Oil price creeps toward danger point for global economy

By Simon Kennedy
Bloomberg News

The global economy faces a new threat from an old enemy: oil.

A spike in the price of crude foreshadowed economic slumps in each of the last four decades and economists are worrying anew after Brent touched its highest price in nine months above $113 a barrel amid fresh violence in Iraq, OPEC’s second biggest producer. Brent started the year about $6 cheaper.

The rule of thumb favored by many economists is that every $10 increase in the price of a barrel of oil ends up cutting global growth by about 0.2 percentage point. That’s not an inconsequential amount for an already lackluster expansion. The World Bank last week cut its outlook for 2014 global growth to 2.8 percent.

“There is no doubt that, beyond a certain point, higher prices become a major constraint on global economic activity, particularly if the price reflects supply problems rather than buoyant demand,” said Julian Jessop, chief global economist at Capital Economics Ltd. in London.

Net energy importers such as China and Japan would suffer the most from any jump, though exporters in the Middle East would benefit to mitigate growth concerns, according to Neil MacKinnon, a global macro strategist at VTB Capital Plc in London.

More efficient

There are some reasons for comfort: The Iraq crisis may dissipate and the Organization of Petroleum Exporting Countries isn’t signaling concern over production capabilities elsewhere. The world is also more energy efficient than it once was, and the U.S. has larger domestic supplies.

Jessop nevertheless remembers that global economic activity was already weakened in the crisis year of 2008 by oil breaching $100 a barrel. The economic revival has since been held back by a return to $100 oil after the Arab Spring started in 2011.

That leaves Capital flagging $120 as the “danger point” for the world economy if the fighting in Iraq escalates and prices keep climbing.

“What’s more, a strong and sustained recovery seems unlikely as long as oil is above $100,” said Jessop.