3/10/2008

Oil Prices In Economic Folklore

The two nastiest global recessions of recent decades were preceded by huge and sudden rises in the price of oil, first in 1973 and then in 1979. These twin spikes, both engineered by the Organisation of the Petroleum Exporting Countries limiting its oil shipments, are still the textbook example of an economic “shock”—a sudden change in business conditions. Abrupt increases in the oil price have prompted anxiety about stunted growth ever since. In Shock Treatment the author suggests that due to improvements in energy efficiency our dependence on oil is not what it once was. Prices in real terms have returned to levels last seen in the 1970s, but their impact is not as powerful when set against the diminished economic importance of oil.
Higher oil prices act like a tax increase on users. The result is that consumers have less money to spend on other things. Economists are suggesting that oil shocks do not hurt as much because oil is used less intensively than before, because the economy is more flexible and because central banks are better at controlling inflation.

4 comments:

carter said...

I agree that an increase in oil prices are like increases in taxes. When gas prices go up people have less money to spend on other things. I have experienced this.

Grace said...

I agree with Gavin and Carter (and the article) that increasing gas prices are felt in other places besides at the gas pump. The increase in gas prices affects the price of food, toilet paper, alternate transportation, pizza delivery, etc. We pay the price everywhere we go!

However, there is a positive note to this issue. The article pointed out that rising gas prices have led to improvements in energy efficiency. Hybrid vehicles were born because we want to decrease our dependency on oil. We are seeking ways to improve energy efficiency because of the increasing price as well as the fear of diminishing supply. That’s not a bad thing!

Reagan said...

One point that I disagree on with the authors in this article is that "oil shocks do not hurt as much because oil is used less intensively than before". This couldn't be more false. What percentage of consumer products are made out of petroleum? If we figured this percentage out it would be very high. I know from running my own business that after Hurricane Katrina petroleum prices skyrocketed and my costs of goods account, which paid for products that were made out of petroleum, went up by almost 20% over the following 6 months. Then over the next 6 months our sales decreased by almost 30%. These shocks hurt a lot more than what the authors think with the full results taking several years to become evident.

Dr. Tufte said...

Gavin is right, and Reagan is wrong.

Our dependence on oil is far less than it was in the 70's. I'm quite sure Reagan's business was hurt, but that just means it was elastic with respect to the price of oil. A lot less businesses are that way than they used to be.

BTW: there was a recession in 1958 that was also largely caused by oil shocks.