The strong performance of the world economy in the first quarter of this year has provided further evidence that higher oil prices have had a limited impact on the strength of the economic rebound since 2003. The overall level of world output rose by at least 15% between early 2003 and the first quarter of 2006. However, this robust economic performance, with some exceptions, has not been reflected by commensurate growth in oil demand. The question remains whether these trends will persevere for the rest of the year given the different factors affecting the economy, demand and prices.
To begin with, the first quarter witnessed a robust GDP expansion of 5.3% in the USA and an unabated 10.2% in China. Shortterm setbacks to growth witnessed in some regions in the final quarter of last year appeared to have been overcome as sizeable gains in personal incomes and company profits allowed households and companies to absorb the higher energy costs. However, looking to the remainder of year, inflationary expectations and continued monetary tightening may lead to softening of economic activity in 2006 and 2007 with clouds in the horizon appearing as higher interest rates impact the US housing market and the performance of major stock markets. Nonetheless, the forecast for world GDP growth for the year remains unchanged at 4.7% for the present
Turning to the oil demand picture, the weakness exhibited in the first months of the year led to repeated downward revisions in forecasts of yearly oil demand by major forecasters (see Graph 2). OPEC revised its initial forecast for 2006 from 1.6 mb/d in July last year to 1.4 mb/d in June, while downward revisions by others were even more pronounced. The actual data for first quarter 2006 confirms that global demand grew by a modest 0.7 mb/d, or 0.9%, which compares to 1.9 mb/d last year and to an average of about 2.1 mb/d over the last three years. However, the picture in different regions is mixed.
In the USA, demand fell by 1.3% in the first quarter, as unusually warm winter weather diminished the positive impact of healthy economic growth. While higher prices may have played a dampening role on demand, the size of the price response is difficult to gauge. Preliminary US data shows that demand recovered in April and May despite the higher prices, showing an increase of 0.5% over the five-month period and 2.2% in May alone, but remained below the average growth of the last three years. Looking towards the driving season, the tight situation that contributed to the upward pressure on prices in the first quarter appears to be easing. Product specification changes and the phasing-out of MTBE from the US gasoline pool were initially perceived as problematic due to expected bottlenecks in ethanol supply, which will replace MTBE. However, in recent weeks the return of refineries from maintenance has led to rising gasoline output, which together with higher imports have helped US gasoline stock levels to surge by 10 mb since late April, easing supply fears. On the whole, given the stabilization of gasoline prices and the continued economic expansion, the recent recovery in demand is expected to extend over the coming months.
In Asia, the removal of subsides on oil products in some countries has had a noticeable effect on demand in the short term in countries including Indonesia, Malaysia and the Philippines. It remains to be seen if the shock will diminish once prices have stabilised and consumers and firms adjust to the higher price levels. In contrast, oil demand was strong in the Middle East and China during the first quarter. In China, apparent oil demand exhibited stronger growth than in 2005, with an increase of around 500,000 b/d, albeit at a more modest pace than in the 2003-2004 periods. In April and May, there were signs that Chinese apparent demand picked up at an even faster rate, stimulated in part by the rise in the officially-set domestic fuel prices which encouraged increased refinery runs. This was reflected in higher imports of crude, which rose 19% in May and 18% over the first five months of 2006 from the same period last year. The demand picture in China in the coming months appears to be promising, although a repeat of the high demand for diesel and fuel oil for power generation is not expected.
Despite oversupplied crude markets, comfortable stock levels and mixed demand prospects, OPEC’s concern about the impact of continued high oil prices is reflected in the decision taken during the recent Ministerial Conference in Caracas to retain the status quo. By refraining from a production cut that would have been indicated by purely fundamental considerations, OPEC Members continue to make available to the market an extra supply buffer to help counteract high oil prices and price volatility, and to reassure markets that supplies would be sufficient to deal with any eventuality in the coming months, be it a rise in demand or a supply disruption caused by natural disasters during the hurricane season. However, OPEC Ministers will continue to monitor the situation and stand ready to take the necessary decisions to maintain oil market stability.
