Yves here. While there is a point where increases in oil prices in not too long a time reduce oil prices by dampening demand, and that level in recent years has been depicted at $100 a barrel, no one knows exactly where the pain point is. One side of the argument is that US consumers are even more financially stressed than even a year ago, so it may not take much to get them to belt-tighten in a big way. A second is that developing economies will be particularly hard hit, not just due to general vulnerability but also that with the dollar strong, the price of the commodity at $100 a barrel means an even bigger increase in the terms of most local currencies. Offsetting that is that due to inflation and real wages not lagging inflation horrifically in the last few years, $100 a barrel ain’t what it used to be.
However, with many middle class consumers already in stressed, and the Fed sticking to its “as long as it takes” with high rates, bad economic outcomes seem certain, either yet more inflation or a recession with rates still pretty high. Voters are already unhappy with how the economy has performed under Biden. This will not improve their mood.
By Haley Zaremba, who has extensive experience writing and editing environmental features, travel pieces, local news in the Bay Area, and music/culture reviews. Originally published at OilPrice
- Oil prices have risen by 30% since June, largely due to production cuts by Saudi Arabia and Russia, members of OPEC+.
- Higher oil prices historically decrease gasoline demand; last year, a jump to $110 a barrel resulted in a 4.1% dip in U.S. gasoline demand.
- Despite short-term projections that the price will stabilize below $100, the potential impacts, especially in developing countries, may have long-term economic repercussions.
Crude oil prices are on the rise, driven by stark cutbacks imposed by Saudi Arabia and Russia, the main forces behind OPEC+. The cuts, implemented by the oil cartel in order to bolster oil prices, have been extremely successful, with barrel prices rising by a whopping 30% since June. Now, prices are hovering ever closer to the USD $100 per barrel mark, and could even surpass that hallowed and feared metric on the back of Russia and Saudi Arabia’s recent announcement that they intend to extend the current voluntary production cuts. Historically, high oil prices have been nothing but good news for the oil industry, even as it causes strife in other sectors. But this time around, it might be too much of a good thing even for Big Oil.
While high oil prices can spell pure profit for the oil sectors, it’s a fine line between stimulus and disincentive, as high prices at the pump can also cause significant dips in demand as the market reels from sticker shock. For example, in June and July of last year, when oil prices hit a blistering USD $110 a barrel average, gasoline demand in the United States plummeted by 4.1% compared to the same period in the previous year when oil was selling at USD $70 per barrel. And as that $110 mark fell, so too did the size of the year-over-year demand gap, underscoring the correlation between high oil prices and consumer reticence.
And that cooling effect could be even stronger this year, as families in the United States have much fewer savings to fall back on and will likely be operating on a significantly tighter budget. According to the Bank of America Institute, the average savings of U.S. households making $50,000 to $100,000 a year have fallen by half. And that worrying downward trend is about to be exacerbated for millions when student-loan repayments resume next month, representing around $100 billion a month at a national level.
Indeed, unsurprisingly, the spike in oil prices has caused much hand-wringing over at the Federal Reserve. Rising oil prices were key drivers of recession in the United States in the mid-1970s, as well as the early 1980s and 1990s, as energy markets and prices at the pump “drove up inflation and robbed consumers of purchasing power.” Accordingly, fears of recession are rising in lock-step with crude benchmarks. “Policymakers will be on high alert for a gasoline-driven rise in inflation expectations in particular, as they fear that could lead to a more broad-based increase in prices,” Bloomberg reported this week.
“The run-up in oil prices is at the very tip top of my worries at this point,” Mark Zandi, chief economist at Moody’s Analytics, was quoted by Bloomberg. “Anything over $100 for any length of time, and we’re going to be very sick.” And the oil industry itself is likely not immune to this sickness.
While the state of savings and household economics in the United States is precarious enough, the full impact of consumer drawbacks will be actually felt in developing countries – as usual. Bucking historical trends, the value of the U.S. dollar has only continued to rise along with oil prices, putting a painful squeeze on economies with weaker currencies and lower cash flows that are nonetheless forced to buy dollar-denominated oil. This will have a serious impact on global economics and energy markets, as these developing countries include the monster markets of India and China.
While the USD $100 mark is not significantly financially distinct from, say, a USD $99 per barrel mark, three digits have an outsized psychological influence on consumers and on the energy market as a whole. Crossing that line will therefore cause disproportionate shockwaves to a strapped and fragile global market that the energy industry should be prepared for in the coming months. Luckily, most experts are predicting that the foray into triple digits will be short lived, but the damage done will likely have a longer shelf life.