Opec's Global Stimulus Beats Banks'
Businesses that were disappointed by the ECB’s small rate drop and are anxious about a Fed rate hike found an unlikely white knight in the disunited Organization of Petroleum Exporting Countries.
By Vikram Rangala
Wednesday, December 9, 2015
Continued low oil prices may have a stimulus effect as significant as the programs that were actually designed to stimulate the economy. Take a couple of hypothetical examples:
Imagine that you run a machine and auto parts factory in East Lansing, Michigan, looking to expand by upgrading your equipment and hiring more people to operate it. You’ve done well since the dark days of the financial crisis, in part because the Fed’s quantitative easing and near-zero interest rates made getting a business loan easy and cheap. But with a rate hike all but certain this month, it’s going to be more expensive.
Or imagine you run a specialty foods company in Rotterdam and you want to expand your export business, which has done well in Eastern Europe and North Africa, to the Americas. You were hoping for a bigger rate cut from the ECB so you could get lower rates on your business loan, because you know the shipping costs across the Atlantic are going to be expensive. They might even force you to price yourself out of the supermarket into the luxury category.
You’re both disappointed. You can still get the credit you need to expand, but your interest payments are going to decrease your profit margin or if sales aren’t good, make it tough to break even. The strong dollar makes it tough for the Michigan manufacturer to export her products and compete on price. The European producer might benefit from a cheap euro, but the weak European economy has meant lean profit margins in spite of the recovery.
Who should these productive manufacturers turn to now that their respective central banks have let them down? Their monetary policy decisions might be prudent for the long-term health of the global economy, but in the short term, the banks are not helping the balance sheets of individual business as much as they had hoped.
Turns out their rescue is going to come from a dysfunctional group of oligarchs, dictators, and cozy political partners to multinational conglomerates with no national loyalties. Their rescue party are the sheikhs and oil ministers of OPEC, whose way of helping is by failing to get along at their recent meeting. The rich states of the Gulf Cooperation Council (GCC), along with Iran, want to pump as much oil as possible despite the glut in global reserves and production. Iran, in particular, has been aggressive in wanting to raise its production back to pre-sanction levels.
The weaker economies in OPEC, however, are hurt by oversupply and low prices. Even in an undemocratic cartel, economic inequality is causing division and hardship for ordinary people. But that’s not OPEC’s concern. Their main goal is shutting down competition from North American shale oil and in that, they seem to be succeeding.
OPEC is also succeeding at lowering fuel costs, which means anybody who has to ship anything suddenly has a smaller number in the expense column. Michala Marcussen, global head of economics for Societe Generale estimates every $10 drop in oil prices equals 0.1% more global growth. Since 2014, the world has saved roughly 2 percent of gross domestic product it would have spent on oil.
So our imaginary manufacturers in Michigan and Holland just got a reduction in their expenses that may well offset their increased interest payments. In a real sense, OPEC just did for them what neither of the central banks could.
Just for fun, we might even imagine that all those foreign delegates to the Paris Climate Summit fell in love with the Rotterdam company’s foods and will spread the word back home. And maybe that manufacturer in Michigan will start making parts for all the new electric cars that will be built after the accord. Stranger things have happened, like OPEC engaging in a price war with itself and both winning and losing.
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