High Oil Prices, Nearly Forgotten, Return

High oil prices were supposed to be a thing of the past, driven lower by over-supply in the US and a continuing recession is almost every large economy other than China. The smallest hint of an economic recovery in the second half of 2009 has changed the trend in just a few days.

Oil moved above $70 again, for the first time in over a month, on news that China’s manufacturing index was picking up and a fairly modest drop in US GDP in the second quarter.

The surge in oil prices based on very modest signs that an improvement in the global economy is in its earliest stages raises the question of what will happen to crude if it appears that a full-blown recovery is afoot. China’s GDP grew at 7% in the second quarter and the central government there says it expects an even better number for the second half. A number of economists expect positive GDP in the US in the fourth quarter even though the growth will be muted.

Speculation has recently been identified as the culprit for much of the run-up in oil prices a year ago. It may take months of investigation to show whether that is true. The current rally in oil is probably based on fundamental issues of supply and demand. There is no reason for the OPEC nations to increase supply as the economy improves. They have suffered through three quarters of extremely low crude prices and need higher prices to replenish their national treasuries.

There is every reason to think that oil will drive toward $80, as long as there is a perception that the global recession is ending and that business and consumer consumption of crude-based products is on its way back.

Douglas A. McIntyre