Will falling oil prices cheer farmers in 2015?

He writes:

The rapid fall in global oil prices seems to have taken many by surprise. The price of crude oil has declined sharply over the past seven months, creating a list of ‘winners and losers’. Since June prices have more than halved and Brent crude oil has now dipped well below $50 a barrel for the first time since May 2009.

The story goes like this: For the past five years, oil prices were high — bouncing around $100 per barrel since 2010 because of soaring oil consumption in emerging countries like China and conflicts in key oil producing nations like Iraq. Oil production couldn't keep up with demand, so prices remained bullish.

But beneath the surface, many of those dynamics were rapidly shifting. High prices spurred companies in the US and Canada to start drilling for new, hard-to-extract crude in North Dakota's shale formations and Alberta's oil sands.

At the same time, demand for oil in places like Europe, Asia and the US began tapering off, thanks to weakening economies and growth in energy efficiency and renewables. On top of that, America has become once more the world’s largest oil producer. Though it does not export crude oil, it now imports much less, creating a lot of spare supply.

But surely it’s an Economics 101 lesson…when the price falls, you cut supply?

Well one would think so, but it’s not as simple as it sounds (you can read my simplified explanation at the end of this blog).

With the politics and the economics aside, what does it all mean for farmers?

While there is a time lag in how falling oil prices filter through to the red diesel market and the wider supply chain, farmers may see prices slide in the coming months.

In fact, in December 2014, the average price for red diesel was down 1.99ppl to 57.18ppl - the lowest price since October 2010 - and the retail pump price of road diesel was down 2.39ppl to 124.79ppl, compared with November 2014. Compared with December 2013, red diesel prices are down 11.65ppl (16.9%) and the diesel pump prices are also down 13.98ppl.

However, fuel only represents around 4-5% of the average farm input costs and fertiliser is around 8% of the total costs, in comparison to, say, feed which can be more than 50% in the livestock sector. Much reduction in electricity prices is also unlikely, since these are only distantly linked to the cost of oil.

That means even if farmers are benefiting from currently lower fuel prices, this will not be enough to offset the commodity price slides being experienced by many. What we have to bear in mind is that the industry has seen falling farmgate prices across all sectors in 2014.

This challenging situation is particularly true for the dairy industry, where some producers have lost more than 12ppl since early last year. The current situation will, no doubt, negatively impact on farm profitability and cash flows in 2015.

Lower oil prices may bring some cheer, but the real focus of attention must remain on tackling the pressures farmers face with the current volatile market and ensuring that the right conditions are there for farmers to invest for the future.
 

When the price falls you cut supply? Or do you?

The Organisation of Petroleum Exporting Countries (OPEC), which controls nearly 40% of the world market, failed to reach agreement on production curbs, sending the price tumbling even further. The Saudis and their Gulf allies have decided not to sacrifice their own market share to restore the price.

Saudi Arabia produces nearly 10m barrels a day—a third of the OPEC total. Saudi Arabia can tolerate lower oil prices quite easily. It has $900 billion in reserves. Its own oil costs very little (around $5-6 per barrel) to get out of the ground.

It may be many months now before oil prices rise again as higher-cost producers are gradually driven out of the market.