Economic troubles eat further into oil demand

Earlier this week the IMF issued a gloomy world economic outlook and now expects the US economy to grow by just 0.5% this year, compared with its previous estimate of 1.5%.

This has prompted the International Energy Agency to chop a good chunk of its predictions of oil demand this year. The Paris-based energy advisor now expects the world to use 87.2 million b/d, and has revised this forecast by a cumulative 1 million b/d since it was first issued in July last year.

So far the weakness is almost solely confined to the richer parts of the world. Expected demand this year in the OECD has been cut successively from last July's initial estimate of 50.3 million b/d to the current 48.9 million b/d.

In its latest monthly oil market report Friday, the IEA said there were signs of demand weakness in some non-OECD countries but so far this has not been the case in China and the Middle East, where demand for oil is growing at a faster pace than anywhere else.

It is perhaps not surprising that record prices for crude and refined products are being accompanied by a more pessimistic demand outlook, but the link between the two is not as clear as some might think. So far there has been relatively little sign of high prices eroding demand. Instead demand is being hit by the wider macroeconomic problems in the US and elsewhere, which have not stemmed directly from high prices.

Despite the downward revisions, it is worth noting that the IEA's projections are not the most pessimistic. Just a day before the report was released, Leo Drollas of the Center for Global Energy Studies was telling a London conference that his think-tank only expects world demand for oil to grow by 600,000 b/d this year.

The difference is important as it could hold the key for the future direction of oil prices. If Drollas is right, non-OPEC supply should rise faster than demand this year, which would allow stocks to build if OPEC maintains current output levels. On the other hand, the IEA's figures suggest the world's dependence on OPEC oil will increase this year.