The Gas Crunch

A recent article in The Economist indicates that the rising price of oil will have little effect on the recovery of most G20 economies.  These countries have very low inflation rates and can absorb a reasonable hit before the rising prices of gas and other commodities that are affected by gas (food, transportation) have a negative effect on demand.  Rising oil prices, they say, is merely a blip that may be painful in the short term but will have little or no long-term effect.

But, should we be so sanguine?  Let me suggest two scenarios that give pause for thought. 

1.     Further price increases in developing countries cannot be tolerated.  Where so much of the population is barely about the world poverty line of $2 per day per worker any reasonable increase in food prices can be catastrophic.  With many of the developing countries in turmoil (and others close to turmoil) rising food prices will fuel demand for reform.  Some of the leaders in these countries (Saudi) have promised food subsidies but these do not last forever.  The simmering pot of unrest of much of the developing world would quickly come to a boil.  With devastating results for the world at large.

2.     The United States recovery is so fragile that any hard hit in prices may have the effect of dampening demand resulting in a double dip recession.  Recent performance of the US DOW and NASDAQ would indicate that the market, at least, is optomistic about world conditions in general and the price of oil in particular. However, the DOW has been wrong before. We may be looking for a sharp correction in equities in the near term.

For the present time the Saudis are increasing oil production to counteract the loss of production in Libya.  The OPEC countries count on recovery of world economies to push demand for oil.  However there is some consensus that the new normal will be high oil prices.  Some analysts peg the new normal at about $130 for Brent crude.  That new reality will result in gas at the pump at more than $1.30/liter or close to $5/gallon in the US.  While gas has been that price in Europe for many years there is excellent public transportation and food prices have adjusted (or there are significant farm subsidies—think France).  In Canada and the US farm subsidies continue so that the price of food is still artificially low. In the US and Canada we still have to build one high-speed train for inter-urban travel.  Our public transportation systems are obsolete  and  are crumbling (think the New York Subway, Amtrak and Via Rail) when compared to other countries outside of the North American hemisphere.

While we see a great deal of analysis of this in the press there is very little discussion about this by politicians.  In the US the far right wants to disengage government.  In Canada there is no leadership by any political party (with the possible exception of the NDP) on these issues. We have to be concerned.   Our future and the future of our kids and grandkids depend on it.

Bernie.