January 4, 2015
Oil Prices in 2015
Looking over 2015, it is clear today that oil prices will continue to dominate our economic and political discussion for much of the year. Perhaps it is a sad thing that such a mundane commodity as petroleum matters so much, but if we weren’t worried about oil, we might be fretting the price of oats. It is worth restating some of the economic effects and previewing the policy discussion about them.
Petroleum prices are part of the costs of almost all goods and services. A nearly 50 percent price drop over the past half year means that the actual costs of production for things big and small have dropped. Sometimes this is very significant, sometimes it is minor, but it is always a cost reduction. This doesn’t always mean that the price will drop for consumers. We know that prices are sticky and for a variety of reasons business may not immediately lower prices just because their costs have dropped.
Of course I wish the prices of goods I buy were more flexible – and I wrote a whole doctoral dissertation on the matter – but the economy still benefits from the gasoline price drop. Businesses may be more profitable and might be able to use the extra revenue to hire more workers or make other investments. If they pass their profits on to owners, this will mean more money for retirees and other stockholders. Either way the money eventually flows back into the economy.
Notably, a positive oil price shock may significantly alter the short-run growth of the economy. There remains great fragility in parts of the U.S. economy, and although the economy is surely getting better, it is far from good. Economists use all kinds of euphemisms to describe a pivotal moment for the economy as it shifts to better performance. None have yet to apply to our current recovery, but gasoline prices might just be the right tonic. Forgive me for using a football analogy, but there is a moment in most football games when it is clear to everyone that one side must win. It is an ethereal moment when victory is largely certain, and isn’t so much dependent on the score or the clock, but the feeling in the air. That moment has not yet happened in this economy, but a year of much lower petroleum prices may well bring us to a full-blown recovery.
This takes us to the inevitable policy discussion. The economy has been performing weakly for seven years. During is time, the Obama administration has done much to try to make it better. Some has helped, but nothing has been curative. At the same time, this administration has actively pursued policies to keep oil prices high, with the secretary of energy openly advocating for much higher prices during the darkest days of the recession. This is no hidden mystery, it was a clear policy choice designed to reduce U.S. oil consumption. However, this is one policy failure most of us will be grateful for.
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