I recently listed rising oil prices as one of the primary risks to the economy in 2011.  As we saw in the 70’s and in 2008 skyrocketing oil prices have the potential to wreak havoc on the US economy.  In fact, over the last 40 years substantial year over year rises in oil prices have tended to precede recessions.  With the exception of 1986 and 2010 80%+ year over year changes in oil have always been followed by recession:

In an article in yesterday’s FT Fatih Birol, the IEA’s chief economist said the surging price of oil now poses a very serious threat of causing a replay of 2008:

“Oil prices are entering a dangerous zone for the global economy.  The oil import bills are becoming a threat to the economic recovery. This is a wake-up call to the oil consuming countries and to the oil producers….
Oil exporters need clients with healthy economies but these high prices will sooner or later make the economies sick, which would mean the need for importing oil will be less…It is a very telling story. 2010 rang the first alarm bells and 2011 price levels could bring us to the same financial crisis times that we saw in 2008″

According to the FT the ratio of import bills to GDP is now approaching 2008 levels:

“The ratio of countries’ oil import bills to GDP, a key measure of the cost of oil prices on economies, is close to levels last seen during the financial crisis in 2008, Mr Birol warned.If oil prices remain above $90/barrel for the rest of this year then the ratio for the European Union will be 2.1 per cent – close to the 2.2 per cent level it reached in 2008.”

What’s worrisome today is that oil prices are surging during a normally weak seasonal period.  The seasonally strong period during the late winter into the summer driving season tends to be when oil prices surge and top out.  There is a very real threat that oil prices will continue to melt-up into the middle of the summer.  In addition this happens to be when QE2 ends so it gives speculators all the more reason to hoard the commodity. Richard Fisher’s darkest moment could be on the verge of becoming a nightmare.

From the current levels of $90 every $15 rise in the price of oil will result in a 1% decrease in US GDP. The Wall Street Journal elaborated on the dramatic impact of rising oil prices:

“Gas prices are already at about $3 per gallon and winter is usually the weakest time for gas prices. The recent surge in crude oil has raised the possibility that gasoline could hit $4 by the peak summer driving season. The big danger is that saber-rattling in the Middle East or an unexpected refinery shutdown could push prices closer to a sawbuck a gallon. Given that Americans use about 378 million gallons of gas per day, each dollar rise in gas prices, if sustained, means $2.6 billion a week must be diverted toward the gas pump and away from other spending.”

As David Rosenberg noted in yesterday’s strategy note this will more than erase the recently passed tax cut:

“Oil prices have broken above $90/bbl and we seem to recall that when this happened in 2007, an unexpected recession followed four months later. Yesterday’s USA Today ran with an article quoting some energy experts predicting that gasoline prices, already north of $3 a gallon, may yet test $4 a gallon before long. Now that would pretty well take care of that payroll tax cut … and then some. Looking at the near record net speculative long positions on the New York Mercantile Exchange as far as light sweet crude is concerned, it is abundantly clear that this runup in oil prices is not merely related to physical demand. Remember that it was this investment-related action in 2008 that ultimately caused the price to head into reverse as the physical demand growth went into reverse (as an aside, speculative longs in copper have also reached five year highs).”

Although I’ve maintained for several years now that the threat of inflation (and especially hyperinflation) is overstated the threat of cost push inflation via oil prices remains a very real threat to the US economy.  Although it’s highly unlikely that high prices can be sustained (consumers remain far too weak) and seen in broader end inflation data there is the threat that oil prices rally in 2011 and put even greater pressure on a weak economy as debt laden consumers are forced to reallocate spending.  High oil prices exposed the US economy as a deflationary trap in 2008.  As Fatih Birol said there is a very real threat that high oil prices once again expose an economy suffering from massive deflationary pressures.  There are, arguably, few things more important to the continued prosperity of the US economy than alleviating this foreign energy dependence.


Got a comment or question about this post? Feel free to use the Ask Cullen section, leave a comment in the forum or send me a message on Twitter.

Cullen Roche

Mr. Roche is the Founder of Orcam Financial Group, LLC. Orcam is a financial services firm offering research, private advisory, institutional consulting and educational services.

More Posts - Website

Follow Me:

  • http://buzz nottpc

    You are having it every way.

    You say inflation cannot occur under current distressed balance sheet
    You say QE has no real effect …more recently you say in the long run.
    Now you say cost push inflation is possible

    Much of that cost push inflation being caused by QE being read incorrectly by speculators. But you sasaQE is a non event.

    Effectively like a Rosenberg you have covered yourself in every outcome. You say the threat to the us is disinflation over inflation. But now you say the threat can also be cost push inflation. So whatever happens you can say I told you. This is wall street logic at its best.

