Crude oil is a liquid fuel source located underground. It is extracted through drilling. Oil is used for transportation, heating and electricity generation, varied petroleum products, and plastics.
- Crude oil is a base component of transport fuel, plastics, chemicals, and petroleum products.
- Brent, West Texas Intermediate, and Dubai/Oman are the most important benchmarks of crude oil.
- Oil prices affect prices of most other commodities. As such, movements in oil prices can trigger inflation or deflation.
Between 50% and 97% of oil is composed of hydrocarbons. Between 6% and 10% of oil is composed of nitrogen, oxygen, and sulfur. Less than 1% of oil is composed of metals such as copper, nickel, vanadium, and iron.
Oil is called a fossil fuel because of its origins. It was created 400 million years ago when the remains of prehistoric algae and plankton fell to the bottom of the ocean. It combined with mud and then was covered by layers of sediment.
The intense pressure heated the remains over millions of years. It first became a waxy substance called kerogen. It became liquid oil after more pressure and heat.
Oil is a nonrenewable resource. It would take millions of years for new oil to be created when the world's current supply is gone.
Uses of Crude Oil
Crude oil is the base for many products. These include transportation fuels such as jet fuel, gasoline, and diesel fuel. They also include fuel oils used for both heating and electricity generation.
In 2019, the United States consumed 7.5 billion barrels of crude oil. Of that, 3.4 billion barrels was used to make motor gasoline. Another 1.5 billion barrels was used for heating oil and diesel fuel. More than 635 million barrels was used for jet fuel. When hydrocarbons burn, they release the heat that formed them. They also release carbon dioxide.
Crude oil also creates petroleum products. Petroleum byproducts make tar, asphalt, paraffin wax, and lubricating oils. It is also used in chemicals, such as fertilizer, perfume, insecticides, soap, and vitamin capsules.
Oil is the base for plastics used in everything from heart valves to plastic bags. It's used in carbon fiber in aircraft, PVC pipes, and cosmetics. For example, it takes about 16 gallons of crude oil to produce a sofa. Around 40% of textiles contain some petroleum byproduct.
West Texas Intermediate crude oil is of very high quality because it is lightweight and has low sulphur content. For these reasons, it is often referred to as “light, sweet” crude oil. These properties make it excellent for making gasoline. That's why it is the major benchmark of crude oil in the Americas.
Brent Blend is a combination of crude oil from more than a dozen different oil fields in the North Sea. It is less “light” and “sweet” than WTI but still excellent for making gasoline. It is refined in Northwest Europe and is the primary benchmark for crude oils in Europe or Africa.
Shale oil is crude oil that lies between layers of shale rock. The rock must be broken up to allow access to the layers of oil. New technology has allowed this oil to come to market at a competitive price. As a result, oil prices dropped.
Crude oil prices measure the spot price of various barrels of oil, most common of which are either West Texas Intermediate or the Brent Blend. The basket price of the Organization of Petroleum Exporting Countries and the futures price of the New York Mercantile Exchange are also sometimes quoted.
WTI sells at a $3.00-$4.00 per barrel discount to Brent. The difference is the increased supply of WTI from U.S. shale oil producers. Prices for other crude oils in these two continents are often priced as a differential to Brent, i.e., Brent minus $0.50.
The OPEC basket price is an average of the prices of oil from Algeria, Angola, Congo, Equitorial Guinea, Gabon, Iran, Iraq, Kuwait, Libya, Nigeria, Saudi Arabia, UAE, and Venezuela. OPEC uses the price of this basket to monitor world oil market conditions.
The New York Mercantile Exchange futures price for crude oil is reported in almost every major U.S. newspaper. It is the value of 1,000 barrels of oil at some agreed-upon time in the future. The oil is commonly WTI. In this way, the NYMEX gives a forecast of what oil traders think the WTI spot price will be in the future. But the futures price follows the spot price pretty closely since the oil traders can’t know about sudden disruptions to the oil supply.
Investing in Oil
There are many ways to invest in oil, but it's not for the faint-hearted. Oil prices are so volatile that they are difficult to predict.
Crude oil futures are agreements to buy or sell oil at a specific date in the future at a particular price. Businesses use them to fix the price of oil they need for the future. Traders never take possession, but simply sell the futures contract before the expiration date.
Oil exchange traded funds are easier to invest in than oil futures. They follow the prices of oil futures. But they are just as volatile. Some oil ETFs follow the stocks of oil companies. Their prices are affected by both oil prices and the stock market. Even if oil prices are rising, the ETF prices could fall if investors pull funds from the oil companies' stocks.
Impact of Oil on the Economy and You
Higher oil prices increase prices of other fuels, such as gasoline, home heating oil, and natural gas. Oil is responsible for 54% of the price of gasoline. Distribution makes up 15% of the price of gas, and taxes another 18%. The remaining 13% of oil consists of refining costs and profit.
Oil prices affect 95% of transportation. That creates higher food prices. It also impacts 45% of industrial products and around 20% of residential use. As a result, higher oil prices increase the cost of everything you buy, creating inflation.
Burning oil or gasoline releases the carbon dioxide that's been stored.
The gases remain in the earth's atmosphere. They act like a blanket over the earth, capturing the heat from the sun after it's bounced off the earth's surface. It's created a greenhouse effect.
We've burned so much oil in such a short time that the gases have almost doubled since 1880 from 278 parts per million to 413 parts per million. This has raised the average temperature by 1.2 C. It’s the warmest it’s been in at least 800,000 years.
This global warming has created extreme weather patterns. It's increased heat waves, droughts, and destructive wildfires. Winter has become shorter, but unstable weather patterns have allowed Arctic blizzards to pummel the Northeast. All solutions to global warming require us to wean off oil as the predominant fuel.