What implications does oil have on central banks?

Author: Manuel Maleki, economist at Edmond de Rothschild

In March, the price of crude oil has rebounded more than +10%, going from 82 to 90 dollars per barrel, which was its peak in October 2023. This price increase is due to better than expected economic data, increased geopolitical tensions in the Middle East, and the policy of lower production by OPEC+ members.

However, for this year we expect a global economic slowdown due to the restrictive monetary policy applied by central banks in 2023, with full effect on economic activity in 2024. Therefore, under these circumstances, we predict that the price of crude oil will average, in a range between 75 and 85 dollars per barrel. Another specificity is the volatility, which would remain high due to geopolitical tensions.

Oil and central banks

An increase in the price of crude oil for a longer period would likely complicate the monetary policy of central banks and, more specifically, their forward guidance. Indeed, an increase in energy prices implies greater uncertainty about the economic situation. On one hand, it could imply more inflation due to the higher price of energy for households and businesses, but on the other hand it could reduce activity due to its depressive effect for non-producing countries, like in Europe. The situation in the United States is different because the country is the top crude oil producer with more than 12 million barrels per day. Therefore, for the U.S., the economic impact is almost nil, but it will have a positive impact on inflation.

In conclusion, the Fed and the ECB have shown and reiterated their willingness to fight inflationary pressures. Therefore, a higher crude oil price and greater uncertainty could slow down the rate of interest rate cuts by central banks. In addition, an increase in energy prices could affect their monetary policy, which could adopt a tougher tone to try to control inflation expectations.