Oil Prices

The price of oil is hovering around $50/barrel today, a new record in nominal terms. The chart below shows the spot price of oil over the past few years.

Source: EIA.

Yes, it’s true that oil prices were higher in the early 1980s in real terms. Yes, the oil shocks of the 1970s were about four times the magnitude of this one in percentage terms. And yes, it’s true that the US economy uses considerably less oil per unit of output than it used to.

However, this still worries me. If sustained, this 50% increase in the price of oil over the last year will have real effects on the US economy. The US has not had to pay this much for oil (in real terms) in 20 years. The only other time in US history when oil cost so much was the period 1979-85, a period that saw two recessions, record inflation, and average real GDP growth of just 2.6% per year, well below its trend growth rate of about 3.5%.

The crucial question then becomes this: for how long will oil prices stay so high? Unfortunately, I’ve seen no evidence (or even compelling argumentation) that suggests that oil prices are going to fall any time soon.

Kash