change due to the decline in demand of crude oil. It is noteworthy that during economic recession production falls in the countries that consume oil. Consequently, the production entities in those countries reduce their production and economic activities that use oil. For instance, the countries that use generators for power are highly affected by the changes in oil prices. Such countries tend to reduce their production activities during the recess. Therefore, the reduction of the consumption of oil prompts the sellers to try to attract more buyers into their business. As a result, the oil prices change in favor of the buyers. For example, the period of the recession of 2008 led to the decline of production in many businesses in the United States and other countries within the European Union (Ohanian, 2010). Consequently, the reduction in the production activities prompted changes in the oil prices due to demand reduction. The fall in demand for oil prompts oil prices to fall in the international market.
Decline in Production
Notably, the change of the oil prices follows a certain pattern. For instance, the decline in production triggers the oil market to respond. The buyers move swiftly buying more oil to protect themselves from losses due to anticipated decline in the supply. Consequently, the market responds to the shortages of oil in the market. As a result, the sellers of oil increase oil prices. Due to the shortages, there are more buyers than sellers. As a result, sellers make supernormal profits due to the decline in oil production. Similarly, an increase in oil demand in the consuming countries triggers the international market to respond to the high demand as Reboredo (2011) points out. Consequently, the number of the buyers exceeds the number of the sellers. As a result, the oil sellers raise their prices due to high demand. The buyers end up buying a lot of oil, fearing that oil prices may increase in the near future and, therefore, transfer the cost of increased oil prices on the consumers.
Exchange Value of the Dollar
Oil prices change in response to the strength of the dollar in the international market. The strength of the dollar is relative to the value of the currency of another country. For example, a dollar is connected to the Japanese yen, Nigeria naira as well as other currencies. When changes in the value of the dollar against other currencies trigger the market, the oil prices change accordingly. According to Ohanian (2010), if the dollar gains value against another currency, it makes it expensive for such countries to afford oil. As a result, the number of barrels of oil that importers of such countries can buy declines. As a result, the importers increase the oil prices in their countries. Consequently, the oil prices increase in such countries due to the increase of the dollar value (Oberholzer-Gee, Anand, & Gomez, 2010). On the contrary, when the dollar loses value against other currencies, the importers of oil from the Middle East or Libya can afford to import more barrels of oil at affordable prices. As a result, the importers reduce the oil prices in their countries to the benefit of the consumers. Interestingly, the loss of value in the dollar against the other currencies does not affect the oil prices in the United States of America. Therefore, the value of the dollar affects oil prices in other countries that use dollars to import oil. However, it has no effect on the importing capacity of the United States of America.
Reasons for the Decline in Oil Production
As noted earlier, the oil prices change due to some reasons. For instance, the reduction in the production capacity may be prompted by conflicts in the areas where oil is produced. Oil producing nations such as Libya and other countries in the Middle East have witnessed conflicts and instabilities in the recent past. Consequently, conflicts and civil wars lead to the reduction in the capacity to produce crude oil. According to Cheon (2012), reduction in the production capacity leads to oil shortages in the importing countries. Therefore, a decline in production due to conflicts and civil wars leads to increase in oil prices in other countries, which are far from the country where oil is produced.
Barriers in Transporting Crude Oil
The piracy along the Indian Ocean threatens the safety of water transportation. The importers of oil may fail to import crude oil, fearing that pirates along the sea might hold their ships. As a result, oil supply declines in different countries that import oil and transport it through water. Similarly, increased gunfire in countries that are in transit from the oil producing countries threaten the air transport, which developed countries use to transport oil from Middle East and other regions (Venditti, 2013) . As a result, the demand for oil exceeds supply in the developed countries and eventually oil prices increase. Therefore, the challenge in the transportation of oil causes shortages of oil in countries that important oil. Thus, oil prices increase.
Government Price Controls
In some countries, governments control the prices of the important commodities such as oil. However, governments impose price controls after considering the trends in the international market (Roberado, 2011). For instance, if the currency of the importing country gains against the dollar, the government may consider compelling the sellers of oil to reduce the oil prices. Notably, governments that control oil prices regularly review the prices to avoid disadvantaging the dealers of oil products from losing money due to the price controls. Moreover, price controls may cause a decline or a rise in the oil prices. For example, when a currency of a country loses value against the dollar, the imports into the country become more expensive. To protect the dealers in the oil market, the government may consider adjusting the oil prices upwards thereby causing an increase in the oil prices.
Changes in Demand for Oil
When economic activities increase in a country, the demand for oil increases by a similar margin. Therefore, the oil dealers are not able to supply oil. However, the supply may not match the demand of oil products. As a result, a shortage happens in the oil market. Therefore, the market responds to the shortage by increasing the oil prices as Oberholzer-Gee, Anand, and Gomez (2010) point out. On the contrary, a fall in the economic and production activities of a country leads to a decline in the demand for oil. As a result, supply exceeds demand thereby leading to a decrease in the oil prices. The changes in the oil prices due to changes in the economic activities of a country respond to the forces of demand and supply of the international market.
Effects of Changes in Oil Prices
Changes in the oil prices affect the daily lives of the people. For instance, when producing firms cut production due to the increase in oil prices, the supply of basic products to the public may decline. Thus, the oil prices affect the access to basic products such as food (Cheon, 2012). Every person is a frequent user of the food commodities, and if the food shortages occur, the public suffers. Additionally, the increase in oil prices makes the transportation of products to the customers costly. Consequently, the sellers of the commodities increase the prices of the products thereby making consumers suffer, since he/she cannot afford the commodities.
Furthermore, when an increase in oil prices prompts producers to cut down on production, profits for such producers may decline. Consequently, the producers may decide to reduce their workforce. The reduction in the workforce leads to loss of employment and livelihoods for some employees working for the production companies. The loss of employment affects both government and individuals. For instance, the loss of employment by a large number of employees reduces the amount of taxes that the government can collect from the public. Therefore, an increase in the oil prices reduces the amount of revenue that government collects from the people. As a result, provisions of basic goods such as education, water and electricity may be a challenge to a country where oil prices are high.
To conclude, it is worth noting that changes in oil prices take place in response to forces of demand and supply. When oil prices rise in the international market, the countries that import oil pay higher to purchase the commodities. As a result, the importers of oil increase the price at which they sell to the final consumers. Additionally, oil prices change because of the decline of production capacity in oil producing countries. Finally, the increase in oil prices affects people, when they have to pay more for basic commodities such as food. Thus, changes in the oil prices affect the social life of the citizens of a country.