Explainer: China's reopening and global oil demand
As the front-month Brent futures contract is heading for a 8% loss in the first week of 2023, we discuss what the reopening of the world’s second-biggest economy means for global growth and how it can impacts oil markets.
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China announced it would reopen its international borders for incoming and outgoing visitors on 8 January, in the midst of a record number of Covid cases in the country. This news only caused confusion, with some experts urging caution against growing Covid cases, while others continued to bask in all the warmth of China’s reopening. Which way has the oil market been tilting? With apprehension going by Brent's massive 8% drop in the first week of the new year.
China’s sudden reopening a quandary for global economies
China's unexpected reopening has spooked markets despite an anticipated rise in demand because of the underlying cause-and-effect.
As China reopens, its appetite for raw materials and energy will increase, pushing prices up. The rising prices of commodities will, however, add to global inflationary pressures.
The US and gas-starved Europe are already suffering from high inflation. Globally, central banks are causing mayhem by aggressively raising key interest rates to curb inflation that has mainly been driven by soaring food and energy prices, and there are no imminent signs that the rate hikes will slow. As long as inflation keeps going up, central banks will keep raising interest rates.
Recession at a glance
Borrowing money from banks becomes more expensive as the interest rates rise. This lowers consumers’ spending power, which reduces demand across the board. As a result of reduced demand, manufacturing and service activities will decrease. This could increase unemployment, the collapse of the housing sector, business losses, and weaker financial markets.
The International Monetary Fund defines a recession as “two consecutive quarters of decline in a country's real (inflation-adjusted) gross domestic product (GDP)", which is the direction that several large economies are heading in.
Although OPEC and its allies are not entirely dependent on US and European markets for crude exports, a recession in some of the world's biggest economies is likely to affect global trade and supply chains, and have a domino effect on the oil markets served by OPEC +.
China’s hegemony: a double-edged sword for oil markets
OPEC reported China's crude imports at 10.2 million b/d as of October 2022 and anticipates a further rebound as demand increases. In its role as the world's top oil importer, China has a significant influence on the oil markets, but this dominance can be both a blessing and a curse.
It is a blessing because the International Energy Agency (IEA) now says oil demand will grow by 1.7 million b/d, while OPEC expects oil demand to grow by 2.2 million b/d this year. Both estimates are based on Covid-19 containment in China supporting growth and China's economic recovery driving demand. S&P Global expects China to consume 15.7 million b/d of oil this year, an increase of 700,000 bbls from 2022.
On the flip side, due to escalating Covid cases in China and the World Health Organisation slamming China for concealing its real numbers, the global sentiment has soured around China's reopening. Several nations have placed restrictions on incoming Chinese travellers to avoid a surge in the spread of the Covid-19 virus following China's reopening of its international borders.
With warnings of a global recession as a backdrop, global oil demand could take a further hit both if China relents to global pressure and reinstates Covid-19 restrictions, and to some extent if Chinese travellers are restricted in other countries.
However, it is not all bad news for oil markets as hedge funds continue to remain bullish on crude despite gloomy forecasts. Pierre Andurand, a hedge fund trader specialising in energy derivatives, has tweeted that there is a “potential to see a surge of oil demand of 3-4 million b/d in 2023,” if the world fully reopens.
A week ago, half the passengers at Milan's Malpensa airport that had arrived from China tested positive for Covid-19. But these cases were mostly asymptomatic. This might indicate "the end of the impact of COVID on the global economy and oil demand,” Andurand said.
By Konica Bhatt
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