IT used to be said that when the US sneezes, the world catches a cold.

Decoupling supposedly changed all that and, for oil at least, it has: despite America's economic malaise, oil prices have rebounded since 2009 on demand from China and elsewhere.

The days when drivers in America and other advanced economies set the pace for oil-demand growth are gone. In the 1970s, 56 per cent of the increase in global oil demand came from members of the Organisation for Economic Co-operation and Development. China made up 7 per cent. In contrast, for the decade ended in 2009, OECD demand fell outright. Global oil consumption increased due only to the continued appetite of countries like China, which accounted for 42 per cent of the increase.

China's rise fuelled the marked shift upward in oil prices this past decade. But replacing the OECD with emerging markets as the barrel buyers of last resort creates problems of its own. Deutsche Bank analyst Paul Sankey argues this shift has made oil demand, and therefore prices, more pro-cyclical. Instead of higher oil prices acting as a brake on economic growth and therefore keeping a lid on oil prices, higher oil prices can end up coinciding with, and even fuelling, more demand.

Why? The International Energy Agency expects the world to consume an extra 1.64 million barrels of oil a day next year compared with last year. This masks a drop in demand of 640,000 barrels a day in the OECD. And fully 77 per cent of the net increase is accounted for by China, the Middle East and the former Soviet Union.

Chinese oil demand is largely a function of economic growth, which in turn is tied to global trade. But unlike in the US, fuel prices are controlled in China. Between 1980 and 2011, Americans bought less oil as it got more expensive. That relationship doesn't hold with Chinese demand.

As Sankey puts it: "The stronger the global economy, the higher the oil price, the stronger China's demand. And vice versa."

Beyond China, there is the Middle East -- which at 7.6 million barrels a day is 80 per cent of the size of China's oil market -- and the former Soviet Union to consider. The economies of both are heavily tied to oil. So if oil prices rise, their economies grow faster, fuelling more demand for oil.

Meanwhile, if Chinese economic growth moderates, and oil prices fall in response, that hurts Middle Eastern and former Soviet economies and their demand for oil falls, reinforcing the pro-cyclical dynamic.

Dependence on emerging markets for incremental oil consumption looks set to stay. Demand in advanced economies made a comeback after the turmoil of the early 80s. Back then, though, their prime working (and driving) age populations were still growing strongly, whereas they are close to peaking now.

Oil's recoupling to emerging markets has, therefore, made it even more dependent on China's economic miracle continuing than investors might think.

Source: http://www.theaustralian.com.au/business/wall-street-journal/emerging-markets-fuel-oil-demand/story-fnay3vxj-1226483801723