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Explainer: Many Winners, But Some Big Losers As Oil Prices Drop

A worker checks the valve of a pipe at an oil field in Bashkortostan, Russia.
A worker checks the valve of a pipe at an oil field in Bashkortostan, Russia.

It's a boon for U.S. motorists -- but a headache for big oil exporting countries like Russia and Iran.

The price of oil has fallen 60 percent in less than a year. Earlier this month, it looked as if that collapse might have ended with a brief recovery, but this week prices began slumping once again.

The benchmark for oil in the United States, West Texas Intermediate crude, has now dropped to a six-year low to below $43 a barrel. The price of Brent crude, the international standard, is fast nearing $50 a barrel.

What's behind the fall in prices?

The most recent drop was fueled by a series of reports showing a glut in world oil supplies and continued strong production from U.S. shale-oil producers.

Advancements in technology that allow oil to be extracted from shale have transformed the United States into the world's largest oil producer, turning out more than 9 million barrels per day. While lower prices should eventually force many of these smaller shale-oil producers to cut back production, the reports indicated this is not yet happening.

Improved prospects for a multiparty agreement on Iran's nuclear program may also have contributed to the recent price fall, experts say.

Iran has traditionally been a leading oil producer and exporter, but international sanctions designed to punish the country for its contested nuclear program have limited Iran's ability to sell oil on world markets. If an agreement is reached and sanctions lifted, Robin Mills of the Dubai-based energy consultant Manaar Energy was quoted as saying Iran could inject as much as 800,000 barrels of oil a day into a market that is already swimming in oil.

How are major oil-exporting countries like Russia affected?

The drop in oil prices has been welcomed by many. Motorists, particularly in the United States where lower prices translate into cheaper gasoline, are thrilled. But countries like Russia and Iran that depend on oil as a major source of revenue are feeling the pain.

Liza Ermolenko, an emerging market specialist at London-based Capital Economics, says oil now accounts for more than half of Russia's exports and around half of the country's budget revenue. In the past few years, Russia has become even more dependent on higher oil prices, she says.

"Oil and oil products and gas are Russia's main exports, so when oil prices fall, Russia's export earnings fall substantially," Ermolenko says. "[And] because of the taxation structure in Russia, this means most of the impact falls on government revenue because the government taxes most of the profits made on exports of oil and oil products."

Ermolenko says she suspects the drop in oil prices might be at least partly behind the country's policy to allow the ruble to decline so precipitously in value. The ruble has plummeted in value to around 60 rubles to the dollar from just over 30 rubles as recently as last summer.

"It looks as if this has become the main strategy for the Russian authorities to deal with the fall in oil prices." Ermolenko says. "They have decided to make the ruble more flexible and have decided to allow it to fall quite substantially."

Connecting the dots, that strategy works the following way: Russia sells its oil in dollars and then converts the money back to devalued rubles in order to pay local salaries and benefits. They've put the burden on ordinary citizens in the form of a weaker currency and higher inflation, Ermolenko says.

What are the prospects for the future?

Predicting movements in the price of oil can be tricky business. Members of the OPEC cartel of leading oil producers, including Saudi Arabia, the Gulf States, and Venezuela, are betting that the plummeting prices will eventually drive out the small shale-oil producers in the United States and lead to a price recovery.

That may or may not happen. Over time, though, the forces of the market will begin to exert themselves. Companies and consumers will respond to the cheaper prices for oil by using more of it -- buying larger cars, for example. That, in turn, would bolster consumption and lead to a rise in prices.

For the time being, however, few are predicting an imminent rise. In fact, some observers say there could be another drop in prices, thanks to optimism over the Iran talks, strong U.S. production -- and a storage crunch in the United States.

Oil storage facilities are filled to brimming as traders store oil in the hope they can sell at a higher price in the future. But as space runs out, they could be forced to sell it off at a much lower price.

That's bad news for big oil-dependent countries like Russia, and even worse news for ordinary citizens there who continue to have to pay the brunt.

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    Mark Baker

    Mark Baker is a freelance journalist and travel writer based in Prague. He has written guidebooks and articles for Lonely Planet, Frommer’s, and Fodor’s, and his articles have also appeared in National Geographic Traveler and The Wall Street Journal, among other publications.

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