Oil spot prices and the first Gulf war
Iraq’s invasion and subsequent stoppage of Kuwait and Iraq oil supplies resulted in shortage of approximately 6.9 percent of oil production. But the oil price shock resulting from the invasion was very dramatic. Oil prices doubled within two months to over $40 a barrel from $20 a barrel.
Middle East had also seen oil crisis in past during Israel-Arab war and Iran crisis. But this oil price shock was much faster than observed during previous price shocks. It tool seven months for oil prices to double during the Iranian crisis in 1979 (Yamani, 1991).
The increase in spot prices was more of a concern of unavailability of crude oil in future and buyers wanted to build up their stocks. The shortfall in oil production from Iraq and Kuwait amounted to only 8 percent of consumption by OECD countries (Yamini, 1991) and this was before any increase in oil production by other countries. Soon other non-crisis OPEC countries including Saudi Arabia increased the production of oil and the net shortage in production fell to only 2 percent of consumption of OECD countries.
The world had high stocks of oil in storage at the time of the First Gulf War. Oil stored was enough for 99 days of consumption (Yamini, 1991). Now if the stored oil were used to make up for 8 percent shortfall, then only about 30 days of storage was enough to take care of one year of consumption without producing any extra oil from other countries. When we add in extra contribution by other countries and use stored oil for meeting 2 percent shortfall only then about 7 days of storage capacity was enough to meet shortfall for one year. Oil industry reckons that it need about two months of storage capacity for operational purposes. Even after using the stored oil to meet shortfalls, the world had enough oil to meet industry requirements. So there was not any physical shortage of crude oil during the First Gulf War.
Even though there was no shortage of oil, yet markets were jittery. Increased production from other countries had almost met the shortfall but now those countries were producing to their limits. Any incident would lead to increased shortfall that wouldn’t be met.
Oil prices react sharply to any bad news during crisis times. Following oil production related news also had an impact in pushing higher oil prices during the First Gulf War:
• North Sea oil production was facing difficulties that restricted the prompt availability of more oil in European countries.
• The amount of heavier crude in increased oil production was higher than under normal production levels. Heavier crude oil is less favoured than lighter crude oil and so buyers were willing to pay extra premium to secure supplies of already under demand pressure lighter crude oil.
On 27 August 1990 OPEC announced that its members would increase production by 4 million barrels per day to compensate for the above shortfall (Chronicle). This increase in production alleviated the supply fears and spot oil prices dropped significantly.
When US armed forces attacked Iraq on 17th January 1991, spot prices declined rapidly. Market expected the end of the crisis soon and with it will come the end of uncertainties in the oil supply.
There were no other major oil related events in the period after Iraq’s invasion of Kuwait to have a significant impact on crude oil prices. This shows that the above significant movement in oil spot prices was related to Iraq’s invasion of Kuwait and subsequent US attack on Iraq.
Tags: first gulf war, oil crisis, oil price shock, opec countries
