Oil!

Rising gas prices are on everyone’s mind again, as the price of oil has risen some 25% (about $25 per barrel) in the past year and the price of gasoline inches ever closer to $4 per gallon. While 1970s-style stagflation appears unlikely — the price of oil quadrupled in 1973-75, so even another 25% or 50% increase seems comparatively small, and industry has become less oil-intensive since then — the implications for the overall economy are still not good.

Alarmists often exaggerate the importance of oil prices on the economy — the bar for ridiculousness was set last week by Donald Trump, who said the 2008 financial crisis wasn’t about the banks but high gas prices — but here in today’s inbox is Nouriel Roubini, as credentialed a Cassandra as you could ever ask for, saying:

‘Today’s fragile global economy faces many risks: the risk of another flare-up of the eurozone crisis; the risk of a worse-than-expected slowdown in China; and the risk that economic recovery in the United States will fizzle (yet again). But no risk is more serious than that posed by a further spike in oil prices.

Roubini does not blame the 2008 crisis on oil, but he does say that the previous three world recessions were touched off by geopolitical shocks in the Middle East — the Arab oil embargo and 1973-75, the Iranian revolution and 1979-82, and Saddam Hussein’s invasion of Kuwait and 1990-91. He links the current rise in oil prices to fears that Israel will attack Iran, which may be developing nukes but definitely has lots of oil. He says oil supplies are currently plentiful and world demand remains weak, reflecting the weak economy, but that the fear factor is driving the increase. Some players along the supply chain may be hoarding oil in anticipation of higher prices caused by a disruption of Iran’s oil production. Many investors are buying futures contracts for oil at ever-higher prices, which will tend to raise the demand for oil now (since oil now and oil later are substitutes). The NYT has a fuller analysis.

Just how much of a drag on the economy would a spike in oil and gas prices be? First, just a small increase would put the price of gas over $4 a gallon, which would seem like a psychologically important “nominal anchor” (i.e., not many would notice if gas goes from $3.96 to $3.98, but if it goes from $3.98 to $4.00, alarm bells will sound). This would likely be a blow to consumer confidence, especially now that winter is ending and longer car trips are feasible. The price of gas is probably the most closely watched economic variable, more so than GDP or inflation or unemployment or even the Dow Jones average, so this negative effect could be large. Throw in the reduction in consumers’ real income and the increase in business costs, and how big a hurt does this put on real GDP? Jared Bernstein says the rules of thumb “say a $10 increase in a barrel of oil translates into about a quarter more per gallon at the pump, and, if it sticks, could shave 0.2% off of GDP growth.” Yet unlike Roubini he puts oil #2 on his list of threats to the recovery. #1 is fiscal drag, i.e., continuing government spending cuts in our already demand-starved economy. (Europe is his #3.)

So we might have already lost 0.2% in GDP growth, and the projected additional 20-25% increase in oil prices if Israel attacks Iran would mean about another 0.3%. Not enough to derail recovery, but enough to make it noticeably more anemic than it is already.

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3 Responses to “Oil!”

  1. mdeanes Says:

    Regardless of how much of a factor oil is in this not-so great recession, it is major part of our social fabric and can’t be ignored or rationalized away as something we have no control over. We must find other sources of energy, preferably renewable as just reducing our individual carbon footprint is not enough while the global population continues to grow.

    Upton Sinclair’s book on the early days of our oil industry is a great example of Capitalism gone wild, if you don’t mind the not so cleverly disguised socialist propaganda…which I don’t :-)

  2. Elizabeth Says:

    Who or what does economic recovery depend upon or how is that defined? Is it an overall average percentage increase or decrease, or is it in the actual numbers of people who are improving or seeing a decline in their situation?

    I ask this because I know many people who are able-bodied/able-minded, unemployed (and seeking) or underemployed (because the higher-paying jobs are not to be found), who are so close to the margin of not making it at all, that a 25 cent-per-gallon rise in prices could break them.

    As we all know, higher gas prices impact the price of most necessary consumer goods, such as food. My acquaintances in this situation have already given up or drastically reduced all purchases of “unnecessary” consumer goods and services, such as clothing and haircuts and theater tickets and subscriptions and gym memberships and carry-out food and repairs… all of this is being “deferred.” Not everyone is a current owner of a hybrid vehicle; if we already have a paid-for gas guzzler, that is the car we have available. Not everyone is able to walk or ride a bicycle to where they might want or need to go. Not everyone is able to find a job down the street from where they live.

    So we have the immediate crisis problem to address, as well as a (somewhat short) longer-term energy/economic crisis. What happens to the economy if the sheer numbers of folks who cannot afford to buy things keeps increasing? How few solvent people will it take to prop up the consumer economy, if an increasingly large mass of people are too strapped to buy anything? At which point does *that* effect become a crisis? Empty restaurants… and so on.

  3. mdeanes Says:

    Elizabeth brings up a good point. The aggregate statistics don’t account for the increasing disparity of income. Therefore, what may look like a recovering economy may not actually be that for most Americans. I think it is this aspect (reality on the ground) that drags things right back down after the periodic reports of recovery, however slight.

    For example, the housing market recently had been “up”. Once it became obvious that this was mainly due to the release of the foreclosure bottleneck that was the cause of the good statistical marks, things cooled off again.

    There are all sorts of things everyday Americans could do to help alleviate our dependance on oil, if only they could afford to. Green cars and houses are great if you can afford to make the investment. Can’t move closer to the new job you finally got if you can’t sell your house.

    As I’ve said before, our society may need an overhaul in order to save itself. So far, I’ve only seen lip service on this from the left and laughter, if not outright disdain, from the right on such topics. Our country has a lot of bad habits to unlearn before we can move forward with positive change and it begins with us, not the politicians.

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