Friday, January 11, 2008

The Oil Price Tax

An article in today's Washington Post compared the recent rise in oil prices to a $150 billion dollar-per-year tax on the US economy, enough to negate the various economic stimulus plans being discussed by the Congress and White House. It's a shocking figure, and it helps feed the forecasts of recession, which tend to be at least partially self-fulfilling. But before we accept that $150 million figure at face value--despite its impressive pedigree--it's worth spending a moment on a few ballpark validations. Above all, we should remind ourselves that if high oil prices are a tax, they tax producers, not consumers, who rarely purchase crude oil to use in our homes or vehicles.

The article cites a 2004 comment from Fed Chairman Bernanke noting that firms don't always have the ability to pass on the full effect of a commodity price shock to their customers. At least for oil refineries, now is such a time. Most of last year's oil price appreciation occurred following the end of peak driving season, after Labor Day. Between August and December, the average monthly futures price for West Texas Intermediate crude oil on the New York Mercantile Exchange went up by $19.38 per barrel. The average for January so far would add another $5 to that, so let's call it $25/bbl. With US refineries running at 15.5 million barrels per day, and using the increase in WTI as a proxy for the change in the oil prices actually paid by refiners, their costs have gone up by about $11.5 billion/month. That's close to Professor Nordhaus's $150 billion annualized pseudo-tax.

As I noted above, however, consumers don't buy oil; they buy gasoline, diesel fuel and heating oil. Although the prices of all those products have gone up considerably since Labor Day, only retail heating oil has gone up by as much as crude oil. So far, the average retail price of diesel fuel has risen by about $20/bbl and gasoline by only about $13/bbl. At current consumption rates, the direct impact on consumers is thus around $6.6 billion/month, or $80 billion per year. That ignores increases in the cost of plane tickets, plastics, food and many other things that consumers buy that include a significant energy component, but then, the prices of those goods and services are influenced by many other factors aside from the price of energy. That indirect impact has been further buffered by the relatively low price of natural gas, which supplies a large fraction of the energy and feedstock for the broader manufacturing, chemicals and power sector, and which has been virtually unaffected by the recent change in oil prices.

When we consider the net impact on the entire US economy, we see an increase in the price we pay for imported oil and petroleum products on the order of $9 billion/month since September, or $108 billion/year. Consumers have experienced about three-quarters of that, with businesses absorbing the rest, for now, along with the residual higher cost of domestically-produced oil. If the price of oil remains at this level, more of the increase will flow through to consumers, particularly with the seasonal return of higher gasoline demand in the spring.

$100 billion is not a trivial sum, particularly when it's added to the ongoing expense of two wars and the ultimate cost of repairing the damage caused by the sub-prime debt meltdown. In particular, taking the annualized equivalent of $80 billion out of consumers' disposable income has to worry any business hoping to sell them some product or service this year. But in an economy with nearly $10 trillion of consumer spending, it's the rough equivalent of a 1% tax. Consumers, businesses and policy-makers might want to keep that in perspective, before they panic.

No comments: