Oil spike a reminder of 1990 but world has changed
PARIS: When Iraqi tanks thundered into Kuwait in August 1990, oil prices doubled, car sales tumbled, recession hit the United States, and crude costs retreated within a year as a result of a slump in demand.
As oil tops $60 a barrel, people wonder if a re-run is on the cards — firstly whether recession will strike again and secondly whether that is the only way prices will abate. The answer from economists is “probably not” on prospects of recession because oil is still relatively cheap by comparison to the extremes seen in recent decades and the most industrialised nations are generally more efficient, and thus resilient.
Investment bank Goldman Sachs says growth could be reduced by about half of a percentage point in the main industrialised, oil-importing nations, “but not enough to derail the economy”. Nobody quite knows the answer to the second question because the world is a different place, where growth in the developing regions plays a major part in a global growth rate that was the best in three decades last year at 5.1 percent.
History doesn’t quite repeat itself: China, now the world’s second-biggest oil consumer, leads a pack of fast-growing emerging economies expanding at rates that make it hard to get enough fuel to them.
Moreover, economists say the alarm over oil’s latest record — nearly $61 — tends to hide the fact that the recent price trends are less abrupt than in 1990 or previous crises when Arab nations turned off the taps. That gives more time to adapt. James Hamilton, an economics professor at the University of California, refers to 1980, when the price of oil was over 50 percent higher than now taking inflation into account.
The Islamic revolution and the Iran-Iraq war led to a surge in prices from the equivalent in today’s terms of $40 a barrel to $95 — and two recessions knocked oil demand to 55 million barrels a day in 1983 from 63 million a day in 1979. a“Certainly, the twin recessions contributed to that decline in oil demand along with the high price of oil, though economists are still debating the extent to which those recessions were themselves caused by the oil shocks,” he said.
Oil consumption fell by about a quarter from what it would have been in the absence of recession after a price rise of more than 80 percent, he says. But the situation is different now.
“I do not yet see a recession, which was quite important in bringing oil demand down in 1980,” said Hamilton.
Secondly, soaring Chinese demand was simply not a factor in 1980, although Hamilton believes demand from there could start to cool off next year. Andrew Oswald, an economics professor at Warwick University in Britain, argues that there is no magic answer to predicting prices and that all that really counts is long-term depletion of the world’s resources.
“There’s no killer cutoff price level,” he said. “60 dollars is a problem, partly because it does some damage to the world economy immediately, but more importantly because it means our breathing space is gone,” he said.
He does not subscribe to the idea that greater investment and better-tuned refining capacity will solve the problem. “Demand will slowly outstrip supply in the oil market, and the long-term outlook is thus going to be expensive for us and particularly our children,” he said.
Most industrialised economies learned from the 1970s and now need only half as much oil to produce the same amount of goods, but the world produces more goods and needs 80 million barrels a day now, when it needed just 20 million in 1960.
Why would China sacrifice its economic rise? As Oswald put it, there is no reason why Chinese President Hu Jintao, who meets US President Geroge W. Bush among other leaders at a G8 summit in Scotland next week, would agree that more than a billion Chinese will stick to riding bicycles. China, and countries like India, are now a key factor for a rapidly mutating world economy — witness the $18.5 billion bid by China’s state-controlled CNOOC Ltd for US oil giant Unocal and the cries of concern in the US Congress.
Painful nonetheless: In terms of growth, OECD experts reckon a $10 rise per barrel knocks close to half a percentage point off world economic output the year after, a purely statistical simulation that many believe is a gross understatement. The understatement is due to the fact that such models only work out how much oil-consuming nations end up transferring to the producing countries of the Middle East and elsewhere, and how little of that money returns fast to the global economy. That, economists say, ignores the most difficult and perhaps important part of the equation — the extent to which business and households react. So far, US carmakers GM and Ford have witnessed a falloff in sales of gas-guzzling SUV cars but there is nothing like the fall of about 18 percent in total car sales in the months after Kuwait was invaded.
Even if economists have difficulty totting up how much the world loses in economic output overall, there is little doubt about the damage showing through in corporate statements, and central bankers, like politicians, are sounding alarm bells. Last month, before the latest record of nearly $61 reached on Monday, US Air Transport Association chief James May said US airlines were losing $17,000 a minute due to fuel bills and that he expected more job losses in an already ailing industry. In Europe, where the dollar’s slide last year helped make oil more affordable because it is paid for in dollars, British Airways and Virgin were joined on Monday by Lufthansa’s cargo business in announcing fare rises to offset fuel costs.
Hamilton is less worried than some that the world, and above all the United States, is simply living way beyond its means in terms of fuel consumption. But optimists and pessimists alike shudder at the thought of how oil prices would respond to any significant terrorist attack on supply or unexpected escalation of the Middle East conflict.
Figuring out the future of demand is one thing but the story is more straightforward when there is an interruption of supply, as was the case with the Suez crisis of the 1950s, the Arab-Israeli war in 1973 and after the Islamic revolution in Iran, or the first Gulf war in 1990. reuters