At the beginning of September 2016, it was reported that the United States had just completed its cheapest summer at the gas pump in 12 years, as the average price of gas per gallon fell to $2.24 – almost 50 cents cheaper than the year prior. The price of oil – and consequently, gasoline – has long been seen as a key economic indicator within the U.S. So a dramatic drop in costs should surely be a positive, as consumers now find themselves with more disposable income in their pockets, right?
In the days where the U.S. was primarily an oil importer, like the 1990s and early 2000s, that sentiment would absolutely be true. But now that the country has ramped up drilling and fracking to once again become a top oil producer, the concept of lower prices being a boom to the economy is not as definite.
U.S. as an oil importer
When wells in the U.S. began to dry up and the costs for exploration became too high, the country depended on foreign oil to meet its high demands. When you become dependent on a foreign source, you are also forced to pay whatever price is set by the producer. As such, when the price of oil began to drop, the buyers in the U.S. began to save money and those savings were passed on to the consumer.
With lower oil costs, airlines were able to drop ticket prices, allowing more Americans to fly (and spend money). The price of gasoline allowed more Americans to spend less at the pump, and more at their final destination. Homeowners were paying less to heat their homes during the winter. In short, it provided American citizens with more discretionary income that could be spent elsewhere – restaurants, sports games, retail stores, vacations, and more – which further stimulates the economy.
When the U.S. was primarily an oil importer, citizens felt it in their wallets when the price went sky high, but the economy benefited immensely when the price dropped and gave people more money to spend elsewhere.
U.S. as an oil producer
Those times have changed for the U.S. however, as the country is now back in the oil and gas business and is one of the largest producers on the planet once again. The benefits to the consumer still continue when the price of oil remains low. But there is now a negative impact from low prices that the economy must deal with that most aren’t aware of.
Being an oil producing country means drilling, exploration, manufacturing, etc. – quite simply, it means jobs. In the shale rich regions of the country, where the vast majority of its hydraulic fracking business takes place, oil production is a major job producer. It goes well past the individual workers too, though there are many. There are also the surrounding hotels, restaurants, and retail outlets that see an increase in business from having a fleet of oil workers in town.
So when the supply is high, driving the price of oil down, what is the natural effect? Drilling and exploration slows down. Less workers are needed. All of those surrounding businesses lose those extra dollars. Americans are filling up their tanks for less, but it comes at the expense of the livelihood of their fellow citizens.
One must also consider the effect on Wall Street, where many of the oil and gas companies receive their capital and debt to continue operations. As oil prices drop, investors and banks lose money.
Important, but not dependent
Fortunately for the U.S., its economy is not dependent on oil, as countries like Russia are. With the country now being a top producer and consumer of oil, it will see impacts – both positive and negative – when prices rise and fall. As the price of oil begins to stabilize around $50/barrel, both sides (producers and consumers) should feel confidence at the economic prospects in front of them.
How to stabilize the price per barrel
The hurdle the world faces over the next couple of years in regards to oil is oversupply and the management of such. This will mean discussions between at least the parties of the Organization of the Petroleum Exporting Countries (OPEC), Russia and the United States. These discussions have not happened thus far. The only reports we have seen are that initially Saudi Arabia suggested to the other members of OPEC to freeze production at January 2016 levels. At this point the world Oil Output sat at around 80 million barrels per day.
As Iran had only just had sanctions lifted they would have never agreed to freezes. In the months preceding, Saudi Arabia met with Russia to push ahead with this freeze for all producers, including Russia. To this date this has not come to fruition. As of June 2016, however, the barrels per day had decreased month-on-month to around 79 million barrels per day. This may be a standard annual trend but I believe it says something about the market place.
Even if this went ahead and a freeze of production was put in place, it still does not bring us closer to the stability of prices at around $50/barrel+. At the top end of production, any changes in global markets – i.e. China’s contracting economy, Europe’s upcoming economic issues – have an impact on the oil market.
The best way for the stability of oil prices to come into place would be for a small reduction of production output, then freezing future output at that point. This would also require a synergy between OPEC, Russia and the United States. This process would re-stabilize prices at a level which would have a positive effect on the global market place, and would keep things steady in countries like the U.S. that are both large producers and consumers of oil. Steady oil prices will build confidence in the market, which will then be reflected throughout the entire global economy.