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Thursday, September 10, 2015

Oil prices halved – is this good for wool prices or not?

By Andrew Woods, ICS  |  Source: AWEX, IMF, Project Syndicate, BP

Key points

  • Oil prices have dropped by half in the past year.
  • Big drops in oil prices during the past 35 years have preceded improved economic growth.
  • The mechanism for this is that the lower oil price transfers money from oil producers to oil consumers.
  • Following the three earlier times that oil prices have fallen by 40-50%, wool prices have risen for the following two years.


2015-09-10 Oil And Wool Prices FIG 1

2015-09-10 Oil And Wool Prices FIG 2

Among the turmoil in markets around the world, oil prices have fallen by around half since mid-2014. Oil prices regularly rise and fall, but this is only the fourth fall of this magnitude in 40 years. A recent article by Anatole Kaletsky in Project Syndicate (link to full article below) made some interesting comments on the fall in oil prices. Following this theme, how will recent oil price movements impact wool prices?

The thesis of Kaletsky’s article was that oil is a commodity for which supply varies. This, in turn, is a major driver of the price. Nothing surprising there. The importance of this point to modern economies is that the world consumes 340 million barrels of oil per year, so a $10 fall in the per barrel price equates to a transfer of $3.4 billion from oil producers to oil consumers. Since last year, the oil price has fallen by US$60. This is equivalent to a transfer of 2 trillion dollars (US$), enough to change world economic growth.

Figure 1 shows the year-on-year change in an oil price series (West Texas Intermediate) in US dollar terms, from the early 1980s onwards (bars). The four big falls in the oil price have had their bars darkened. Economic growth has tended to improve for a couple of years following the drop in oil price. Figure 1 shows the EMI increasing (in Australian dollar terms) for the couple of years following the drop in oil price.

In figure 2 the EMI is replaced with the 19 MPG. The volatility of the 19 MPG was higher than the EMI during the 1980s and 1990s, reflecting that the 19 MPG was on the edge of the merino distribution at the time. A similar pattern is shown to figure 1, with the 19 MPG increasing year-on-year for the two years following the big drop in the oil price.

Wool prices are sensitive to changes in economic growth, so this pattern fits the economic logic of sharply lower oil prices boosting economic growth, which in turn boosts wool prices. The downside to low oil prices is the pressure it applies to apparel fibres by helping manmade fibre prices remain at low levels. Cotton prices are already feeling the pressure of low polyester prices.

Article by Anatole Kaletsky - http://www.project-syndicate.org/

What does this mean?

The fall in oil prices by half during the past year are likely to help economic growth improve during the next couple of years, by transferring money from oil producers to oil consumers. This, in turn, will help demand for apparel including wool. Big falls in oil prices in the past have been followed by firmer wool prices in the following two years. That’s the good news. The potential bad news is that low oil prices will help manmade fibre prices stay low, thereby increasing the competitive pressure in the apparel fibre markets. Cotton is already feeling this.

Mecardo information is provided to assist in your marketing decisions. It contains a range of data and views on the current market. It is not intended to constitute advice for a specific purpose. Before taking any action in relation to information contained within this report, you should seek advice from a qualified professional. The information is obtained from a variety of sources and neither Mecardo nor Ag Concepts Advisory will be held liable for any loss or damage whatsoever that may arise from the use of information or for any error or mis-statement contained in this report. 

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