What Factors Determine Oil Prices

As of 9/25/2013, the Crude Oil Nov 13 (CLX 13. NYM) reached 102. What factors incur the constant movement of the oil prices?

Oil has played more and more important role to the global economy since the oil is widely used in our production and personal consumption.  The crude oil can be refined into the petroleum products which allow us to use them in different purposes. For example, the petroleum can be burned to generate energy which is used to start and propel vehicles.  Gasoline is consumed as the primary petroleum product in the United States.

Like other products and service, the demand and supply decides the oil prices. Based on the economics concepts, when the demand of a product increases or the supply decreases, price of the product goes up, vice versa. Therefore, during the summer travelling season, the oil price tends to go higher. The oil price usually drops after Labor Day each year.

However, many other factors may cause the fluctuation of the oil prices, such as war (Syrian incident), natural disaster (Katrina hurricane), and other unexpected events. On the other hand, since the oils prices are measured by US dollar. If the US dollar value strengthens, the oil price will drop assumed the other conditions hold, likewise. The Federal Reserve Bank policy shift will impact interest rates. Eventually, this consequence will affect the US dollar value.

On the other hand, the oil prices are based on the contracts’ value in the oil futures market. Since the oil contracts are tradable, the sentiment of futures traders will intensify the movement of the oil prices. Usually these traders transact oil contracts for hedging or speculation purpose.

The rising oil prices usually hurt the overall economy. The reason is very straightforward. The higher oil prices directly increases the cost for production. Then, the consumers are going to suffer the expensive goods and service. When the consumers feel squeezed by goods, service, and gas pump, they become anxious and conservation, and naturally reduce consumption. Eventually, the reduced consumption will curtail the production. This will cause the malicious cycles. If this situation persists, it might cause the recession which is defined as negative GDP.

For example, during financial crisis, the oil prices went up, many people lost job. The Wal-Mart declared it had very bad business since its customers could afford to the gasoline.

Therefore, the oil prices are closely watched by the market and the Federal Reserve Bank. The inflation bench mark (less than 2%) is the baseline when the Fed discusses about the economic stimulus program.