Tuesday 10 March 2015
Oil's not what you think
Tuesday 10 March 2015
Low prices a negative for net energy exporters like Australia
Oil prices have declined significantly over the past few months, leading many to highlight the stimulatory impacts on oil importing nations - and US consumers in particular. But lower prices mean less income for oil exporters. For Australia, the impacts are mixed - but ultimately a net negative.
Australia exports as much energy - oil, coal and natural gas - as it does iron ore. We also import a lot of oil and petroleum products. In net terms, our energy exports are around a third as important as iron ore.
Over the next few years, energy exports are set to become increasingly important to Australia's economy. The major LNG projects that spearheaded the last leg of the resources investment boom will start to come online, propelling Australia to the top of the global LNG export ladder.
As oil prices fall, LNG prices follow (with a lag) courtesy of the oil price linkages incorporated into the supply contracts underpinning our major projects. At current oil prices, the impact on lower LNG prices is equivalent to 1% of gross domestic product (GDP) in 2015, rising to 2% of GDP in 2017. Lower oil prices are equivalent to the rest of the world giving us a pay cut.
Because of the way the income shock from lower oil prices is transmitted through the economy, the negative impacts will take longer to realise and potentially be harder to see. Lower LNG prices will reduce royalty payments to state governments, and the impact on profits will translate into lower company tax revenues.
The timing of the decline means that the impact on government revenues has not yet been factored into government budgets. The mid-year economic and fiscal outlook saw major revenue downgrades as the fall in iron ore prices from the mid-$US90s to $US60 per tonne was incorporated into the forecasts. The reduction in nominal GDP from lower LNG prices could equate to approximately $5 billion, rising to $10 billion, per annum less revenue.
There are some offsetting benefits from lower oil and LNG prices. The consumer impacts have received the most attention. National average petrol prices have declined from approximately $1.40 per litre in early December and are approaching the $1 per litre mark. That's a significant benefit, when you consider that a 23 cent per litre decline delivers the same impact as a 0.25% rate cut - without the negative sting of deposit rate declines for savers.
If the decline in oil prices persists and pulls down LNG prices, consumers, and businesses, will also welcome relief from the threat of significant increases in domestic gas prices. The east coast LNG plants will link the domestic gas market to the rest of the world, raising prices from current levels. A lower global LNG price will lessen the blow, and the potential impact on inflation.
The decline in energy prices will have other impacts on Australia. The recent headline consumer price index (CPI) outcomes for Australia and New Zealand surprised to the downside, thanks to lower petrol prices. Headline inflation pushed through the bottom of the Reserve Bank of Australia's (RBA) target band, coming in at 1.7% year on year.
There is more to come on the inflation impact. The timing of the decline in petrol prices means that most of the impact on the CPI will be in the first quarter 2015 data, which will be published in May. If petrol prices stay around current levels, we estimate the impact would be a 0.6 percentage point detraction from headline CPI, potentially resulting in a negative overall inflation outcome in the quarter. The disinflationary impacts on the economy will be a factor in the RBA's decision making on whether there is scope to cut interest rates.