Oil Prices and Economic Growth: Are Oil Shocks a Thing of the Past?

Abstract

THE CLASSIC THEORY Press articles in early 2012 are predictably hailing the so-called classic relationship between rising oil prices and falling economic growth. They tell readers that: “As a rule of thumb, every $10 increase in the price of a barrel of oil will cut GDP by half a percentage point within a certain period.” This rule of thumb has academic and near-academic laurels, all of them based on comparing charts of GDP falls at certain periods after oil prices rose, for a narrowly selected range of countries and always imputing an extraordinarily large impact of oil prices on GDP. Also, the symmetric theory that falling oil prices should jack up GDP is never wheeled on stage to support the argument. The fall of oil prices in 2008-2009 from a year-average of $91 a barrel in 2008 to $53 a barrel in 2009 should have added nearly two percentage points to GDP in the affected countries, or perhaps across the entire global economy but it did nothing. Depending on consumer fuel taxes, and the total value of energy spending in an economy, rising car fuel prices take an easily calculated amount of spending power out of drivers’ pockets. For the US each 1 cent increase in gasoline prices takes about $1 billion out of consumers’ pockets, and likewise a $1 rise will take out $100 billion. Apart from even this second figure being a small 0.66% of US GDP, this spending power “taken away” from consumers is only transferred out of the country in proportion to oil imports and the real net costs of oil to any importer country after oil trade gains. In other words, a large and rising part of the cash taken out of consumers’ pockets when oil prices rise stays inside the US, or any other importer country. It is only shifted from one pocket to another: windfall gains from higher priced oil realised by the oil companies, for example, add to stakeholder benefits and dividends, generates employment and bolsters investment in the energy industry. Tax receipts by governments on energy will also rise, unless the fuel taxes are cut, which is rare.