Will Higher Oil Prices Grease the Path to Recession?

Oil prices are up 17% so far this year, and the news is filled with stories of higher oil prices greasing the path to the next economic downturn. Quite frankly, we don’t see this happening, as the facts tell a different story.

First, oil prices are not historically high. It may be hard to remember, but the average price of oil over the last ten years has been just about $75/barrel. So even if oil goes to $90 or more in the short term, it would not be out of line with other strong economic periods. Remember, oil was over $140/barrel during the boom times before 2008, and high oil prices were not the cause of the great recession.

Second, today’s relatively higher oil prices are due to recent supply constraints from Saudi Arabia and Russia, who desperately needed higher oil prices to balance their budgets. When oil was below $40 in 2016 these countries were in dire financial straits. The green bars in the chart below show how recent supply constraints have led to oil inventory reductions during the past few quarters. Now that inventories are reduced to more normal levels and oil prices are higher, the Saudis, the Russians and others will likely produce more. And as we know, more production will eventually lead to lower prices. The oil price cycle does not rest!

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Finally, today’s higher oil prices do not take the same bite out of the economy as those of the past. The U.S. is now one of the largest oil producers in the world and we are far less dependent on imported oil. Furthermore, the economy is far more energy efficient, and few of us are driving the 12 mpg gas-guzzlers we did in the 1970s. My new Subaru gets 33 mpg, but I still miss my 1974 Thunderbird with the Rocket 4 barrel V-8 engine!

Sources:  U.S. Energy Information Administration, Bloomberg, the Financial Times