DRAFT 01

(20%)

LDB 1042/LDB 1042Z: ACADEMIC WRITING

NAME : YOUSUF SAJID

1 – very poor; 2 – poor; 3 – average; 4 good; 5 very good

1 Title 1 2 3 4 5

2 Outline Introduction 1 2 3 4 5

Body 1 2 3 4 5

Conclusion 1 2 3 4 5

3 References 1 2 3 4 5

TOTAL 25 marks

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 OIL PRICE FLUCTUATION AND ITS INFLUENCE ON GLOBAL ECONOMY

Crude oil is quite known as one of the crucial driving factors of the global

economy. Our dependence on oil has made it the most vital source of energy over the

past century. However, a slight imbalance in oil price could present significant impact on

economic growth. Consequently, multiple researches to tackle this issue came about.

The following is a study of the correlation between oil price shocks and global economy.

Five general articles will be reviewed to discuss the definitions, past studies, methods,

results, and other components of the oil price fluctuations.

“A negative oil supply shock is an exogenous shift of the oil supply curve along

the oil demand schedule to the left, lowering oil production, and increasing oil prices. A

positive oil demand shock driven by global economic activity (represented by an upward

shift of the oil demand curve along the oil supply schedule to the right) is a shock that

increases both oil production and prices” (Cashin, Mohaddes, Raissi, & Raissi, 2014). In

other words, negative oil supply shock is a phenomenon that represents a sudden

scarcity of the oil supply in the market or demand surplus whereas a positive oil supply

shock is a situation where an excess amount of commodity supply is available for which

the price is comparatively reasonable.

Over the decade, numerous past studies have can been conducted by

researchers all over the world to inspect the major reasons behind elasticity of oil price

and its consequences on global economy. These studies conveyed a rather positive

relevance to the topic as being part of the research on the contents discussed.

Baumeister and Peersman (2013) and Kilian and Murphy (2014) pinpointed increasing
demand and diminishing oil supply as the primary reasons for the oil price fluctuations

(Cashin et al., 2014). On the other hand, Hamilton (2003) as in Kilian (2014) proposed

that political event is one of the reasons for the instability in oil price and is parallel with

Yan’s (2012) claim (Boheman & Maxén, 2015). Dogrul and Soytas (2010) remarks that

an increment in oil price would most probably trigger higher production costs in myriad

sectors (Brini, Jemmali, & Farroukh, 2016). Apart from that, a plunge in demand as

industries shift towards eco-friendly and more efficient energy source compels the

market to reduce oil price (Nguyen et al., 2017).

In order to validate these studies, several methods were utilized and the outcome

of these techniques were further discussed. The Vector Autoregressive (VAR)

technique is one of the techniques used which unfolds the capacity and transferal rate

of discrete oil-price fluctuations to the global economy via multiple domestic and foreign

variables (Cashin et al., 2014). In other words, VAR is used to examine the link between

oil prices shocks and the economic growth in selected countries. This method involves

data analysis using equations, tables, graphs, and charts. Arrangement of variables is

considered crucial in VAR construction. The outcome suggested that an increment in oil

price is often contributed by lower global oil production levels (Cashin et al., 2014). This

statement is agreed by Dogrul and Soytas (2010) in (Brini et al., 2016). Production and

income declines at the same ratio as these would elevate upon an oil price drop (Kilian,

2014). Furthermore, both group of countries responded closely to oil price shocks

(Boheman & Maxén, 2015). The methods applied also include the Structural Vector

Autoregressive (SVAR) model that pivots on the investigation of the origins of

asymmetry between the hikes and drops of oil prices in the selected sample of countries
(Brini et al., 2016). The SVAR unveils the source of imbalance of oil price volatility in a

selected sample of countries by involving vectors, matrices, equations, and tables. The

authors revealed the significance of this model for being able to demonstrate that a

spike in oil price depreciates the currency of the oil-importing countries as the supply of

its domestic currency in the foreign exchange market increases (Brini et al., 2016). On

top of that, the Heteroscedasticity-based event study has not been of less importance

as it has a pivotal role in the scrutiny of the effects of lowering West Texas Intermediate

(WTI) oil price. This technique exhibits that lower oil prices pose negative impact on the

energy sector (Nguyen et al., 2017). The study diminishes the excluded variables as

compared to VAR. The potential limitation of structural VAR models is that

distinguishing the flow demand shocks based on different countries or ascribed to

foreign productivity or monetary policy shocks is beyond the bounds of possibility

(Kilian, 2014).

