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The Economic Impact of Volatile Oil Prices

By February 3, 2015May 21st, 2019Leadership News
Price of Oil, Five years, through January 2015

Price of Oil, Five years, through January 2015

One of the biggest stories in the economic and SRI press right now is the nosedive that oil prices have taken in the last seven months. After several years of running right about $100 per barrel, after the end of June the price dropped below $45. The pundits can’t quite decide whether that price will go down to $30, or up to $70, in the next few months. The stock & bond markets can’t decide what to make of this sudden slide, either, as the S&P 500 has been up, and down, and up again over the same time period. So what’s the story?

Lower oil prices are, generally speaking, good news for Americans. We’re paying about half as much at the gas pump as we were last spring, so we have at least a few more dollars in our pockets after we fill up. We appear to be spending that money on other things, which has helped the US economy as a whole to continue strengthening in the second half of 2014.

Individual states which have economies closely tied to oil (like Alaska, Louisiana, and North Dakota) are likely to have significant economic difficulties, and may have trouble balancing their budgets for the next few years. The vast majority of our clients live in New Mexico and Colorado — and while New Mexico’s economy will probably be impacted by low oil prices, Colorado’s economy is somewhat insulated by being relatively well-diversified.

Outside the United States, though, the story is more worrisome. Some oil-producing countries are already experiencing economic troubles, as they need to have oil trade over $90 per barrel. Venezuela, Iran, and Russia are already hurting, and their economic troubles could be contributing to regional political instability. And in advanced economies that are not significant oil producers, such as the Euro-zone and Japan, the combination of falling oil prices and governmental austerity policies is causing concerns for significant deflation, a serious economic problem.

This oil price swoon has opened up some opportunities, too. It gives us an opportunity to put a strong carbon tax in place, in order to help mitigate some of the impacts of climate change — everyone from Larry Summers to The Economist agree on this. However, while we might be tempted to think that falling oil would be great news for renewable energy companies, the reality is actually more complicated: cheap oil appears to mean that renewables will have a harder time getting to cost parity, even as their own costs drop quickly as well.

In short: Falling oil prices are a mixed bag of benefits and burdens. The American economy is probably benefitted overall, although some individual states will face budgetary problems. Elsewhere in the world deflation looms as a problematic probability. And low oil prices are giving us a chance to put in a strong carbon tax with minimal economic impact, while also making it more difficult for alternative energy sources to compete with carbon energy.