The Upside of Falling Energy Prices

The markets are heaving over fears of a China-fueled global slowdown, but for consumers there's good news here: They will be paying less as a percentage of disposable income for their energy than they did in 1960.

This year, American households are expected to pay an estimated $700 less on average for energy expenditures than in 2014—a windfall that is expected to last through 2016, according to economists at the Energy Information Administration, the statistical arm of the U.S. Department of Energy. "We're forecasting the average retail price of gasoline will be $2.11 a gallon in the last quarter of this year," says Timothy Hess, with the EIA's petroleum market analysis team. "And gasoline prices are expected to stay below $3 for all of 2016."

While Europeans generally pay more for fuel due to higher taxes, the lower oil price still feeds through and gives drivers a break.

"You don't pay so much for gas, so you buy a TV," says Vipin Arora, from the EIA's macroeconomic team. "And that adds to disposable income and consumption, which represents about 70 percent of the U.S. economy. When consumers have more income available to them, they spend more, and companies hire more people to meet rising demand."

All of which puts this global slowdown in a slightly different light.

For those still catching up with the market's wild ride in recent weeks, an unexpected move by China to devalue its currency, the yuan, in early August, ignited a global equities and commodities selloff on jitters that the world's second-biggest economy (after the U.S.) might be hitting a wall.

Economic data from China are often uncertain at best and flat-out incorrect at worst, so the sudden devaluation spooked investors, most of whom didn't see it coming and wonder what's coming next. The resulting turmoil has raised the specter of the 1997-1998 Asian financial crisis, pummeling U.S. stocks from August into September.

Beijing cut its interest rates and bank-reserve requirements—one of several times it has intervened to maintain growth this year—as the market pared losses and economists pronounced the era of rapid growth in China over, although more likely to result in a continued deceleration than a bona fide crash. "The current panic is essentially 'made in China,'" wrote Julian Jessop, chief global economist at Capital Economics Ltd., a London-based macroeconomic research firm. "The recent data from other major economies have generally been good, and there is little to justify fears of a major global downturn."

In fact, the panic is something from which all global energy consumers stand to directly gain. Because China is the world's largest consumer of commodities—which include oil and petroleum products, like gasoline—the pullback in its economy is one of the key drivers of this summer's eight-week losing streak in oil prices.

The strengthening U.S. dollar, in expectation of a Federal Reserve rate hike, has also added to the pressure. Because oil is priced in dollars, it takes a greater amount of foreign currency to buy a barrel of oil when the dollar is strong. (The opposite is true when it's weak.) The result is that the price of U.S. crude oil fell to a six-and-a-half-year nadir last month. On August 24, the West Texas Intermediate benchmark closed below $40 a barrel for the first time since the 2008-2009 financial crisis. Just a year ago, it was hovering around $100 a barrel. Meanwhile, the European Brent crude oil benchmark slid below $45 a barrel. Since that drop, both have drifted higher but remained under heavy pressure.

"It's a stimulus for the economy, because 80 percent of the crude oil that's produced goes straight toward transportation," says John Kilduff, founding partner of Again Capital, a New York–based hedge fund specializing in commodities investments. He expects airline, shipping and trucking companies' stocks to benefit. "So it's improving the cost of running trains, planes, trucks, cars."

Another result of low oil prices? Soaring demand for oil—in fact, the fastest-paced growth seen in five years, according to the Paris-based International Energy Agency, which advises industrialized nations on energy, adding that the "above-trend" surge is likely to continue into 2016. Global oil demand is expected to grow by 1.7 million barrels a day in 2015, the IEA predicted, revising its forecast upward in September and August, and predicting demand would rise a further 1.4 million barrels a day in 2016.

In the U.S., consumers are demanding more petroleum products than they have in years, with sales of gas-guzzling SUVs and trucks soaring. During the summer driving season, automakers reported sales that nearly doubled analysts' expectations, putting them on course for the best sales year in a decade, according to industry research firm Autodata Corp.

Still, the high demand has been unable to sop up the rising glut in global oil supply. The feverish pumping of oil, fed by the U.S. shale boom, has led to a "staggering" global oversupply of 3 million barrels a day, the IEA estimated this summer, the largest "overhang" since 1998.

Oil production in the U.S. will hit 9.22 million barrels a day in 2015—the highest level since 1972, according to the Department of Energy's statistics arm, the EIA. Next year is expected to be the first time the U.S. decreases year-over-year production since 2008, says EIA's Hess.

The frothy supply situation is unlikely to be helped by what appears to be a three-way fight brewing in the oil-rich Middle East among Saudi Arabia, Iraq and Iran, which are vying for market share by pumping more oil. After its landmark nuclear deal in July, Iran will strive "to reclaim its spot as the Organization of Petroleum Exporting Countries' biggest producer after Saudi Arabia," the IEA predicted.

Last November, Saudi Arabia, OPEC's de facto leader, made clear it would not make a unilateral cut to its oil production to boost prices, ramping up oil production to make up for lost revenue from the falling prices.

By late August, OPEC, as a group, issued a bulletin stating that it "stands ready to talk to all other producers" in hopes of cementing "fair and reasonable prices." In the past, OPEC has sometimes cut production to increase the scarcity of oil and goose prices higher, but it is unclear whether it can achieve the consensus to do so now. Already, non-OPEC countries are expected to slash supply, according to the IEA.

While the scaling back of energy projects in the U.S., along with high demand for energy encouraged by low prices, is seen as eventually pushing prices back up by late 2016, "many participants in the oil industry have adopted a new mantra: 'lower for longer,'" the IEA said.

Could the price on a barrel of oil touch the $20s—a level not seen since 2002? Most don't think so. "Events have been set into motion on the downside that are likely to keep prices low for a while, but I am not in the camp that says we're going into the $20s," Jim Ritterbusch, an energy analyst at Ritterbusch & Associates in Galena, Illinois, tells Newsweek. "I can see the low-to-mid-$30s, but the $20s will be quite a bit of a challenge."