  • http://buzz nottpc

    Put another way the fed has been successful in creating inflation expectations due to the investor classes misunderstanding of qe. So where you said a mountain of times QE is a great non event it somehow has changed real economic expectations. Unless you believe oil has only risen due to economic acticity which the speculative activity has shown otherwise. At minimum you have to admit bernanke has done a masterful job of changing expectations with something you consider to be black magic I.e. a non event. Maybe he is smarter than you give him credit for. Not that I agree with his methods or manipulations.

  • Cullen Roche

    I think you’re really stretching the truth when you say that QE has caused higher economic activity. The Chinese and US PMI’s surprised to the upside sharply just 3 days after the Jackson Hole speech. That is what sparked this rally. The subsequent earnings season was very similar to the last few. No QE there. All QE has done is created some speculative fervor in various assets. Is that going to have a sustainable impact on the economy? I don’t see how that’s possible. QE supposedly works through lowering rates, reducing the dollar and creating a wealth effect. Obviously, the only one that might be working is the wealth effect. This is the David Tepper thinking. It’s the Greenspan Put all over again. It has no real long-term fundamental impact. There is no such thing as an equity market wealth effect. Stocks represent the value of the underlying fundamental output – not vice versa. The whole idea of the wealth effect in equities and the Greenspan (now Bernanke) put is flawed because in the long-run there will be no real fundamental impact.

    Your praise of BB sounds similar to what people said of Greenspan in 1999 after LTCM. We should have learned this lesson in 1999 when that wealth effect didn’t work. We should have certainly learned it in 2007 when the housing wealth effect proved that you can’t diverge fundamentals from reality forever. If you believe the Fed can accomplish this via QE then why don’t we just implement QE in perpetuity? Economic growth is that easy? All it takes is buying back govt bonds? Wow. What a novel idea for human ingenuity and productivity. If you’ve fallen for the idea that Bernanke is succeeding then it’s a near certainty that we’re destined to repeat the mistakes of our past…..

  • Roger Ingalls

    Completely off topic, but did you catch the Colbert Report segment tonight on returning to the gold standard (1/4/11)? Hilarious. Ron Paul seemed to be unaware he was on the Colbert Report.

    Couldn’t find a link yet, but this old one, suggesting a return to the lead standard merits a look as well.—the-money-shot

    Does it suggest a gold top when it is the feature story on the Colbert Report?

  • Adam

    And unfortunately the FED might be tempted to respond to cost push inflation the same way it does to any type of inflation – raise interest rates. The best solution and something that would be overall benefitial right now would be a major government initiative to finally get the US off its imported energy addiction. If the other 49 US states were as energy efficient as California we could cut energy consumption by 50%!

    Anyhow the best way to end cost push inflation (in the long run) is to increase supply and or the availability of substitutes. That would be a great us of government spending right now. Allowing oil supplies to set a false ceiling to US economic growth is a bad policy that seems to have been in place since the 1970’s and with world competition for oil only intensifying it would seem like a smart way forward to reduce our dependence on it.

  • boatman

    i’d really like to see figures and reasons cali is 50% more efficient than the rest of the country.

  • Barbadosbob

    Treasury yields are incredibly low, despite record levels of borrowing in recent years, because everyone is counting on a booming recovery. But you can’t have a booming recovery when oil climbs over $100.

    That suddenly makes all that government debt very energy intensive. It will take huge amounts of energy, particularly oil, to achieve the growth rates that all the near-bankrupt governments around the world need to even service their debt, let alone repay it.

  • Adam

    I was going from memory so I may have not been 100% accurate. However since 1973 California’s per capita energy consumption has basically been flat while the US as a whole has increased 50% (that may have been where I got the 50%).

    Anyhow, its still a major difference that can be achieved.

  • Adam

    Please readup on MMT, because I ready don’t think anyone really would want that debt every to be repaid if they understood what it was.

  • Peter

    But hey, let’s kick food out of the CPI, so it seems we have no inflation. Or even better: increase the weight of housing, that will kick it down!

  • Jonnyblaze

    I think what bob is saying may deserve some thought however. TPC has noted numerous times in the past that governments with control of a fiat currency are not REVENUE constrained, but they are constrained by the productivity of their respective economies. That productivity is pretty heavily dependent on energy use. Given the fact that US is an importer, massive increases in energy costs are not conducive to improving the productive capacity of the economy. Thus, the debt/money creation constraint certainly can become tighter, right?

  • rg

    How about a post on the jobs report today

  • Adam

    A change in economic output capabilities would definitely have to play into how much and where the government could and should spend.

