How is the Price of Oil Determined?

Crude oil prices are nearing record highs, when adjusted for inflation, but history has shown that the cost of the energy resource is subject to wide variations depending upon market conditions. In inflation adjusted dollars, the record price for crude oil is about $110 per barrel, a level reached in 1979. According to WTRG Economics, the price of crude oil has been subject to significant government regulation that has kept the commodity at levels below those found in the rest of the world.

The price of crude oil is determined by many factors. According to the peak oil theory, the earth only holds a finite supply of oil, and as a result the production of the commodity will peak at some point and then decline. However, since more than three-quarters of the world has yet to be subjected to oil exploration, there is some time before crude oil supplies are exhausted.

A fact sheet published by oil-gas-consulting.com argues that while both economic and political events are factors in determining the price of crude oil, the former affects long-term pricing while the latter, particularly in the Middle East and Arabian Gulf area, has a more immediate effect in the short-term. The fact sheet says that political events have differing impacts, depending upon whether they are expected or unexpected. Expected events tend to be factored into pricing by traders in spot and futures markets while unexpected events that result in political instability in oil producing regions tend to cause price spikes and wide fluctuations.