What determines oil prices?

Oil prices are determined by the interaction of supply and demand in a globally interconnected market. On the supply side, the key actors are OPEC+ (the Organization of the Petroleum Exporting Countries plus Russia and other allies), which collectively manages roughly 40% of global production through output quotas, and the United States, which became the world's largest producer thanks to the shale revolution. On the demand side, global economic activity is the primary driver, with China being the marginal demand driver due to its rapid industrialization.

OPEC+ production decisions are among the most important supply-side drivers. When the cartel agrees to cut production, it restricts supply and pushes prices higher. When discipline breaks down or members cheat on quotas, excess supply pushes prices lower. The relationship between OPEC+ and US shale producers creates a dynamic equilibrium: high prices incentivize US drilling, adding supply that eventually caps the rally, while low prices force US producers to cut rigs, reducing supply and supporting prices.

Inventories serve as a buffer between supply and demand and are a critical price signal. The US Energy Information Administration (EIA) publishes weekly inventory data that is closely watched by markets. Inventory builds (supply exceeding demand) are bearish, while draws (demand exceeding supply) are bullish. Global inventory data from the International Energy Agency (IEA) provides a broader picture on a monthly basis.

Geopolitical risk creates a "war premium" in oil prices because major production and transit chokepoints are concentrated in politically volatile regions: the Strait of Hormuz (connecting the Persian Gulf to global markets), the Suez Canal, and the Strait of Malacca. Conflicts, sanctions, or threats involving major producers (Iran, Iraq, Russia, Libya, Venezuela) can cause sharp price spikes even without actual supply disruptions.

Oil prices flow through to the broader economy through multiple channels. Higher oil prices raise gasoline and energy costs for consumers, increasing headline inflation and reducing disposable income. They raise input costs for transportation, chemicals, and manufacturing sectors. They affect currency valuations (oil-exporting countries benefit while importers suffer). And they influence monetary policy, as central banks must decide whether to look through oil-driven inflation or tighten in response.