    However, “..all the near-bankrupt governments around the world need to even service their debt, let alone repay it” implies a solvency concern which is not an issue.

  • Adam

    Food is typically extremely volatile. You want to exclude such volatile items from your measure so that you don’t end up recommending polcy direction changes every 6 months.

    Krugman has a blog post with a great graph.

    Notice how noixy the blue line is vs the red line. Which would you rather policy be set by?

  • ObaMao

    What was the real culprit of late 70’s stagflation? Oil price hike and home buyers were attracted to assuming lower interest loans around 10% since prevailing mortgage rate was about 15%.

    Investopedia explains Stagflation
    Stagflation occurs when the economy isn’t growing but prices are, which is not a good situation for a country to be in. This happened to a great extent during the 1970s, when world oil prices rose dramatically, fueling sharp inflation in developed countries. For these countries, including the U.S., stagnation increased the inflationary effects.

  • Roger Ingalls
  • haris07


    I am afraid now you are changing tunes! I said that the “semantics” of whether inflation was really rising in core CPI, Dallas fed mean trimmed CPI, other such contrived indices was besides the point. Fact is that QE (even though I agree with you that on the very technical aspects of QE, I was never so convinced that it was a complete non-event. I always thought that retiring bonds that financed “productive” assets and throwing freshly printed $ which do not have any “productive purpose” whatsoever was likely to have inflationary consequences – and yes, I know that bonds don’t actually “finance” etc, forgetting the technical points, fact is that creating freshly printed $ when there is no place to put these $ into in a productive way is inflationary).

    Now that oil prices have risen and so have food prices (which are both conveniently ignored by everyone because no one eats or uses energy!), you are changing tune and saying that this is going to have an effect.

    You say it is all misunderstanding and speculation, maybe, but maybe not or maybe partially….who knows. Printing $ when there is no productive use is likely inflationary in the long run…Japan is a counter example, but there are several examples of this too (US in the 70’s). I wouldn’t rush to judgment so quickly about consequences of QE being completely disinflationary…all I think is that the effects are not as clear as you make it out to be.

  • AWF

    The post was about OIL/Oil& Gas prices.

    The Gulf of Mexico–considerations
    Oil/Gas rigs are still in a holding pattern and are NOT Drilling for new Oil
    Existing Rigs have only marginally re-started to pump from existing wells.

    Just Supply/Demand considerations

    So it seems the US/FED have a couple of choices in the Short to Intermediate Term

    Allow the $USD to rise and damage the US “Recovery”
    The good Economics professor at Columbia U (you have seen him on bloomberg) says
    “A rise in the $USD will kill the recovery”–he has some history to back that up!


    Force the $USD down and risk Higher Oil/Gas prices and damage the US “Recovery”

    The Questions– Can the FED stabilize the $USD?

  • Cullen Roche

    I never said QE would have no psychological impact. I’ve maintained since day 1 that it is being entirely misinterpreted as money printing and inflation. You’re taking my “non-event” comments out of context. QE does nothing fundamentally. Fundamentally, it is a non-event.

    The response of investors and their ability to be irrational is something I have never questioned. I am about as far from a believer in EMH as you’ll find.

  • http://none rhp


    “Bankrupt countries around the world servicing debt” IS an issue. Just look at Ireland, Greece, and other countries that do not control their own currency. It is not an issue for US b/o world reserve currency status. We alone in the world are the alchemist that can create the currency needed to service our debt, due to US$ demand internationally. Just as the US gov’t is not the same as a household, other sovereign nations are not the same as the USA in terms of freedom of currency manipulation. Any exporting nation whose debt is not $US dollar denominated does have issues with servicing that debt if their economies are revenue constrained, and thus energy consumption constrained. I’m relatively new to MMT, but learning a lot about MMT from this site and Billy Blog etc, and if I’ve got it wrong, help me out. This is not to say that the national debt needs to disappear in “bankrupt” countries, but the whole difficulty in the eurozone will be compounded by rising oil prices in those eurozone countries that rely on oil imports. what say you?

  • first

    That may be why every one is leaving.

  • anonymoose

    ya think?

    but his info does not convince me it is actually happening.

  • first

    Manipulating a currency downward does not stimulate the economy.
    It only postpone the problem.You could say its temporary exporting by default instead of being competitive.

    Prices are moving up and the disinflation is coming to a end.

  • Pete

    economy is really confusing. deflation, inflation and recession etc.. Bernanke kept the rate to zero and destroyed all the savers, and encourage investment. Now, everything physical went up big. Oil, gold, silver, copper, food etc. when oil is up, we have to pay more at the pump every week. It hurts a lot people in this country. It will suck a lot money out of the economy. when people put the money in gold and silver, the money will sit in the safe and do nothing for the economy. call whatever you want, the money is not invested in the road, factory, school and hospital, etc. unemployment is not really going down. and yes I agree with you completely that oil price up is a terrible thing for the economy. anyone says otherwise has purpose.

