- The worldwide energy crisis unfolding has thrown markets into unprecedented turmoil.
- In Europe, natural gas prices are at record highs. And in China, thermal coal futures are also at all-time highs.
- Francisco Blanch of Bank of America provided Insider with four possible paths through early 2022.
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The worldwide energy crisis unfolding amid a surge in demand and an ongoing supply crunch has thrown the oil and gas markets into unprecedented turmoil.
Oil prices are up more than 60% this year, with West Texas Intermediate crude hitting a fresh seven-year high on Friday.
Elsewhere, the situation is even more extreme. In Europe, natural gas prices are at record highs, with wholesale prices on spot markets tripling this year. In China, thermal coal futures are also at all-time highs and have tripled this year as well.
As energy prices continue to rocket, Francisco Blanch, Bank of America Global Commodities and Derivatives Research Head, provided Insider with four possible paths he sees through early 2022. Each one holds the promise of prices cooling off, but some scenarios are more painful than others.
1. A spike in energy prices will lead to an economic crash
Francisco likened the energy crunch today to the run-up in oil prices between 2007 to 2008.
At the start of 2007, Brent crude was at just $50 a barrel, then nearly doubled to $95.98 a barrel towards the end of the year. And by July 2008, prices soared to an all-time high of nearly $150 a barrel. But prices crashed spectacularly as the Great Recession took hold.
If a similar spike in oil happens again, Francisco said major industrial firms may just sharply decrease production activities or shut down altogether, which will ultimately lead to a recession.
In fact, surging energy prices have already forced some businesses, especially in Europe and Asia, to halt manufacturing.
2. More production, substitution
An increase in the prices of any good will prompt any producer to either ramp up their production or to find more affordable alternatives, Francisco said.
So far, US shale companies have indicated they plan to invest more money next year in domestic production. But they don't appear ready to unleash a flood of oil as investment remains constrained in favor of bigger shareholder returns.
Meanwhile, as natural gas and coal prices soar, some companies are shifting to using oil. That may add around 500,000 barrels a day to global demand, according to the International Energy Agency.
3. A warm winter that will temporarily cure the problem
Global energy prices are rising ahead of winter, when demand spikes for natural gas and coal to heat homes. Buyers across the globe are competing over a limited supply while energy prices remain high. The US Energy Information Administration on October 13 warned Americans to brace themselves for a heftier heating bill.
But what if we suddenly experience a warmer-than-expected winter? Demand will naturally slide, and the problem, according to Francisco said, would have momentarily cured itself "by chance."
4. A hike in interest rates that will slow down aggregate demand
Then there's the possibility that the central bank will slow down aggregate demand, Francisco said. This means allowing for somewhat higher interest rates and reduced quantitative easing, which will cool overall growth and energy consumption.
Federal Reserve officials have already signaled they will taper bond purchases later this year and start hiking rates next year, as the economy continues to rebound and inflation stays elevated.
"Remember, you can print US dollars, you can print euros, and you can print Philippine pesos. But you can't print commodities," he said.