Question

Discuss the causes behind the recent (March 2020) decline in oil price. What are the consequences of this shock for GDP in oil importing and oil exporting countries? Explain using the ISLM model why the energy exporters would experience a rapid weakening of their national currencies?

Answer 1

The causes behind the recent decline in the oil prices was because of the lockdown in most nations due to covid 19. The oil prices declined because of the excess oil supply and low demand for it in the market. The excess supply led to an increase in the supply of oil and reduction in the price of oil.

Oil importing countries would benefit from this fall in the oil price because of the low amount of money they have to pay when they purchase oil from the oil producing countries. There would be an increase in the GDP.

On the other hand, oil exporting countries would not benefit from this as they will be at a loss because of seeking oil at a low price. This will adversely affect the balance of payment for these nations. There would be a decrease in the level of GDP.

Because of an increase in the oil quantity, the interest rate will rise. This rise in the interest rate means that there will be an increase in the exchange rate that is appreciation of the currency.

The exporting nation will see a rapid weakening of their national currencies because now the imports are cheaper. So this would mean that if they buy from foreign country they will have to pay a lower price.