After a steady ascent over the past week, the price of oil skyrocketed Wednesday. Market observers said the spike will continue to fuel volatility in the days and weeks ahead as traders try to sort through the implications for inflation and central bank policy — and whether, or when, ordinary Americans and businesses will hit their limit.
The broader question for investors is not just how much higher oil might go, but how much it could affect inflation. “Higher oil prices mean higher energy costs, and that’s really a key inflationary pressure,” said Will Rhind, the founder and CEO of GraniteShares.
“Like any inflationary factor, there comes a point where it creates demand destruction.”
The challenge is that no one knows exactly where that tipping point is — but they worry we could be getting close. “For sure, if you push oil prices too high, you’re going to get a recession,” said Stewart Glickman, an energy equity analyst at CFRA Research. “If we go north of $120, I’d start to get very concerned.”
In one day alone, the price of Brent crude, a global benchmark for oil, was up by more than 9.5 percent, ending Wednesday at $115 per barrel and reflecting the continued uncertainty around Russia’s offensive against Ukraine.
Russia produces about 10 percent of the world’s oil and is a key provider of natural gas for Europe. In levying sanctions and banking restrictions in retaliation for its aggression against Ukraine, international groups labored to carve out Russia’s energy sector. But energy market observers said it appeared that the private sector was taking, on its own, the step that governments have so far been reluctant to do.
“We’re having a collective epiphany on Russia, and that epiphany is that there’s a de facto ban on Russian oil,” said Tom Kloza, the global head of energy analysis for Oil Price Information Service. “There’s no formal sanctions” from the U.S. or Europe, “but what we have amounts to shadow sanctions,” he said.
The reasons for making Russia a pariah in the energy market are less humanitarian and more economic: With banks unwilling to lend, insurers unwilling to underwrite and shippers unwilling to move product, Russian oil market activity has slowed. “People are afraid if they do a transaction with a Russian commodity, it may be rendered obsolete,” Kloza said.
Before the Ukraine invasion, Russia was contributing about 10 million barrels a day to the global oil supply. “The problem is that spare capacity globally is only about 5 million barrels a day,” Glickman said. “Globally … even if everyone else who has spare capacity opened up the spigots at the same time, you still can’t replace all the Russian crude.”
What is unclear, energy analysts say, is how much of this writing off of the Russian supply has already been factored into the price of oil. Kloza suggested it was still being calculated, which would indicate oil still has room to grow. “If we don’t get Russian crude oil and refined products … you could see the world market [rise] to between $115 and $130,” he said.
Skyrocketing energy prices just add another unpredictable moving part to the calculus central bank officials have to perform as they try to tamp down inflation, said John Cunnison, the chief investment officer at Baker Boyer Bank.
“As far as the increase in energy prices, it really complicated an already complicated, tenuous path the Fed was treading,” Cunnison said.
In his testimony to lawmakers Wednesday morning, Federal Reserve Chair Jerome Powell said the central bank remained on track to raise interest rates when policymakers meet this month, in spite of what he called a “highly uncertain” geopolitical climate. The four-decade high at which inflation is trending stems largely from a massive supply-demand imbalance, which economists had been expecting would start to ease soon.
The sharp jump in energy prices has thrown that assumption into question.
“The oil story is complicated, because it’s a little more of a stagflationary-type story,” Cunnison said, describing persistent high inflation. “As oil prices go up and that bleeds into inflation … it can also be something that begins to make growth slightly more fragile.”
Glickman, the energy equity analyst at CFRA Research, called it a "feedback loop" that feeds into inflation. "And when inflation goes rampant, so do oil prices,” he said, adding that the two continue to feed off each other.
“That’s my biggest concern,” he said.