Surge in oil prices prompts warnings of global recession

The price of oil has surged to a new record above $119 per barrel. Given the spate of "Record Oil Price!" stories that have filled newspapers in recent months, investors might be inclined to dismiss the latest threshold crossed – if it weren't for the increasingly dire warnings being issued about the havoc that expensive oil may wreak on the global economy.

The latest came yesterday, courtesy of the head of the International Energy Agency, Nobuo Tanaka. The soaring price of oil, he warned, may be what tips the global economy into recession. "I have some concern" about an oil-induced recession, said Mr Tanaka, speaking at the International Energy Forum in Rome. The unprecedented territory into which the price has travelled is having a "negative impact on economic growth", he added.

The inexorable rise of the cost of the black stuff – it closed yesterday at $119.37 in New York – has become a source of growing concern for politicians and economists already worried about the slowing economies of Western Europe and America. In the past five years, it has nearly quintupled; in the past two months, it has surged by nearly a third.

Mr Tanaka's comments came on the heels of a speech in which he delivered a stark message to the world's assembled oil barons.

"The world's energy economy is on an unsustainable pathway. In the short-to-medium term, there is an urgent need for investment to restore an adequate cushion between oil supply and demand," he said. "As shown by the World Energy Outlook [report], unless government policies change, world energy demand will grow by 55 per cent by 2030."

With the credit crunch reverberating further into the real economy, the worry is that the oil price (along with the rocketing prices of other commodities) could push major economies into "stagflation" – no growth coupled with inflation.

Opec, the cartel of oil producing nations that pumps about a third of the world's oil, has tried to deflect calls from big consuming nations such as America and in Western Europe by saying the price run-up can be blamed on traders and speculators. This is partly true. The falling value of the dollar has led investors to look for a hedge against the falling greenback. Commodities in high demand and valued in dollars, have proved an enticing investment. It is this argument that Opec has relied on to keep production steady. Abdullah al-Badri, the cartel's secretary-general, confirmed this week that it has no intention of ramping up production. The most recent run of rising prices was in fact set off by Saudi Arabia cutting its production. It is now the only country that can realistically boost production, as the rest of Opec members are operating at capacity.

"What they are worried about is that demand is going to decline in the coming months and they don't want to flood the market and see the price go south," said Muhammad-Ali Zainy, a senior energy economist at the Centre for Global Energy Studies. According to its research, Saudi Arabia has no incentive to provide relief as the government needs the oil price to remain at at least $70 per barrel in order to meet its own budget requirements. Mr Zainy predicted that the oil price will average about $99 per barrel this year.

The major oil companies, meanwhile, are having to do everything in their power just to replace fields that are running dry, let alone make new discoveries to boost production. Royal Dutch Shell, Europe's biggest oil company, is ploughing $25bn (£12.5bn) into exploration and production annually but expects output to fall over the next several years. An oil-induced recession would of course lead to a relaxation of its price. Given the rising pressure it is putting on consumers, a slowdown could very well happen.

In the UK, for example, the top six energy suppliers all pushed through major increases – about 15 per cent – to gas and electricity prices this year due largely to the rising price of wholesale gas, which is linked to the price of oil. Since nPower kicked off the rate rises in January, wholesale gas prices have jumped by another 45 per cent, while electricity prices have leapt by a quarter.

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