Higher Oil Prices Threaten to Exacerbate Global Inflation and Cost of Living Crisis

Oil prices have increased after several of the world's largest exporters announced unexpected production cuts.

Brent crude oil is trading close to $85 a barrel after jumping by almost 6%.

The move by Opec+ and several Gulf states to cut output by more than one million barrels of oil a day has raised concerns that higher oil prices could make it harder to bring down the cost of living. Despite this, the RAC motoring group has said that it does not expect petrol prices to rise unless the higher oil price is sustained over several days.

In addition to the production cuts, Russia has said it will extend its cut of half a million barrels per day until the end of the year. Energy giants BP and Shell saw their share prices rise on Monday, with both rising more than 4%. However, the US has been calling for producers to increase output in order to push energy prices lower.

High energy and fuel prices have helped to drive up inflation, putting pressure on many households' finances. Yael Selfin, chief economist at KPMG, warned that the oil price surge could make the battle to bring down inflation harder. However, she said that rising oil prices won't necessarily lead to higher household energy bills as the energy price cap, that households benefit from, has already been determined using earlier market expectations. Additionally, when you look at energy use in households, it tends to be more gas-heavy rather than oil.

The reduction in output is being made by members of the Opec+ oil producers, which accounts for about 40% of all the world's crude oil output. Saudi Arabia is reducing output by 500,000 barrels per day and Iraq by 211,000. The UAE, Kuwait, Algeria and Oman are also making cuts. A Saudi energy ministry official said the move was "a precautionary measure aimed at supporting the stability of the oil market", the official Saudi Press Agency said.

This surprise announcement is significant for several reasons. Despite price fluctuations in recent months, there were concerns that global demand for oil would outstrip supply, especially towards the end of the year. The increase in oil prices following Sunday's announcement could potentially put more pressure on inflation - worsening the cost-of-living crisis and raising the risk of recession.

Interestingly, this announcement came just a day before the Opec+ meeting. There were indications from members that they would stick to the same production policy, meaning there would be no fresh cuts, which is why it has come as a huge surprise.

The development will also likely further strain ties between the US and Saudi Arabia-led Opec+. The White House had called on the group to increase supplies to cool down prices and check Russian finances. However, Sunday's announcement also underlines the close cooperation between oil-producing countries and Russia. The latest reductions come on top of a cut announced by Opec+ in October last year of two million barrels per day (bpd).

When the Opec+ group announced its production cuts in October, US President Joe Biden said he was "disappointed by the short-sighted decision". 

The current surge in oil prices following the surprise production cuts by OPEC+ is likely to add more pressure on the global economy, which is already struggling due to the ongoing COVID-19 pandemic. Higher oil prices can lead to an increase in the cost of living as energy prices rise, which could hurt consumers and businesses alike.

According to economists, higher oil prices could lead to inflation, which is the rate at which prices for goods and services increase over time. This can be especially problematic for households and businesses that are already struggling to make ends meet due to the economic fallout from the pandemic. Inflation can erode the purchasing power of consumers, which can lead to a decrease in consumer spending and economic growth.

However, the RAC motoring group said that it does not expect petrol prices to rise unless the higher oil price is sustained over several days. The group also noted that any sudden increase in the cost of oil should not result in a rise in the UK average price of petrol for a fortnight, unless the barrel price stays higher for several days.

In addition to concerns about the impact of higher oil prices on inflation and the cost of living, there are also fears that rising energy costs could lead to a spike in transportation costs, as fuel prices rise. This could affect businesses that rely on transportation, as well as consumers who depend on cars and other vehicles for their daily commute.

The reduction in output by OPEC+ members is aimed at supporting the stability of the oil market, according to a Saudi energy ministry official. The move is seen as a precautionary measure, given that demand for oil could be hit by a weakening global economy and sanctions have had a limited impact on restricting Russian oil supplies.

Analysts have noted that the production cuts by OPEC+ could be an attempt to keep the oil price above $80 a barrel in the medium term, given the potential impact of a weakening global economy on oil demand. The move also highlights the close cooperation between oil-producing countries and Russia, which has been hit by sanctions in recent years.

The current surge in oil prices following the surprise production cuts by OPEC+ is likely to have a significant impact on the global economy, particularly if the higher oil price is sustained over time. Economists will be closely monitoring the situation to determine how the oil market will respond in the coming days and weeks.