Tuesday, December 15, 2015

Oil & Economy: Will History Repeat Itself?

(Drivebycuriosity) - The current oil price collapse reminds of the years 1985/86. Then Saudi Arabia flooded the markets - as they do today - to get rid of their competitors  (wsj this link has a paywall.You can bypass by copying the link into google). "In late 1985, Saudi Arabia abandoned its swing-producer role, increased production, and aggressively moved to increase market share" (freerepublic). The sudden oil flood caused the oil price to collapse from $30 to $10 (minus 70%  morganstanley). After the 1986`s oil crash followed a period of relatively cheap oil and other commodities till around 2003 (charts below).

The oil price collapse didn´t cause a recession. The US economy grew in the years 1986 & 1987 each 3.5% (annual GDP growth) and accelerated to 4.2% in 1988 (worldbank). In the period 1985 through 2000 cheap commodities in combination with falling interest rates and a technological revolution (Internet) induced a period of prosperity (with the exception of 1992 as the first Iraq war caused an oil price spike which caused a mild and short-lived recession), the longest boom in U.S. history (factcheck).

Below you can see a graph which shows the growth of the US GDP and a table which depicts the advance of the US per capita income  (econwiki indexmundi). Both show that the US GDP and per capita income doubled from 1985 through the year 2000.

1985     $18,269
1986     $19,115
1987     $20,101
1988     $21,483
1989     $22,922
1990     $23,955
1991     $24,405
1992     $25,493
1993     $26,465
1994     $27,777
1995     $28,782
1996     $30,068
1997     $31,573
1998     $32,949
1999     $34,621
2000     $36,450

It is remarkable that the US unemployment rate followed the downward trend of the oil prices in the 1980s:

The 1986 oil price collapse worked like a global tax cut. Consumers world wide had more money to spend for other goods & services. Dropping energy prices translated into lower transport costs - thanks to cheaper Diesel - which lead to lower prices for food and other goods. Cheaper energy also reduced the costs to produce steel, cement and many other energy intense goods. Many things which are made from oil, like cleaning fluids, laundry detergents, paint, pharmaceuticals, cosmetics, hygiene products, diapers & plastics, also got cheaper. So, cheap oil translated into low inflation which allowed falling interest rates.

The situation today is very similar to the situation 1986. In both cases the oil flood is caused not by imploding demand but by aggressive pumping of the producers. I think that the current oil price collapse will lead to another period of cheap oil (driveby) which will inspire another period of prosperity. 


  1. those were the years of the "old economy". Now, 30 years later, everything moves 100 times faster. The stock and commodity markets are 80% traded by algorithms which make every event having an exponential trend. if you go back just 10 years, it would take a major world event (every 5-6 years) to cause a VIX spike over 20.
    In the last 10 years, the VIX goes over 20 every about 3 months!!!
    You see the changes? that means if last time it took 20 years for oil to get back to where it was, this time it could take less than a year...it would not be surprising!

    1. Thanks for your comment. I agree, everything is getting faster. But that also goes for oil production. If oil prices climb above $50 again, the frackers will come back quickly - and countries like Russia, Argentina & China might tap their huge shale resources. I also agree that oil is traded by algorithm. But that goes in both directions, sharp falls follow steep rises, oil price spike will be very short lived - kind of reverse flash crashes - thanks to the accelerating technological progress which stimulate production and curbs demand.