19.09.24 Review

Chinese Correction: Lower oil prices will not lead to serious budget problems next year, but will increase turbulence in the Russian economy


In the near future, Brent oil prices could stabilise at around $70 per barrel, according to analysts from major investment banks. Last week, it dipped below this level for the first time since the end of 2021.

The main reason is the weakening demand from China. Over the last decade, China has been a key driver of increasing global oil consumption. Now, the era of ‘Chinese’ oil is coming to an end, influenced by both a general slowdown in growth and the rapid rise of electric vehicles and high-speed rail networks. Simultaneously, non-OPEC+ countries have been increasing oil production.

If prices remain at $70 per barrel, global inflation will decline faster, allowing Western countries to more decisively lower interest rates. A ‘soft landing’ scenario – slowing the economy without triggering a recession – will become even more likely for them.

Unlike Western economies, the current price level is uncomfortable for the Russian economy. The 2024 budget was based on $85 per barrel for Brent and $70 per barrel for Russian oil. Moreover, analysts reported that in September, there were days when Russian oil was sold below the G7-imposed price cap.

If prices drop to $70 or even slightly lower, Russian authorities will not face serious budget issues. The recent tax hikes will generate additional revenues equal to about a quarter of all oil and gas income. However, further increases in spending will be challenging. Additionally, the reduction in oil and gas revenues will impact the economy through other transmission mechanisms and, combined with other factors, will lead to significantly greater turbulence next year.

The ability of the Russian authorities to simultaneously finance the war against Ukraine and maintain macroeconomic and social stability within the country directly depends, as is well known, on the level of its oil and gas revenues. In 2023–2024 (not to mention 2022), the global market conditions have generally been favourable for this. The Russian budget for 2024, which officials call the ‘victory budget’, is based on an oil price of $85 per barrel of Brent. That’s exactly what it was initially priced at. However, in the second half of the year, the trend changed. Last week, the price fell below $70 for the first time since the end of 2021. Analysts from Citi, Goldman Sachs, and JPMorgan (quoted by Bloomberg) believe that it could stay near this level for a long time.

The issue is that the growth in oil demand has sharply slowed, while supply is increasing. The International Energy Agency (IEA) lowered its forecast for overall demand growth in its September report to 0.9 million barrels per day (b/d), while earlier in the year, a growth of 1.2 million b/d was expected. At the same time, supply is set to increase by 1.5 million b/d, mainly due to rising production in the US. Experts interviewed by Bloomberg indicate that American shale fields remain profitable even at $70 per barrel of Brent, so production there is unlikely to slow down soon.

The main factor behind the decline in oil prices in the second half of the year has been the weakening demand from China. In July, Chinese oil demand fell on a year-on-year basis for the fourth consecutive month, according to IEA experts. For the entire year, they predict it will still grow, but not more than 0.2 million b/d – compared to a growth of 1.1 million b/d in 2023. The forecast for 2025 indicates a mere 0.3 million b/d increase. A similar average growth forecast for Chinese demand was provided by Bloomberg, which surveyed analysts and traders who participated in the Asia-Pacific Petroleum Conference earlier in September.

Alongside the prolonged crisis in the real estate sector, the consumption of oil in China is also affected by the rapid spread of electric vehicles and the development of the national high-speed rail network, note IEA experts. According to their estimates, these two factors will reduce Chinese demand by 0.4 million b/d this year. Currently, nearly every second new car sold in China is fully electric or hybrid, according to a PwC study. The share of fully electric vehicles is 25%. (In Europe, the total share of electric and hybrid vehicles exceeds 50%, according to the same study, but the share of “pure” electric vehicles is lower at 18%. In the US, the total share of electric and hybrid vehicles is 19%, with ‘pure’ electric vehicles at 7%.)

Over the past decade, economic growth in China has been a key factor in increasing global oil consumption. According to IEA calculations, from 2013 to 2023, China accounted for more than 60% of the total increase in demand, while developed countries gradually reduced their consumption during this period. After the end of the pandemic crisis, China's share of the global increase in oil demand grew even more, experts note. This year, oil demand outside of China will be 0.3% lower than the pre-pandemic level of 2019, while in China, consumption will exceed the 2019 level by 18%.

