Unexpected economic growth and oil price shocks

Profit-maximizing oil producers base their production schedules on expected economic growth which usually has impacts on oil demand. However, in the wake of unexpected economic growth, oil price shocks can ensue, when no additional oil supply meets unexpected demand. This paper examines whether and how unexpected economic growth could explain oil price shocks. Forecasting errors of mainstream institutions which represent the global market are employed to measure unexpected economic growth and oil price shocks. We find that because the market underestimated China's economic prospects, it is not the strong economic growth but the unexpected growth that raised the oil price during 2000–2008. Afterwards, this impact was on the wane, possibly due to the enhanced accuracy in economic growth expectations for China. Lower-than-expected economic growth might lead to the decline in the real oil price after 2014. The results emphasize the role of expectation in oil price variations.