HH Can Lower Oil Prices Cause A Recession?

Donald Luskin writes in the Wall Street Journal:

The global economy is slipping into recession. The evidence is showing up in all the usual ways: slowing output growth, slumping purchasing-manager indexes, widening credit spreads, declining corporate earnings, falling inflation expectations, receding capital investment and rising inventories. But this is a most unusual recession– the first one ever caused by falling oil prices.

A drop in oil prices means less money in the hands of oil producers but more money in the hands of oil consumers. Currently the U.S. is importing about 5.1 million barrels a day more than we’re exporting of crude oil and petroleum products. At $100 a barrel, that had been a net drain on the U.S. economy of $190 billion each year. That drain that will now be cut by more than half by falling oil prices.

We usually see consumers spend their extra income right away, whereas it takes more time for producers to alter their spending plans. As a result, even if the U.S. was not a net importer of oil, we might still expect to see a short-run positive stimulus from dropping oil prices. The actual change in overall consumption spending in response to the oil price decline through March of last year was about 0.4% smaller than would have been predicted on the basis of the historical correlations.

But we see something different when we look at the behavior of individual consumers. A study by the JP Morgan Chase Institute compared the response to lower gasoline prices of people who had previously been buying a lot of gasoline with the responses of people who had been buying relatively little. They found that the first group increased spending relative to the second, with the magnitude of the difference in spending between the two groups consistent with the claim that consumers spent almost all of their windfall. The conclusion I draw from the seemingly conflicting evidence in the macro and micro data is that each consumer spent more than they would have if oil prices had not fallen, but that there were other macro headwinds at the same time that were offsetting some of the positive stimulus of falling oil prices.

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Gary Anderson 4 years ago Contributor's comment

If people really believed that oil prices would be permanently lower, there would be a benefit to the broader economy. High gasoline prices act as a tax on the average household. But people know that the prices won't stay low. So, they stay cautious.

Yi Zhou 4 years ago Member's comment

The falling oil price not only influences the oil producer's supply chain vertically, but also drives their competitors, the other parts of energy market down.

As we all know, there are some severe problems in China economy. Let's find out the ones in the energy part. In order to compete with the low oil price, coal producers in China have to cut down the coal price and their cost. Under the pressure of the declining RMB exchange rate, they need to reduce the price enough to sell the inventory, which even couldn't cover their cost. Then many workers in coal mines were laid off or couldn't got paid for their labor. Many of them seek an investment vehicle in the Chinese stock market, which has a terrible performance recently. People lose both their job and their money. They have nothing to rely on and cut their consuming expense consequently. As a result, more people lose their job and a vicious circle establishes.

The lower oil price really causes a economic disaster globally.

Mark Friedmann 4 years ago Member's comment

Well said.