Tuesday, April 5, 2011

Oil hovers above $120 despite China rate rise.


Oil prices hovered at two-and-a-half-year highs on Tuesday, shrugging off fears of a slowdown in global demand after China raised interest rates.

Libyan unrest continue to support oil prices despite China's move to curb inflation.

Brent crude for delivery in May was trading at $120.45 at noon in London, slightly down on Monday's close of $121.06, with unrest in the Middle East and North Africa and delays to elections in Nigeria supporting prices.

The oil prices slipped after China's central bank increased interest rates for the fourth time since October, raising suspicions that data next week may show inflation rose more than expected in March.

China's benchmark one-year deposit rates will be lifted by 25 basis points to 3.25 percent and one-year lending rates will be raised by 25 basis points to 6.31 percent, the People's Bank of China said in a statement. The rises take effect from April 6.

Brent crude, the London benchmark, had been trading around $115 per barrel for a fortnight, but the price has crept up over the past couple of days as the military action in Libya shows no sign of easy resolution.

A number of analysts claim that $120 is the specific "danger point" at which the cost of oil starts to move above 5.5pc of total global economic output.

Deutsche Bank says this "has historically been an environment where global growth has come under pressure".

On top of this, estimates from the International Monetary Fund suggest that every extra $10 on the price of oil shaves 0.2pc off world growth.

Paul Horsnell, head of commodities research at Barclays Capital, said the increase from $115 to $120 over the past few days was the "cumulative impact" of weeks of tension in the Middle East.

"Oil at $120 is a psychological level and it looks like it could be a trigger number, with markets suspecting something on the supply side from Saudi Arabia or OPEC," he said. "Spare capacity is becoming more limited and there is concern about the next supply outage."

There were reports on Monday that Libyan rebels are preparing to sell some oil, possibly marketed by Qatar, but fears are growing that the majority of Libya's 1.6m barrels per day oil output will be out of the market for a while.

Saudi Arabia has replaced most of this missing oil, but this makes the world more vulnerable to further supply disruptions, increasing pressure on OPEC oil cartel, to increase its output.

Mr Horsnell said there may also be worries about Nigerian supply, since the key African oil producer is awaiting elections that have typically caused political instability. Others fear that rising gasoline prices may cause the US to dip into its strategic stockpiles.

Caroline Bain, of the Economist Intelligence Unit, agreed there is "a considerable political risk premium" on the price at $120, with the actual level of disruption not justifying such a spike.

Prices at such a high level for one to two quarters will start to impact growth, she said, adding: "If you look back to the 1970s that's when Europe moved to gas and away from oil."

For the UK, the fear is that the climbing price of crude could accelerate inflation, which is already double the Monetary Policy Committee's 2pc target at 4pc, resulting in dampened growth. HSBC has cut its growth forecasts for the UK from 1.7pc this year and 1.8pc next to 1.4pc and 1.6pc due to higher commodity prices.

The Government's Office of Budget Responsibility has also estimated the increase in the oil price since November will increase inflation by 0.5 percentage points this year.

The contraction in growth is expected to cause tax receipts to be £1bn lower this year and £1.3bn next year. However, higher oil and gas revenue as well as VAT receipts may entirely offset the GDP effect.

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