David Elliott, Chris Jackson, Marek Raczko and Matt Roberts-Sklar.
Oil prices have fallen by more than 50% since mid-2014. For much of this period, financial market measures of both short-term and longer-term inflation expectations appear to have mirrored moves in oil prices, particularly in the US and euro area. But how strong is the relationship between oil prices and financial market inflation expectations, and what should we make of it?
Gene Kindberg-Hanlon & Menno Middeldorp
The sharp fall in the oil price in late 2014 was mostly due to supply rather than demand, with expectations of future supply more important than shifts in current production. We can conclude this by comparing a model using economic data with another using asset prices that capture expectations of future oil supply. Our supply side explanation implies the fall in the oil price is mostly good news for the UK and other oil importers, rather than mainly a signal of a weaker global economy.