Global oil demand growth by region, 2013-2023, million b/d

However, the era of ‘Chinese demand’ in the oil market is coming to an end. In the future, global consumption will primarily grow due to other developing countries in Asia, according to IEA experts, but the rates are unlikely to match those provided by China. For example, India is expected to increase consumption by only 0.2 million b/d in 2024. From 2023 to 2030, all of Asia, excluding China, will increase consumption by 3 million b/d, while China will add 1.5 million b/d. The IEA bases its forecast on the potential for growth in the manufacturing, construction, and petrochemical sectors in different countries. They also consider that the slowdown in China's economic growth will reduce business activity throughout Asia. Consumption growth in developing countries from other regions is expected to be even weaker.

OPEC+, whose forecasts are traditionally more optimistic than those of the IEA, expects demand growth in 2024 to be 2.03 million b/d, which is more than twice the IEA's expectations. However, OPEC+'s previous forecast was even more optimistic, at 2.11 million b/d. The reason for the modest revision is the same as that for the IEA: disappointing data on the state of the Chinese economy. In June, OPEC+ announced a gradual withdrawal from additional oil production restrictions. The organisation aimed to reclaim market share that it had lost to other producers, primarily the US, during the restrictions. Additional oil volumes were set to start entering the market in October. However, OPEC+ has now decided to hold off on expanding supply to avoid crashing the market.

The decline in global oil prices is good news for Western economies. Inflation will decrease faster, allowing central banks in the US, EU, and the United Kingdom to lower interest rates more decisively. On 18 September, the U.S. Federal Reserve cut interest rates for the first time in more than four years, by 50 basis points, to a range of 4.75–5.25% annually. The ‘soft landing’ scenario – slowing growth without entering recession – is becoming increasingly likely, according to economists surveyed by Bloomberg. At the same time, a ‘soft landing’ could push oil prices even lower. Traders from Trafigura and Gunvor do not rule out a decline to $60 per barrel of Brent.

Oil prices in nominal and real (2010 US dollars) terms, 1980-2025, US dollars/barrel Brent

The current level of prices is already uncomfortable for the Russian economy, unlike for the West. Last week, a barrel of Urals was priced below $60, according to Bloomberg. Data from Argus, cited by the agency, indicates that the price of Russian oil did indeed drop below the price cap set by the G7 countries in September. Consequently, in October, the Ministry of Finance may be forced to start selling currency from the National Wealth Fund in accordance with budget rules, warns the Telegram channel MMI. As of 1 September, the fund had 4.8 trillion rubles in liquid assets, of which 1.3 trillion must be withdrawn in December.

In 2025, the Ministry of Economic Development expects Brent to be priced at $82 per barrel, $77 in 2026, and $74.5 in 2027. In the baseline scenario from the Central Bank, prices are $2-4 lower, but this does not change the overall picture. The Central Bank outlines four possible scenarios for the coming years: baseline, pro-inflationary, disinflationary, and risk scenarios. Lower oil prices are considered only in the risk scenario, which the regulator views as the least likely scenario.

In this risk scenario, the price of a barrel of oil drops to $55 due to a global economic crisis ‘comparable in scale to the 2007-2008 crisis’, caused by ‘recessions in the two largest economies, the US and Europe, exacerbated by increased fragmentation’. A reduction in Russian oil and gas revenues would lead to a GDP decline of 3-4% in 2025 and an additional 1-2% in 2026. Inflation in the first crisis year could rise to 13-15%, requiring the Central Bank to raise the key interest rate to 20-22% annually.

This scenario indeed seems less relevant today, but lower oil prices than those anticipated by Russian authorities are quite probable. To some extent, the government has taken precautions against moderate declines in oil prices. Measures adopted this year to increase the tax burden should, according to the Ministry of Finance’s plans, provide an additional 2.6 trillion rubles in non-oil and gas revenue for the budget (→ Re:Russia: People Instead of Oil). This amount corresponds to a quarter of the oil and gas revenues planned for this year, meaning a scenario of Brent prices dropping to around $65 per barrel. However, this increase in non-oil and gas revenue will not be sufficient to finance the expected rise in expenditures, the details of which remain unknown. The government is required to submit the budget draft to the State Duma by 1 October.

Outside the budget sphere, the drop in prices will affect the economy through other transmission channels for oil and gas revenues against the backdrop of continuously rising import costs and issues with payments in foreign trade operations. Under these conditions, pressure on the ruble will intensify, and many investment plans will be scaled back. The Russian government will still be able to allocate sufficient funds for the war, but a more turbulent period will begin for the Russian economy.