What Cheap Gas Means for the Economy (and Your Wallet)
Falling oil prices mean cheaper gas, and this makes most of us very happy. The average gas price in the States is now $ 2.05 a gallon , nearly fifteen cents less than a year ago. However, over time, cheap gas is not always good. This can have a big impact on the economy and, in turn, on your wallet.
Oil is cheap because the supply is great
Oil prices have dropped completely since 2014, and here you can clearly see the fall :
This decline is due to a number of complex political factors, but, in essence, this is economy 101: supply and demand.
The demand for oil is slightly less – people can drive less, fuel-efficient cars are popular – but it’s mostly supply crap . There has been a huge global overproduction of oil, and this is due to a lot of different things happening at the same time. The New York Times explains :
Domestic production in the United States has nearly doubled in the past six years, displacing oil imports that need to find a new home. Saudi, Nigerian and Algerian oil, once traded in the United States, is suddenly competing for Asian markets and producers are forced to cut prices. Oil production and exports in Canada and Iraq are growing from year to year. Even the Russians, with all their economic problems, manage to keep pumping.
OPEC (Organization of the Petroleum Exporting Countries) is well positioned to stabilize these falling prices. According to the Energy Information Association of the United States, the countries that are members of this organization produce about 40% of the world’s crude oil. Governments around the world are calling on OPEC to slow production and stabilize the market. Again, there are a lot of political factors at play here, but in short, OPEC does not , which means that the supply is still large, which means that prices are falling rapidly.
Extra money in your pocket while
For most of us, cheap oil has been a welcome change. You don’t spend that much on gas, you have some extra money to save, and hey – you can finally go on a long trip without ruining your budget.
From the point of view of the economy and the everyday consumer, this is the main advantage: more money in your pocket at low prices. Consumers saved more than $ 115 billion in gas savings last year, according to AAA .
Economists say cheap oil is also slowing inflation. Almost everything is dependent on oil in one way or another, so when oil prices fall, in theory, it keeps prices for everything else low. Which is great for the everyday consumer, at least in the short term. The Wall Street Journal’s National Economy Correspondent Josh Zambrun says :
The bottom line is that lower prices increase GDP [gross domestic product] and consumer spending, but reduce overall inflation quite sharply. If prices are so low next year, it will be a great incentive for consumers.
He adds that over time, however, the situation should level out. We will get used to lower prices and will spend more elsewhere.
Interestingly, you expect airline ticket prices to drop as well, as airlines save money on fuel costs. But that hasn’t happened yet. The airlines say they have not cut prices due to strong demand, but some analysts argue that the aviation industry has become one big oligopoly. In short, the big players – Delta, Southwest, United, and American – simply won’t be competing with each other.
The risk of deflation destroying the economy
Slow inflation isn’t always good. This could mean a weak economy, and in the worst case, lead to deflation , a “nightmare scenario” for economists, according to NPR .
To understand why, imagine you have a factory. To make your product, you must first purchase parts and raw materials. You promise the workers certain wages. You borrow money to expand.
All of these transactions are based on the idea that you will be able to sell your items for a specific price. But what if prices start dropping?
All of a sudden, you cannot afford to pay off a loan or fulfill a contract with workers. You cannot afford parts that are already on the shelves of your inventory. You should start selling products at a loss, even if your competitors are lowering their prices. The downward pressure creates a vicious circle that quickly causes the value of businesses, homes and other investments to plummet.
In short, falling prices means companies are suffering, which means people lose their jobs and stop spending money. Eventually, we run out of money and we start to default on our loans and mortgages. Then the banks suffer, and the entire economy goes through a giant recession.
The bottom line is that too high inflation is not good, but also too little. Overall, the Federal Reserve , which is working to maintain the balance, wants to see inflation steady at 2% . In 2014, inflation in the United States was 0.4%, and at the end of 2015 it was 0.5%.
Some fear that such a drop in oil prices will eventually lead to deflation and trigger a recession . It’s hard to predict the future, but so far it’s just fear.
Some economies are suffering though
But this does not mean that everything is in order now. While some of us are enjoying the savings, many others are feeling the hit of cheap oil.
My parents are a great example of the economic impact of cheap gas. My dad, who owns a small business in the energy industry, is in pain. Energy companies don’t make that much money, so they don’t buy his services. My mom, on the other hand, is bathed in glory by refueling her car for less than $ 40. Daily consumers save a little money, but those who work in the energy sector (the part of our economy that is made up of and invested in energy) lose a lot of money.
This blow has long been felt by oil-producing countries and states. Jobs are being cut. The problem of inequality in wealth is exacerbating. Low oil prices are taking their toll on countries around the world. Nigeria, for example, relies on oil to fuel its already shaky economy, and now that prices are falling, policymakers are looking for other answers. Christine Lagarde, Managing Director of the International Monetary Fund, recently said in her keynote :
The new reality of low oil prices and low oil revenues means that the financial challenge facing the government is no longer how to split the revenues from Nigeria’s oil wealth, but what needs to be done so that Nigeria can provide public services to its people. they deserve. – whether it is education, healthcare or infrastructure.
The New York Times adds that the Gulf countries are less likely to invest their money globally, and they may cut aid to some countries. It is clear that the decline in oil prices has a huge global impact.
In the US alone in the last year it was announced 94,509 layoffs in the energy sector , which represents about 15% of the total number of layoffs during the year. Low prices are weakening the energy sector. It also undermines the overall economy a little.
It is impossible to know the future, and everyone does not know what will happen next. But the Energy Information Administration predicts that oil will rise to $ 50 a barrel next year (it is now about $ 35). This is a small leap, but it could stave off some of the potentially negative effects of cheap oil. Until then, all we can do is enjoy this super cheap gas and hope for the best.