Friday, January 16, 2015

Lining up a gnarly recession to start in fourth quarter 2016 or first half 2017

Much has been made of the oil price fall and how it might cause a recession. While the uncertainty caused by a fall in the most important import price to the economy does create a bit of a headwind, this is offset by the positive aspect of increased consumption and sentiment.

Ironically, however, we can project the possibility of a recession caused by oil prices - but it would be an oil price spike upward not downward.

What are you talking about Matt? You just wrote a post about how oil price is going to be pressured down over the next 6-12 months, possibly severely so. You just wrote about how oil stocks are going to be filled to busting in August 2015. Have you lost your marbles?

Ah, this case the seeds of the next spike are contained in the current fall. Here's the reason - eventually this fall in price will actually stimulate demand, probably starting in late 2015 and then really gearing up in 2016, barring any self-imposed contraction (I'm looking at you Europe). I predict that it will be China and the developing world that once again are the primary engine of demand growth.

There are two problems. The first is that to balance inventories, price won't recover much even when the market is significantly out of balance. This means we won't really have any price incentive to start drilling shale again until demand and supply are seriously out of whack - perhaps on the order of 2 MBD. The second problem is that shale supply will pick up a bit conservatively at first, after the price shock they are currently experiencing - and that even drilling full bore they won't be able to close the gap. The current drop in price is predicated on weak demand and steady supply gains. If instead we had steady demand gains and steady supply gains the market would be in balance. But we can't increase faster than "steady" and so long as demand increases steadily we will remain out of balance. What this means is that oil price will have to destroy demand, and to do that we will have to go well over $100.

So here are my predictions: Oil price will break $150 in the second half of 2016. We will have a world-wide recession starting in late 2016 or early 2017.

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