What Caused the Late 80's Decline in Oil Prices?

I remember a point in the late 1980’s when gas at some stations in central Illinois was as low as $.59 per gallon, where it had been as high as $1.29 just a few months before.

I know it wasn’t just a local thing. A People magazine article about Mary Kay Ash described her as “one Texan who isn’t worried about falling oil prices.”

Anyone know the scoop?

There was a glut of oil on the market since a lot of the oil producing nations had ramped up production (to take advantage of earlier high prices). I thought this happened in the 90’s actually, but I’m going from memory here. Anyway, if you suddenly have more product than there is demand for it then the price is going to drop…and that’s pretty much what happened. IIRC of course. Sorry for a less than definitive answer…just happened to see the thread between meetings.


Basically what XT said - the 1970s oil crises resulted in a major shift in oil consumption - smaller cars, coal-, natural gas- and nuclear-fired power generation, etc. Automakers realized very significant increases in average fuel consumption between 1977 and 1983 - as much as a 6-7mpg increase across the board. European governments started taxing diesel less to take advantage of its inherent benefit in efficiency; you can power something like twice as many diesel cars with a barrel of crude as you can petrol (gasoline) cars.

Non-OPEC nations started producing more oil to take advantage of the high prices of the early '80s.

By 1985, OPEC members such as Saudi Arabia were essentially in revolt, since their quotas weren’t nearly high enough to produce their customary revenues with the oil price dropping.

Net result was that in 1985, traders started selling oil (and selling short on oil), seeing what was to come, and like all speculation, it became a self-fulfilling prophecy - oil prices plunged more than 50% in '86.

The gas crisis in 1979 created a reaction larger than anything seen in post-war history. According to a chart in the May 5 Business Week (p. 22), gasoline consumption dropped 5% in 1979 and a further 6% in 1980. At no other time in the past 40 years have we seen more than a 1% drop. (I think currently it’s at a 0.3% drop). Consumption did not return to a positive growth until 1983. The next largest drop in gas consumption occurred from 1989 to 1991, with the bottom dropping out of the Reagan economy, exactly as most non-Reaganites predicted. This was the recession that killed George Bush’s chances of re-election. Lack of demand along with the increased supply caused a glut and prices dropped.

Supply and demand are the best explanations for most things in economics, even though people always want something more complicated or more conspiratorial.

There was also a big decline in oil prices in '98 and '99. Basically the two big low price markets were from the mid to late '80s and the late '90s. Prices then stayed relatively moderate until '04.

Something interesting to note is that many producers are still burdened by long term hedges that they put in place several years ago. For an example, look at the latest 10Q for CWEI. They still have collars for 2008 with a ceiling price of $25.07/bbl and for $5.15/mmbtu. I’m fairly certain that they can’t even operate profitably at those levels. Lucky for them that it is only a modest percentage of their production and that the last of it rolls off in '08.

don’t forget the Iran-Iraq war at that time. Both were big oil producers, and probably having a fire sale (pun intended) on their oil, to get cash for bullets, flooding the market. Not so coincidentally, after the 2 stopped fighting, the price started creeping up.

The Iran-Iraq war ended in 1988. If prices started creeping up after that, then how do you explain the OP finding steeply falling prices in the late 1980s? Doesn’t the start of a recession and falling gas consumption in 1989 explain the situation a whole lot better?

The nominal price of gasoline reached its post-1973 trough in 1986 (Section 1, Figure 3, PDF). It rose slowly through 1990, spiked suddenly with Iraq’s invasion of Kuwait, and then declined afterward as it became apparent that the invasion wouldn’t lead to a long-term disruption of supply. There is little evidence that the American recession, which lasted from July 1990 until March 1991, had much impact.

In real terms, the price of gas declined sharply through 1986, then declined more slowly (except for the 1990 spike) to a post-1973 trough in 1999.

Iranian oil exports (Figure 3, PDF) dropped sharply with the Islamic revolution (1979) and the outset of war with Iraq (1980), rose during the second half of the war, and rose even more afterward. Iraqi production followed a similar pattern, but then collapsed from 1991 through 1996 as sanctions were imposed after the first Gulf War. About all one can say with certainty about the Iran-Iraq War is that its onset played a part in high prices in the early 1980’s, and recovery from the trough at the beginning played a part in declining prices later on.