IEEJ: January 2011

Special Bulletin
August 13, 2010
A Japanese Perspective on the International Energy Landscape (6)Resurfacing U.S. Slowdown Fears and Impacts on Crude Oil Prices
Ken Koyama, PhD
Director
Strategy and Industry Research Unit
Institute of Energy Economics, Japan

In response to uncertainties over the future course of the world economy, crude oil prices
have continued falling. On August 12, the West Texas Intermediate futures price on the New York
Mercantile Exchange closed lower at $75.74/barrel, falling for the third straight day. After rising to$82.55/barrel on August 3 following an upward trend that had continued on robust U.S. andEuropean corporate earnings reports since the second half of July, the benchmark crude oil futures
price fell back below $76/barrel level in some 10 days. It slipped below the level for the first timesince July 8. Particularly, the decline from August 10 was large. What factors were behind the bigchange?
The factors are resurfacing economic slowdown fears mainly in the United State andEurope, and growing uncertainties about the future world economy. U.S. economic indicators,
though including the above-cited robust corporate earnings as a bright sign, have been mixed.
Recently, however, markets have gradually grown conscious of negative signs including a possible
downward revision to the April-June GDP growth rate and a stall in improvement of employment.
On August 10, the Federal Reserve Board released a statement downgrading its economic
assessment and decided on an effective additional monetary easing measure to purchase Treasury
securities with proceeds from redemptions of mortgage-backed securities that the Fed bought to easecredit in response to the financial crisis following the Lehman Shock. On August 11, U.S. trade datafor June came out and indicated that the trade deficit posted a sharp expansion of 19% from theprevious month to $49.9 billion on an export slump.
As risk avoidance moves spread on growing fears of a U.S. economic slowdown, NewYork Stock Exchange prices declined substantially. The Dow Jones Industrial Average on August 11
lost a substantial 265 points from the previous day to 10,389. On August 12, the average extended its
losing streak to three days and closed at a three-week low of 10,320. Behind growing fears of a U.S.
economic slowdown, market participants and policymakers reportedly have growing fears that theUnited States would plunge into a Japanese-type deflation. This factor is viewed as having prompted
the Fed to take the additional credit easing measure.

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While market players tend to focus on the U.S. situation now, the European market still
has matters of concern. Although the recent stress test of European banks indicated that they wereless undercapitalized than expected, test standards were criticized as too low. In this sense, the futurebanking system stabilization is still pending as a key challenge. Therefore, currency market players
have recently sold euros for dollars, with debt default guarantee fees rising fast in the euro area.
Some economists view European economic and financial problems as deeper rooted than U.S.
problems.
As risk avoidance moves have thus spread from the United States to Europe and major
Asian markets including Japan amid growing fears of a global economic slowdown and rising
uncertainties about the future course of the world economy, stock prices have declined. Crude oil
prices, which have become a financial instrument, are inevitably susceptible to such trend. Although
there have been oil inventory accumulations and other weak supply/demand factors, the recent crude
oil price changes have been closely linked to the world economic and financial situations.
The Chinese economic trend has also contributed to growing fears of a slowdown in theworld economy including the United States. In China that has various problems such as potential
asset bubbles and the yuan issue while driving the world economy, economic indicators released on
August 11 posted slower growth in industrial production and fixed asset investment, indicating a
decelerating economic growth pace. A key point regarding the Chinese economy is now expected toshift from a fear of overheating to downside risks. As China has so far driven the world economy,
any turbulence in the Chinese economy may inevitably spill over to the world economy. Indications
are that Japan and the world economy depending on growth in China and other emerging countries
are fragile.
Such instability in the world economic and financial situations has begun to exert direct,
great impacts on Japan. The Nikkei stock average on the Tokyo Stock Exchange extended its losing
streak to five days on August 12 (hitting a year-to-date low below 9,100 briefly), while the yen
appreciated against all other major currencies. Some experts have predicted that differences between
the stances of Japanese and U.S. monetary authorities, Japan-U.S. interest rate gaps and difficulties
with Japan’s unilateral currency market intervention could allow the dollar to fall toward its record
low below 80 yen as seen in April 1995. The yen’s rapid appreciation and the sharp stock market
decline have put a damper on the Japanese economy that had been recovering on robust exports tosuch markets as Asia including China. Fears of another economic slowdown have surfaced. Calls
may grow for the Bank of Japan and the government to take appropriate, quick policy actions.
Such world economic and financial situations are the most important factor for anticipatinginternational energy markets in the immediate future. This is because crude oil prices have closelinks with the economic and financial situations over a short term and serve as one of thefundamental factors that exert great impacts on the energy supply/demand structure. As market

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conditions and perceptions regarding the future economic situation fluctuate sharply, we may see not
only the above-cited negative factors but also positive ones causing growing expectations of an
economic recovery again. For the immediate future, however, market participants will focus on
future developments regarding factors behind fears of a slowdown in the world economy.
Contact: report@tky.ieej.or.jp

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