Why oil prices are at a record high
Thursday, 01 May 2008

REUTERS, London- US crude oil hit an all-time high of $119.93 a barrel on Monday. Robust demand for crude and a weak dollar have fuelled the rally from a dip below $50 at the start of 2007.

Adjusted for inflation, oil is now above the $101.70 peak hit in April 1980, according to the International Energy Agency, a year after the Iranian revolution.

DOLLAR WEAKNESS

The fall in the value of the dollar against other major currencies has helped drive buying across commodities as investors view dollar assets as relatively cheap.

Some analysts say investors have been using oil as a hedge against the dollar. At the same time, the weakness of the dollar has also cut the purchasing power of OPEC's revenues.

OPEC oil ministers have said that although prices are at a record nominal high, inflation and the dollar have softened the impact. FUND MONEY Since the Federal Reserve cut U.S. interest rates and central banks pumped billions of dollars into financial markets to ease a credit crunch, oil and gold have risen.

Investment flows from pension and hedge funds into commodities including oil have boomed, as has speculative trading.

At the same time, the credit crunch has brought some other markets, such as the U.S. asset-backed commercial paper market, to a virtual standstill. Some of that money has found its way into energy and commodities, analysts say.

SUPPLY CUTS

Supply of crude from Nigeria has been cut since February 2006 because of militant attacks on the country's oil industry.

Exxon Mobil (XOM.N: Quote, Profile, Research) on Monday said it had declared force majeure on its Nigerian shipments after essentially all its roughly 800,000 barrels per day (bpd) of crude production was shut because of a strike.

That added to about 564,000 bpd of production, as detailed by oil companies, that was already shut due to militant attacks and sabotage. The total represents more than half of Nigeria's output.

In the UK, the 700,000-bpd Forties pipeline was closed on Sunday as a strike over pensions began at the Grangemouth refinery in Scotland. Workers returned to work on Tuesday.

REFINERY BOTTLENECKS OPEC

and some others in the oil industry say a lack of new refining capacity in major consuming nations such as the United States is helping to fuel the rise in prices.

Investment in new plants has been slowed as rising costs and a shortage of engineers delay construction.

DEMAND

While previous price spikes have been triggered by supply disruptions, demand from fast-growing economies in Asia and the Middle East is a main driver of the current rally.

Global demand has slowed after a surge in 2004 but is still rising and higher prices have so far had a limited effect on economic growth.

Analysts say the world is coping with high nominal prices because, adjusted for exchange rates and inflation, they have been until now lower than during previous price spikes and some economies have become less energy intensive.

OPEC SUPPLY RESTRAINT

The Organization of the Petroleum Exporting Countries, source of more than a third of the world's oil, started to reduce oil output in late 2006 to stem a fall in prices.

Fewer OPEC barrels entering the market helped propel the rally and consumer nations led by the International Energy Agency have urged OPEC to pump more oil.

OPEC raised production by a modest 500,000 bpd at a meeting in September 2007, but has left output unchanged at gatherings since then, saying there is enough crude.

It next meets formally on September 9. Few in the group believe there is much it can do to tame a market it says defies logic.

IRAQ

Iraq is struggling to get its oil industry back on its feet after decades of wars, sanctions and underinvestment.

Exports of Kirkuk crude from the country's north are stabilising as the system recovers from technical problems that had mostly idled the pipeline since the U.S.-led invasion of Iraq in March 2003.

Supplies from the south were slowed in late March and early April after a bomb attack on a pipeline, Iraqi officials said.

The attack was the first to affect southern exports since 2004.

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