Economics: Why The Oil Price War Is A Huge Gift For The Global Economy

(Drivebycuriosity) - Stocks & oil prices are tumbling again. Oil prices have been under pressure because a rising US oil production is flooding the markets and many fund managers are speculating that the coronavirus - and measures against it like quarantines - will reduce the global demand for oil sharply. A new price war on the oil market, which the Saudis started on Saturday to swipe out the US competitors, intensified the sell-off. Overnight Brent Crude & WTI, the leading oil futures, dropped about 20%.

The current situation reminds me of the year 2016 (chart below). A rising US oil production, thanks to fracking, had undermined Opec´s dominance and the Saudis responded then with a price war and flooded the oil market. As a result the oil prices dropped from about $120 to below $30 - more than 70% (chart below). Then media & pundits claimed that the oil price crash could cause a global recession ( marketwatch). But they got wronged and the global economic expansion continued. Low oil prices helped the 2010s to end without a recession, continuous economic growth, a record low jobless rate & strong stock market gains.

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The recent oil price crash also reminds of the oil price crash in the early 1980s (chart below ). Then Non-OPEC nations countries outproduced Opec (as Russia & US do today) and despite repeated production cuts by Opec the oil price fell back into a range between $10 and $20 where it stayed until 2002 (seekingalpha). This allowed a decade of a prospering economy and a rally on the stock market during the Dow Jones climbed from 1,000 to 10,000.

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The new price war is again a huge stimulus program and a gift for the global economy. It will help to smooth out the perilous influences from the cornonavirus on the economy.  Dropping prices for oil & gasoline work like a tax cut. Consumers worldwide have more money to spend for other goods & services. So cheaper energy prices stimulate consumer spending which accounts about 70% of the US economy. Dropping energy prices also translate into lower transport costs - thanks to cheaper Diesel - which lead to lower prices for food and other goods. They also reduce the cost 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 get cheaper.

Because of sharply falling energy prices we will see lower inflation rates in the coming months. This allows the Federal Reserve to cut her interest rates without fueling rising inflation expectations. The twin package of cheaper energy & low interest rates will help to cope with the perilous influences of Sars-CoV-2 and to avoid a recession.