Rising Oil Prices Can Restrain Economic Growth
March 03, 2011
Recent spikes in oil prices have raised concerns about the strength of the economic
recovery. If oil prices maintain their momentum upwards, the subsequent rise in
gasoline prices will surely pull back economic growth, but at the same time the
price effect at least so far should not derail economic expansion.
Brent Crude Oil Futures Prices and Avg. Gasoline Spot Prices
Historically, higher oil prices have been associated with recessions. As it so happens
to be, a $4 gasoline price was one contributing factor to the Great Recession. The
impact of higher gasoline prices on the economy is a factor of how fast the price
increases coupled with how long it maintains its new increased levels. Typically,
brief spikes in gas prices do not have a large effect on economic growth.
A general rule of thumb is for every $10 increase in the price of crude oil, the
price of gasoline increases by 20 cents, which equates to about .2% point reduction
in real GDP growth. However, this is only a guideline, because it doesn't take into
account any side effects that can occur from the rise in gasoline prices. For instance,
increasing gasoline prices will force consumers to reduce spending on other goods
and services, which can lead to jobs losses (or smaller job gains) because companies
won't need to produce as much of their goods as they would if people had money to
spend on them forcing them to layoffs employees. If the upwards trend is sustained
overtime for both oil and gasoline prices, the multiplier effect from their continuous
increase can restrain real GDP growth by .5% to 1%. Certainly, it's not enough to
cause a full blown recession, but coming out of a recession, it is not helpful to
a recovery. So if GDP was expected to be around 3.5% - 4.0% this year by economists,
we may see a figure lower than that at 2.5% to 3.5% instead. Note also that higher
gasoline prices affect people across varying income levels differently. The top
20% of income earners account for about half of the consumer spending. While they
don't care about how much it costs to fill their tank, those people at the lower
income scale do.
Speak with your Isakov Planning Group Financial Advisor to help you make the most
out of these insights.
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