The outcome of the aforementioned studies conducted discloses the impact of oil

price volatility towards the global economy. Relatively, several promising measures

were introduced to overcome the concerned matter. In the VAR method, it was noted

that oil consumption in several countries is rather high compared to some of the others

(Cashin et al., 2014). Besides, findings unveiled that supply-driven oil-price shocks

affect the economy differently than oil-demand shocks. Oil price drops due to supply,

impacts the economy of oil importers negatively while the oil-exporting companies is on

the contrary (Cashin et al., 2014). Thus, an increment in oil price is often contributed by

the lower global oil production levels (Cashin et al., 2014). As for the SVAR model, the

experiment summarized that oil price fluctuations have major impact on real exchange
rate of the oil-importing countries while inflation impact is acute and that the real

exchange rate becomes negative with a positive oil price shock (Brini et al., 2016).

Nevertheless, the results showed no significant impact of oil price shocks to inflation

most probably due to a limited number of countries studied. The value of U.S. dollar is

boosted as the oil price encounters a fall according to the Heteroscedasticity-based

event study. Generally, the most prominent impact of oil price shocks is the relocation of

oil dependence to alternative energy sources (Cashin et al., 2014). For instance,

between 2002 to 2008, the usage of coal multiplied following an unexpected oil boom

(Cashin et al., 2014). In addition, price increase affects the GDP of countries which

leads to petrodollar recycling (Boheman & Maxén, 2015). This finding is consistent with

the study of (Cashin et al., 2014). Lower oil price also forces many energy firms to

reduce production which indirectly triggers other sectors in the economy to shrink

production and investments (Nguyen et al., 2017). Kilian (2014) in his study affirms that

the fluctuations in oil price has become an enormous issue for the transportation

industry which on the other hand links to the research of Brini et al. (2016) that states

increment of oil prices can proportionally elevate the production costs in various sectors.

Undisputedly, every issue that has subsisted is a sequel to some grounds and the very

congruent assertion implies on oil price swings as well. Geopolitical tensions chiefly

within the oil producing countries prompts to a substantial oil price uncertainty (Kilian,

2014). This is because geopolitical tensions affect the production of oil which as a result

effects oil price volatility. This affirmation is coherent with the study of Keppler (2008) as

in Boheman and Maxén (2015) that highlights a conflict between Palestine and Israel.

Escalating demand of oil by various sectors such as the blooming automobile industry
on the other side does not play a less principal role in determining the rate of oil (Brini et

al., 2016). Lastly, a variation in crude oil supply acts as another reason behind this

leading problem (Brini et al., 2016). In short, a huge oil supply reduces the oil price

while a restricted oil supply pushes the oil price upwards. The outcomes of the reviewed

articles are somehow closely related to one another as the discussion specifically

involves the similar effects of oil price uncertainty. Other than that, the articles also

discussed a few modus operandi in an attempt to curb further oil price fluctuations

mainly by regulating the distribution of total oil supply as proposed in (Boheman &

Maxén, 2015). Via this method, the amount of oil will only be dispensed upon need. The

next effort would be to limit production capacity of crude oil in the market (Cashin et al.,

2014). This is so the oil supply does not exceed the requirement which in turn might

have a high probability of resulting in a tremendous price fall. Minimizing dependence

on the oil and diversify fuels would be another fine approach (Cashin et al., 2014).

Substituting oil with distinct sources of energy such as coal, biofuel, and renewable

energies might help in achieving this target.

The world’s economy becomes a turmoil as a result of the inevitable horrendous

oil price swings. Oil-price fluctuation brings adverse effects to the economy of a country

but varies among respective oil importing and exporting nations (Cashin et al., 2014).

The review concluded that oil price volatility is not just natural but could also be affected

by countless other factors. Nevertheless, the downsides of oil price fluctuations could be

mitigated if realistic decisions and preventions are brought into consideration. Based on

the discussion, the result obtained may have appeared differently with an increased
number of developing countries involved. Despite the limitations, the average results

were initially obtained.

(1538 Words)

REFERENCES

Brini, R., Jemmali, H., & Farroukh, A. (2016). In Macroeconomic Impacts of Oil Price

Shocks on Inflation and Real Exchange Rate: Evidence from Selected MENA

Countries, 2-10.

Boheman, H., & Maxén, J. (2015). Oil Price Shocks Effect on Economic Growth –

OPEC versus non-OPEC Economies. Macroeconomics, 8-33.

Cashin, P., Mohaddes, K., Raissi, M., & Raissi, M. (2014). The differential effects of oil

demand and supply shocks on the global economy. Energy Economics, 113–

134.

Kilian, L. (2014). Oil Price Shocks: Causes and Consequences, 5–28.

Nguyen, H., Nguyen, H., & Pham, A. (2017). Impact of Oil Price Fluctuations on

Financial Markets Since 2014, 3-28.