When oil bubble bursts

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MOSCOW. (RIA Novosti economic commentator Oleg Mityayev) - Oil prices have confidently settled at a level above $100 per barrel, reaching a new all-time high of $109.72 in New York on March 11.

At this rate, oil may soon cross the mindboggling level of $120 per barrel. This steady growth is not at all the result of insufficient production, but is fuelled by profiteers who view oil futures as an attractive investment instrument at a time of the dollar's decline.

There are no objective fundamental economic reasons, such as growing demand combined with insufficient supply, for such a rise in global oil prices. Consumers enjoy stable supplies and even store surplus fuel.

Spring is often a "dead season" on the global oil markets. The demand for fuel oil used for heating drops substantially in northern hemisphere compared with wintertime, while summer vacations with the usual surging demand for car fuel is still far away. Oil refineries all over the world, the main customers for crude, suspend operations in spring to shift from fuel oil to gasoline production.

Therefore, OPEC's decision to maintain the current production level means in fact excessive supply at a time of low market demand for oil. Nevertheless, OPEC president Chakib Khelil expects global oil prices to reach $110-$120 per barrel, for reasons other than the organization's policies.

The key reason behind this situation is the continued fall of the U.S. dollar against other national currencies, which naturally fuels the rise in oil denominated in dollars. The U.S. Federal Reserve is cutting interest rates in a desperate attempt to rescue the country's economy, which effectively makes investment in the dollar even less attractive. The FRS has cut interest rates from 5.25% to 3% since last August, and is expected to bring it own to 2.25% this month, according to estimates.

Other financial markets are just as unstable, especially in the United States, where the loan market is still shaky after last fall's mortgage crisis, and the stock market is enjoying the repercussions.

Considering all of the above, most profiteers and large investors alike have found a safe harbor for their capital - crude contracts, a fail-proof tool as oil has been on a steady rise in the past few years. However, the problem with overinflated oil futures is that they in no way reflect the fundamental situation on the market. The oil "bubble," so attractive for investors trying to get away from the dollar, should burst as soon as it becomes clear that the market is oversupplied with oil, which won't be too long.

How will it happen? A similar situation was witnessed in August-September 2006, when oil dropped 35% in two months, from $78 to $58 per barrel, as a result of a long-time accumulation of oil in the United States.

Therefore, even if oil reaches $120 soon, it won't be for long. It will probably drop after a few weeks, most likely to $70-$80 per barrel, a comfortable level for major oil producers, members of the Organization of Petroleum Exporting Countries and Russia, who gained record profits last year with the average oil price of $72.5. Leading economies, key oil consumers, will also sigh with relief. Even the U.S. economy may get out of the recession sooner.

As for a longer-term forecast, most analysts agree that there will be no such thing as cheap oil in the future, because of the steadily growing demand in such emerging markets as China and India.

The opinions expressed in this article are the author's and do not necessarily represent those of RIA Novosti.

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