Oil Price and Korean Economy

Oil Price and Korean Economy

April 17, 2015

Jaerang Lee

- Contents -

I. Oil Price Outlook

II. Effects on Korean Economy

III. Conclusion

1

• Oil prices have lowered to around mid 50 dollars per barrel.

 OPEC’s decision to leave its production target in Nov.

triggered the rapid drop in prices.

 Increase in oil inventory,

 Strong dollar has contributed.

I. Oil Price Outlook

Oil Prices U.S. Oil Inventory¹⁾

Notes : 1) Month-end(3.13 for March)

Notes : 1) Excluding Strategic Petroleum Reserve Source : EIA

Source : Bloomberg

2

• Oil prices are forecast to rise moderately.

 Falling U.S. crude oil rig counts,

 Moderate inventory builds provide support to prices.

 Supply side factors are dominant.

I. Oil Price Outlook

U.S. Rig Count

& Crude Oil Production¹⁾

Note : 1) 3.13 for March Source : EIA

Oil Price Forecasts¹⁾

Note : 1) Brent Oil, period average Source : EIA, CERA, OEF

3

• High level of uncertainty and risk remain.

 U.S. – Iran Nuclear deal agreed but details under talk.

 Disputes in Middle East unsolved.

 IS, Yemen

 Oil producer countries’ budget relied heavily on oil

revenues, that might cause potential supply disruptions.

I. Oil Price Outlook

4

II. Effects on Korean Economy

• Growth in Korea has been very modest, and BOK forecast is revised downward.

• Lower oil prices is not showing as much spillovers as expected. Why?

(S.A., QOQ, MOM, %)

2014 2015

3/4 4/4 Oct Nov Dec Jan ^p Feb ^p Jan~Feb^p

Retail Sales 1.3 0.4 -0.1 2.1 1.5 -2.8 2.8 0.0

Facilities Investment

-0.9 8.6 -4.4 11.4 2.1 -7.4 3.6 -2.1

Exports(YOY,%) 3.6 0.9 2.3 -2.7 3.1 -0.9 -3.3 -2.1

Import(YOY,%) 5.4 -2.8 -3.3 -4.1 -1.0 -11.1 -19.7 -15.2

CA(billion U$) 22.6 27.2 8.9 11.3 7.0 6.6 6.4 13.0

5

• Oil price increase in 2000s and regulations on green house gas emission control has increase the demand on energy saving and oil substituting technology.

 It is required to reduce 30% of green house gas by 2020.

 Alternative energy technology has lowered reliance on oil.

II. Effects on Korean Economy

Oil Prices¹⁾ and Energy Consumption²⁾

Notes : 1) Dubai Oil Notes : 2) per real GDP

Source : Korea Energy Economics Institute, The Bank of Korea, Bloomberg

Energy Source

Notes : Ratio of Petroleum consumption = Petroleum Dependence Source : Korea Energy Economics Institute

6

II. Effects on Korean Economy

• Industrial structure gradually has become less-oil consuming.

 Heavy industry -> IT

 Manufacture -> Services

Source : The bank of Korea

Renewable Energy Production &

Supply¹⁾

Note : 1) compared with total primary energy production Source : Korea Energy Management Corporation

Ratio of petroleum-guzzling Industries to Gross value added

7

• Oil prices pass through to the limited extent.

 Gas prices are down at the market, but public

transportation fees, electricity, heating fares are regulated.

 Limited increase under higher oil prices means limited decrease under lower ones.

 Taxes are lump sum.

 From July 2014 to March 2015, oil refineries dropped their supply price by 33%, but retail price fell 19%.

 Gas tax per $: Korea 0.45$, U.S. 0.15$

U.K 0.61$, Germany 0.58$

(Source: OECD)

 Upside risk in oil prices support floor.

II. Effects on Korean Economy

8

• Uncertainties and risk make consumption and investment decision delayed.

• Uncertainties in energy market increases volatilities in financial market.

 If oil prices decline further, oil dependent countries may face tough economic and financial conditions.

 Korea has almost no financial linkage to oil exporting countries, but about 10% of exports head to them.

 Low inflation may increase the risk of deflation, leading to uncertainties in the monetary policy.

II. Effects on Korean Economy

9

• Lower oil prices will eventually act as a boost to Korean Economy.

 Korea has:

 The 10^th largest oil consumption, and the 5^th largest oil imports in volume.

 The net oil imports/GDP ratio, 7.6%(2013), the 2^nd highest.

II. Effects on Korean Economy

Note : Based on 2013 figures

Source : EIA Note : Based on 2010 figures

Source : EIA Note : Based on 2013 figures

Source : UNCTAD, IMF

Oil Consumption Oil Imports Net Oil Exports

10

• Cheaper oil brings benefits to Korean consumers and investors.

• BOK macroeconomic model predicts 10% of international crude oil price decrease lead to 0.1%p increase in growth.

II. Effects on Korean Economy

(Bills saved

per GDP, %) U.S.A. China Germany Japan India Korea Singapore

0.5 0.8 0.8 1.2 1.8 2.4 5.8

Note: Assuming crude oil price decrease from 109$ to 71$ per barrel.

Source: Rhodium Group, Wall Street Journal 2014.12.7

11

• Boosting effects might not as big as models project.

 Demand shock explains about 20% of oil price decrease.(IMF, Dec.2014)

 Under 20% demand and 80% of supply shock, 10%

decrease in oil price bring less than 0.1%p growth effects.(BOK12, BOK macro model)

 Models are linear, but real world is not.

II. Effects on Korean Economy

12

• Economic and non economic factors limits the boosting effects of cheaper oil.

 Lower dependence on petroleum

 uncertainties and risks in the market

 Mixed shocks: supply and demand shocks

 Regulations and taxes

• Deflation risks are overstated.

 Inflation expectations are anchored.

 Core inflation is stable.

 Oil price drop is not passing through to the larger extent.

III. Conclusion

13

• We may need patience!!

 Model projects that it takes at least about a year to take a full effect of the oil price shock.

III. Conclusion