  • anonymoose

    i’m thinking adam is actually paul krug

  • first

    “We alone in the world are the alchemist that can create the currency needed to service our debt,”

    Is this not simply called dilution. Pass on you problems to others until they start asking for more to compensate for that dilution. The recession slowed this process but that is starting to change. You can be the alchemist and pretend you are not revenue constrained until you gallon of gas cost you $5.00. It will still be in US Dollars denomination of course but the more the alchemist will print the more the producers will ask. Good luck with that.

  • Peter

    Since the US closed the gold window in 1971, the dollar has gone only one way: down. In the past decade US inflation has been between 5% and 12% PER YEAR as shadowstats shows:

    In 2010 everything (except housing) has gone UP in price. Commodities are rising, some of the setting new all time highs.

    It is absolutely beyond me how on earth people here can think that there is NO inflation and that the Fed is NOT able to debase the dollar. They have been doing that since the crisis of 2008 and prices do reflect that. The main policy of the Fed is to debase the dollar. Which is nothing else than a data entry in a computer. Are people foolish to think that such a unit has any value? Yes, they are. And the coming years will prove that.

  • Alex

    Until the West eases its dependence on oil, the West will struggle to ever be economically very strong. In my opinion, the US’s economic strength over the next 10-20 years will depend heavily on how swiftly consumers move away from the oil only approach.

  • OTS


    I agree that everything (for the most part) has gone up in price in 2010. However, most things have become more expensive in all currencies. It seems you are suggesting that people are foolish to trust in fiat money but there is no practical alternative

  • first

    Yes and is it not amazing that there is a surplus of natural gas.
    The price has been so low that several companies are cash flow negative and stop exploration. A few have even started exportation. yes exportation of energy from the US. This is one commodity that is still very cheap.

  • Dimm

    How about a rational thought on his argument, if capable of course?

  • jack

    the same forces of the early 70’s now on the republic, shall we do it again?
    double the price of everything to pay for it, and how did THAT work?
    sir Kissinger paid a reduced price on agreed war debt: 40 billions paid 30 years late. WHAT a deal!

    PAY and pay for the on-going wars, no capital available for the Republic,(the torries say cut cut) now all capital for warmongering and war profits. Cost PLUS contractors? you pay and pay.

    THIS is the elephant in the room no one will admit- the you-knighted states are in a Nazi war economic phase,..middle classes eating themselves.

    doan come running to me when you eat yr toes.

  • Anonymous


    ??middle class eating themselves? I think this is more like CEO’s of the FIRE industries orchestrating massive transfer of wealth OUT of the middle class creating a much greater disparity between the upper 1% of income earners and the rest of “us”. A great danger (to me) is the incoming congress’s emphasis on further DE-regulation that allowed the massive mortgage fraud to occur in the first place (see CA Rep. Issa’s solicitation to 150 companies about which regulations they wish repealed that would allow them to make more money!!) With BoA escaping from their share of the mortage fraud by paying approximately one cent on the dollar, this effectively puts the middle class taxpayer on the hook for the monies transferred to Sanford Weil and Angelo Mozillo and company. This seems similar to trying to run a legitimate business while the Mafia is extracting all the profits. VERY good for the mafia, not so good for the middle class business owners…….. Unless this structure is changed, the same abuses that occurred during the last 5 years in the real estate/housing industries will be repeated as there is no moral hazard to change the pattern.

  • Adam

    Most countries have a fiat currency regime that they are sovereign in which allows them to act as MMT describes (unless they carry debts denominated in another currency). The Euro nations problem is that they have major inter-country imbalances which they can not counter with MMT based policies because they do not have a national government that is sovereign in its own currency. The ECB is the master of the currency and it is technically not suppose to support deficit spending and it in and of itself is not capable of spending (its a bad design).

    Anyhow, high oil prices are an issue for every nation because it causes constraints on the economy’s ability to produce (supply constraints – cost push inflation) and given our anemic growth it’s impacts on aggregate demand (constraining disposable income) are not good either.

  • David Starr

    There is an outfit called, I joined them (it doesn’t cost anything to join) and then when I fill up, I keep the receipt and mail it in to get a 50% rebate on the amount I spent for gas. However, there is an upper limit
    that you can do each month I think it is $200 or something like that — but believe me an extra couple of hundred bucks a month gives my family our weekly trip to the movies again… or you can always buy more gas.. LOL. Here’s the link