What's So Bad About Low Gas Prices?
If you're my age, you could be forgiven for thinking that $2 gasoline is the kind of nostalgic memory you'd be able to share with your children someday, like playgrounds with monkey bars or televisions that didn't even have a remote control. Suddenly, however, it's back. For the first time in years, a gas station in the United States is selling gas for just $1.99.
If you have a big, gas-guzzling car or drive a lot, this is great news. And overall, lower energy prices are good for the economy, so this is likely to keep U.S. gross domestic product growth strong -- if they last.
Are the happy days here again? James Hamilton, my favorite economist to read on energy, has argued that the declining price of oil traces back to three factors: surging U.S. oil production, the return of Libyan production to normal levels, and a slowdown in the global economy. Two out of three factors could conceivably be reversed by the very price decline they are creating.
American shale oil has a very high break-even point for its operations, compared to, say, daintily pumping the stuff out of the vast lake of oil beneath the Saudi desert. That doesn't mean that U.S. operations are going to shut the taps off immediately -- some of their extra cost is fixed investment, so it may be profitable to keep pumping even in places where it wouldn't be profitable to sink a new drill. Moreover, there's option value to keeping an operation open, in the hopes that prices will rise again.
Meanwhile, lower oil prices could be better for the world economy for the same reasons that it’s good for U.S. GDP growth: Cheaper energy makes it easier to make more stuff. If the decline boosts world growth, prices will start creeping back up.
Of course, this growth will not be distributed evenly. Texas, North Dakota and other places in the U.S. will suffer as oil prices decline and some of the high-paid jobs in oil production go away. Worldwide, lower energy prices are good for most countries -- but they are bad for many places, including some very unstable regimes. Russia will be badly hurt if this continues; so will Iran and Iraq. Venezuela is already dancing on the brink of disaster, and its production capability has been seriously degraded by Chavismo. Cheap oil seems likely to tip the country over into the abyss. I’m not very excited at the prospect of seeing how the others cope with the inevitable economic and political problems, either.
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