Price of Petrol can only fall if Global Economy slows or if Refinery Capacity Expands

- High oil prices Benefiting house borrowers -

The price of petrol can only fall substantially if the global economy slows sharply or if refinery capacity expands. The latter is not possible in the short-term and it will require a much steeper increase in oil prices to seriously slow the buoyant levels of global economic activity. Therefore, it is likely that petrol prices will remain at their current levels or even rise further in the short term, according to the latest Bank of Ireland Global Markets economic research bulletin.

Writing in this month's Economic Bulletin which was published today (Friday, 23 September 2005) Dr. Dan McLaughlin, Chief Economist, Bank of Ireland said inadequate investment in refinery capacity is one of the fundamental factors contributing to high oil prices.

"Support for this view is provided by the spread between the wholesale price of petrol and the price of crude, which has risen steadily in the past year. The wholesale price of a barrel of gasoline in Europe was some €10 above that of Brent crude a year ago, but had risen to some €20 in early August, before spiking to over €40 in the wake of Katrina. This suggests additional pressure on refined products, alongside strong demand for crude from a global economy which is still growing at 4.25% a year and as such well above the longer term average (about 3.5% a year)", said Dr. Dan McLaughlin.

He indicates that the expansion of refinery capacity is not possible in the short term and consequently a fall off in petrol and oil prices revolves around global economic activity.

"The OECD feels that a 50% rise in oil prices (similar to the percentage gain seen in 2005) will lower growth in most developed economies by some 0.4% - 0.5%, an impact which declines to only 0.2% if Central Banks leave interest rates unchanged (i.e. allow real rates to fall). This modest impact reflects the small share of energy in spending - gasoline accounts for only 3% of total consumer outlay in the US, and for a similar percentage of Ireland's CPI. The implication is that higher oil prices do dampen growth by eroding real incomes to some degree, but that it would require a much steeper increase to seriously slow the current buoyant levels of global economic activity. Therefore, the price of petrol is likely to remain at current levels or to rise further while the additional supply flowing from official stocks may keep downward pressure on crude", said Dr. Dan McLaughlin.

He concluded that if oil prices do stay high it will prove positive for house borrowers with interest rates remaining low.

"The financial markets push longer term interest rates down when oil prices rise on the view that economic growth will slow, hence requiring less monetary tightening than previously thought (e.g. in the US) or none at all (e.g. the euro area). In that sense high oil prices have helped to sustain the housing booms currently in train in the US and across most of Europe", he said.

Ends

For reference:
Dr Dan McLaughlin
Chief Economist
Bank of Ireland
Tel: 01 609 3326

Damien Daly
Head of Marketing
Bank of Ireland Global Markets
Tel: 01 609 3221

Anne Mathews
Media Relations Manager
Bank of Ireland Group Corporate Communications
Tel: 01 604 3836

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