I grew up in West Virgina in the 1960s, and one of the first economic adages we learned was that cheap coal was bad for WV but good for the rest of the country. Pretty much every step of manufacturing and transporting goods required energy, and rising coal and oil prices negatively impacted that.
When the country underwent the dreaded ‘stagflation’ in the 1970s, increasing oil prices were cited as a factor (albeit along with other things). The increased cost of commerce drove prices up, and this inhibited growth. And when oil prices peaked and plummeted in the 1980s, oil producing states like Texas got hammered, while the rest of the nation continued to recover.
But this time around, low oil prices were frequently cited (even prior to the coronavirus pandemic) as being bad for the economy (or at least bad for the stock market). If so, why is this?
Is the U.S. producing more oil now than it did 40-50 years ago, and therefore, feeling more pain as profits from it drop?
I read someplace that lower oil prices result in less extraction of the hard-to-reach oil (the kind you get from fracking) so the easier-to-reach reserves can satisfy the demand. Bad news for the frackers. But you’d think the lower costs to the rest of the economy would mitigate this. Fracking is big, but the rest of the economy is bigger.
It is very good for transport, plastics and heating. It has a fairly small impact on electrical generation these days. It is bad for oil companies but overall the low oil prices should benefit world commerce not hurt it. So a lot of this is about the impact on stock prices.
Well, the US is the top oil producer, producing 15% of all the oil in the world. While we have a far more diverse economy and oil production isn’t as big a deal as it is for say Saudi Arabia and Russia, low prices still gives our overall economy a bit of a stubbed toe.
But I think the issue is actually the other way around. A bad economy is bad for oil prices. I think oil prices are more of an indicator of where the economy is, and where it is going, than being a CAUSE of a bad economy.
The US had recently become a net oil exporter. We are no longer in an situation where energy costs were largely outflows from our economy to those of other nations. We are more in a situation where high energy costs mostly means a transfer between sectors of our own economy.
Earlier today I read this article, which mentions how when oil drops to $20 a barrel, it causes a lot of bankruptcy among industries that are involved in oil production. Then when demand goes back up, supply will remain depressed.
Here’s an opinion piece saying that fracking has lasted only due to cheap money and lots of investments, and has never been profitable. Lower oil prices make this worse.
So, I’d say the bad for the economy part is really bad for the oil economy.
Shale oil companies are not profitable with oil below a certain value (much at $72/barrel IIRC, and the cheapest at around $40/barrel IIRC). These oil companies were extremely attractive investments years ago when oil prices were >$100/barrel and a lot of companies, SIFI/banks, hedge funds, and other wildly speculative groups poured into them, often with extreme leverage. These companies leveraged themselves up the nose as well… and then oil prices collapsed first in the sub 50’s, and now in the sub 20’s.
They had been treading water and able to stay afloat by borrowing even more, but now that’s not enough, with revenue being slashed again.
The derivatives (bets) on these companies that got passed around and gluttonized back at above 100 are going to go nuclear if it stays sub 20. There is a huge amount of leverage, meaning a huge amount of money teetering on the brink here.
The smart money is fearful of this. The dumb money is unpredictably stupid, and who knows why they’re doing what they’re doing.
All the people holding financial instruments based on oil futures got skunked.
More generally, whenever the price of anything goes radically up or down beyond what anyone had expected, the handful of people who correctly guessed this do well while most other people suffer as a result. It’s the disruption of expectations that’s the problem.
Because fracking is opposed by environmentalists, those with opposite-minded politics promoted fracking especially hard out of spite! This increased the benefit of high oil prices for the U.S. economy.
According to this op-ed piece from the NY Times, cheap oil is bad for the people who contribute to the political parties:
There’s about 150,000 jobs in oil production, which seems like a lot, but isn’t really – we’ve lost more than 10 times that amount in the last two weeks. This oil deal, if it works, may cause Americans more than $200 billion/year, or like writing a $1.3 million check to each of those 150k workers. However, the owners of those oil production facilities stand to make and lose a lot more than $1.3 million depending on the path of oil prices, and they’re the ones contributing to the parties.
I’d like to see a cite that low oil prices is bad for the US economy overall. I agree that it’s terrible for the oil industry, but I’m skeptical it’s bad for the other 90-something percent of the economy.
Note on my cite: I know it’s an op-ed, but I’m sure the figures would be fact-checked before publication.
A country that is a net oil exporter should experience a loss to producers that exceeds the gain to consumers. We have been a net exporter recently, but if we still are, it’s just barely.
The cheap oil right now isn’t a cause of economic problems, but a symptom of them. It’s cheap because very few people are out doing things. But most of those things that people used to be out doing were good things, so it’s bad that they’re not doing them now.
Also I recall oil being quite inelastic. So couple shifts in both the supply (SA/Russia pissing match) and demand (nobody driving) curves, we get a huge price drop.
At these prices, it seems unlikely that we’re still a net exporter, but I don’t have a cite to back that up. I see many articles that we became a net exporter in 2018 or 2019, and then some saying, no, we’re not.
However, can you flesh out your statement a little? I would think it would depend on how much of the economy benefits from cheap oil prices vs. how much of the economy is invested in oil production.
Russia or Saudi Arabia, both basically petro-states, are severely damaged by cheap oil prices and definitely benefit on net from higher prices. However, the oil industry in the US is not nearly as dominant (from an employment standpoint, for sure), but we’re a big country that uses a lot of oil – everything is far apart, so we pay for high prices in our shipping, trucking, and railroads, plus we’re a car-dominant society as well.
Anyway, it’s not clear to me that the economy of a net exporter will benefit on net. Intuitively, it has to depend on how much of the economy depends on oil exports and how much of the economy is hurt by higher prices. Economics is often non-intuitive, so I’m happy to be shown the error of my ways.
The prices have to stay up so the oil companies can continue to profit. It’s that simple. The outrageous fortunes they’ve obtained from holes in the ground, the trillions of dollars and millions of lives wasted to keep them in business haven’t been sufficient, we will make everybody pay a further inflated cost for that precious fluid because we are fools.
Some communities are still very dependent on oil (and natural gas). Lots of investment in and production of oil equipment used for extracting oil out of the ground, transporting it, and refining it as well. Same is true for natural gas. Companies involved in these processes manufacture, sell, and distribute a range of products for these purposes. My aunt ended up bankrupt because her late husband (a moron, by the way) invested heavily in an oil supply sales business and was on the wrong side of oil prices – his being an idiot didn’t help but he wasn’t alone.
These companies in the supply chain often have heavy startup costs and need to borrow from banks and other investors. If they flop, it hurts these tangential industries but it also hurts banks and investors, too. One of the things banks will do right now to protect themselves before they really get stung is to take their collateral, which means nighty night for some of these small businesses.
It also hurts a host of other businesses, not the least of which is real estate. An old buddy of mine has a lot of real estate (commercial and residential) in a real estate market in one of these oil towns and he feels the pinch whenever oil slows down.
Having oil decrease a little is not necessarily problem. A gradual stabilization of oil prices is actually ideal. But when the oil prices crash like this, it has a wide range of impacts on local and even regional economies. It can be deflationary and prolonged. And for some with bad luck, it’s whiskey time.
But the banks who take that collateral: They’re not doing it for scrap. As soon as they can, they’re going to auction it off, and some other entrepreneur will be able to buy a bunch of oil equipment for cheap, and so production will ramp right back up.
I hate hearing this, because it isn’t true. Unlike other countries the US does not import and export oil, private companies based in the US do that. Higher oil prices simply increase the flow of our own citizen’s dollars into the pockets of oil companies and other countries.