by Peter Fox-Penner and Gary Taylor
19-09-05
With the heartbreaking toll of Hurricane Katrina and the surrounding media
fury, it is easy to forget that there was an oil shock under way long before the
storm surge hit the levees of New Orleans. The problem is, no one was taking it
seriously.
With Katrina's damage there are now real worries about an energy crisis in the
United States; but they primarily involve near-term shortages of oil and gas
while we try to restore our energy infrastructure in the Gulf of Mexico region.
However, we still aren't facing up to the long-term issue that a lingering
period of high prices will be a long-term drag on our national economy.
Prior to Katrina, the conventional wisdom said that the rise in oil prices
from about $ 40 to $ 60 per barrel wasn't enough to tip the United States into a
recession. In this respect, the present oil shock was going to be different than
the shock of 1979, when 18 months of prices about as high as they are today (in
real terms) sent interest rates to a peak of 20 % and stagflation plunged the
country into a steep recession.
High gas prices are certainly putting a painful squeeze on low- and
moderate-income families, but several key differences between the US economy of
2005 and 1979 point to reduced near-term impacts. The United States uses barely
half the oil per unit of gross national product today as it did in 1979. And we
aren't likely to see the counterproductive overreactions we saw in 1979 --
extensive gas and oil price controls and sky-high interest rates.
These factors are all important positives. The problem is that there are many
other aspects of our energy marketplace and economy that are negative compared
to 1979. These factors greatly increase the prospect of an economic downturn
sparked not by high interest rates and inflation, but by reduced consumer
spending and decreasing asset values.
Going into the 1979 shock, the prime rate was in the 6-9 % range, just a bit
higher than today. However, today's federal deficit is twice the size it was in
1979 and forecast to rise. Consumers are carrying record amounts of personal
debt and saving nothing. Median household incomes were still growing in the
1970s -- today they are stagnant. And now we have a real estate value bubble in
some regions that Federal Reserve Chairman Alan Greenspan believes must burst
sooner or later, further reducing family wealth.
The net effect of all this is that there is very little room for manoeuvring
in either personal consumption budgets or government spending. We have no
rainy-day money to spend on higher gas bills. The money is going to have to come
out of consumption or even deeper public or private borrowing, both of which
will prove especially costly in today's economy.
We may be much less dependent on oil per unit of GNP, but this masks a higher
dependence for our transport needs. Petroleum still provides 95 % of our
transport fuels, and auto fuel efficiency is essentially unchanged since 1980.
With continued urban sprawl and our highly mobile lifestyles, total
vehicle-miles travelled by Americans have increased more than 80 % since 1979.
Small wonder that our national gasoline bill is likely to be 30 % higher than
1979 levels in real terms.
If this isn't enough, there is a second energy price shock hitting our
economy. Winter delivery natural gas is trading at more than $ 12 per-mm-Btu,
the highest ever. As with gasoline, these prices will directly hit the
pocketbooks of homeowners and businesses that heat with gas. Natural gas prices
will also affect the broader economy via their impact on petrochemical and
electricity prices.
Ironically, natural gas and power deregulation and the shift in our power
generation mix means that gas price increases will have the same sort of rapid
transmission into the economy that wage agreements and cost-of-living
adjustments did for oil prices in 1979.
The conventional wisdom is now that Katrina's damage may have been severe
enough to crimp the US economy for a number of months, but notover the long
term. This may be so, but the impacts of this oil shock will last a lot longer
than it takes to restore a semblance of normalcy to the ravaged Mississippi
delta.
Any case for complacency over the effects of high oil prices is over for good.
Fox-Penner is principal and chairman of The Brattle Group, an economic
consulting firm, and is an international expert on energy policy. Taylor is an
energy expert at The Brattle Group. The views expressed in this article are
their own and not those of The Brattle Group or its clients.
Source: The Brattle Group