Wednesday, December 4, 2013

Economy: Why The Recovery Is So Weak

(Drivebycuriosity) - There is much complaint about the slow recovery of the US economy. Since the end of the last recession in spring 2009 U.S. economy grew less than 2% annually and Europe was much worth (scottgrannis). This is below the long term growth trend (around 3% annually) and the usual speed of recoveries (around 4% annually)

There are many explanations of course, for instance the influence of austerity policy in the US and Europe. But there is another factor which is at least as important but neglected: The price of oil.

This is made clear by the screen shot above (source pieria). This chart shows the price of oil on the global markets represented by the future for Brent Crude. As you can see today the global oil price is much higher than in the 90s of the last century. In the decade before the year 2000 the oil price hovered below the $40 mark, now close to $120. Cheap energy stimulated economic growth before the year 2000, now expensive energy is slowing down the economic growth. 

As you also can see on the screen shot, around the year 2004 the price of oil started a sharp rise and jumped to $146 in spring 2008. I am aware that in in 2008 also the US home market crashed which led to a banking crises. But the energy price explosion in 2008 was similar to the oil price shock in the 1970s which lead to a global recession then (energy crisis). In 2008 the oil price jump (more than 3 times) at least worsened the recession. A study by Prof. James Hamilton shows that in 2008 the oil price hike turned the economic slowdown into a recession (econbrowser).

The oil price drop which followed in late 2008 helped he global economy out of the recession - together with the massive stimuli by  the US Federal Reserve and other central banks. But around 2010 the price of oil jumped again and has been staying close to the 2008 highs. The high price for global oil (Brent) even impacts the US price of gasoline because US refineries use mainly imported oil. 

The high energy costs are similar to a (high) tax. Consumers (especially people who live in suburbs) are forced to spend a significant part of their incomes at the gas pump. Therefore they can spend less money for other things. Energy costs are slowing down retail sails and other consumer spending. Companies also are hampered by high energy costs (especially electricity).

Iran Premium

What is keeping the price of oil so high? Oil is traded on financial markets like stocks and bonds. Many hedge funds and other speculators are buying oil futures, which represent the energy prices. For years they have been pumping many billions of dollars into the oil market in the hope of further price gains. Hence the oil price reflects expectations rather than the real supply and demand.

Since the early years of this century oil prices - especially the price for Brent Crude - have been agitated by continuous speculation about conflicts in the Near East (Iran, Iraq, Libya, Syria, Egypt and other places in the unruly and politically fragile area) that all could endanger the oil supply in the future. Additional the sanctions against Iran reduced the supply of oil on global markets and made it more expensive (Iran premium).

On Sunday, November 24, 2013 the U.S. and other western powers reached an agreement with Iran to halt its nuclear program (driveby). The New York Times and other media celebrated this as a landmark accord. But this treaty has a flaw - the sanctions against Iran against Iran are still intact! Iran`s crude oil sales will still be limited to about 1 million barrels a day under international sanctions that remain in force as part of the nuclear accord reached in Geneva today. Therefore the price for Brent Crude didn´t respond and stays still around $110 (today $112

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