Computer Models Paint Gloomy Pictures : Economy: Consumers could have less to spend as prices climb. The only winners: Oil Patch businesses.
First come the higher fuel prices: Gasoline prices, already up 20 cents a gallon in some regions, rise another 8 to 10 cents. The price of jet fuel jumps, and air fares rise abruptly. Interest rates climb, making it more difficult to sell houses.
The higher energy costs ripple slowly through the economy, as utilities, steelmakers and a myriad of other businesses hurt by the higher crude oil prices raise their own prices. Even the cost of plastics--a staple in making everything from toys to soda bottles--rises.
The oil-price boost acts as a modest tax on American consumers, leaving families with less money than they had before to spend on other things, from autos to cabin cruisers. Eventually, they begin to cut back. The economy weakens further, but still avoids a real recession.
That’s the upbeat version of the forecasts being spewed out by the nation’s most sophisticated computer models--assuming that the standoff in the Middle East continues, Iraq doesn’t invade Saudi Arabia and oil prices don’t rise much more than they have.
Now comes the worst case:
- Fighting rages in the Arabian desert, decimating the region’s oil-production facilities. The petroleum-hungry world loses a staggering 10 million barrels of crude-oil supplies daily--about 16% of the world’s needs--as the combined output of Iraq, Kuwait and Saudi Arabia stops flowing.
Gasoline prices leap 35 cents to 50 cents a gallon, sending inflation surging, both in the United States and around the world. Interest rates rise sharply, causing the home-building industry--and many factories--to grind to a halt. Two million more Americans lose their jobs.
California is especially hard-hit: Tourism suffers a body blow as drivers forgo trips to Disneyland and Knott’s Berry Farm. Farmers strain to pay their huge fuel and fertilizer bills. Commuters--in a state whose residents drive more miles per capita than any other--are hit hard.
The only clear winners: businesses and consumers in the Oil Patch--Texas, Louisiana, Alaska and Oklahoma--whose local economies are linked directly to global oil-price levels. Local oil-drilling and production resurges, resuscitating the economy, including a few tottering savings and loans.
To many Americans, it seems like a replay of 1974--when the Arab oil embargo abruptly sent oil prices quadrupling--or of 1979, when a newly militant Iran forced a second round of oil price hikes.
Inflation was the watchword in 1974, but the 1979 price boosts went even further and helped push the economy into a recession. Authorities later squeezed money and credit to help blunt raging inflation. The economy didn’t recover until the mid-1980s.
But Charles L. Schultze, a Brookings Institution economist who was President Jimmy Carter’s top economic adviser in the late 1970s, said oil prices have remained steady for so many years that so far the price increases have been only about one-fourth as devastating as in 1979.
“The good news is that the bad news is not as bad as some people think,” Schultze declared wryly.
Which forecast will prevail depends heavily on military and diplomatic developments in the Middle East. If the West succeeds in facing down Iraq, then the world will hardly feel a ripple from the past week’s developments on the oil-price front.
But if the situation degenerates into a protracted conflict--with global energy supplies severely disrupted--it could make 1974 and 1979 seem mild by comparison.
“There are so many possibilities, it is very hard to come to any real conclusion,” said David Wyss, chief financial economist for DRI/McGraw-Hill in Lexington, Mass. “You can talk about economics, but really the military situation is most scary.”
Wyss offered four blueprints for events: In the most optimistic, Iraqi troops leave Kuwait, the crisis ends quickly, and oil prices drop below $25 a barrel as the world calms down.
The second has Iraq remaining in Kuwait, and the embargo shutting down oil shipments from Iraq and Kuwait. Oil prices rise as high as $30 a barrel, and a recession begins later this year. Unemployment, now 5.5%, reaches 6.75% next spring.
This potential outcome “looks increasingly realistic, I’m afraid,” Wyss said.
A third scenario assumes that the United States will retreat, allowing Iraq to keep control of Kuwait and of Saudi Arabian oil fields. Iraqi President Saddam Hussein drives prices up steadily over the next few years, bringing on a severe recession in 1992 and 1993.
A fourth--DRI’s doomsday model, in which a shooting war cuts off all the gulf’s oil--still is uncompleted. “This is so open-ended we haven’t put complete numbers on it,” Wyss said. “Oil prices could spike at the range of $40 or $50 a barrel, creating economic havoc.”
But Schultze noted that in the long run, the situation will ultimately correct itself, albeit after substantial suffering by consumers and workers and significant dislocations in business.
As energy prices rise, oil companies gradually begin to drill more extensively and step up their exploration for new sources of oil. Consumers and businesses also begin to adjust, conserving more and buying less gasoline and oil.
And some of the money that would have been shifted from consumers and businesses here to the pockets of oil producers will come flowing back into the United States--in the form of increased investment in America and of purchases of U.S. exports.
Even so, most prognosticators are sticking to the milder--and far less ominous--scenarios. “If the Iraqis keep Kuwait but don’t go any further, I don’t think that by itself will be a major disruption,” said Jeff Faux of the Economic Policy Institute, a Washington research group. “There is enough excess production capacity to handle things.”
Inflation would accelerate, with a 1% rise in the consumer price index, Faux believes. “Some companies and gas station owners can rip off a few bucks here and there, but you can slap an excess profits tax on them if necessary.
“People will spend $100 a year more on gasoline, maybe $100 on utility bills and other transportation,” he said. “That’s irritating, but a long way from being a disaster.”
And Stacy Kottman, assistant director of the economic forecasting center at Georgia State University, said he believes that the shock of going from $18 to $25 for a barrel of oil would bring greater inflation, but he stopped short of predicting that a recession is inevitable.
Kottman predicted that the cost of living will rise by 0.7% or 0.8%, but he expects that there won’t be the kind of inflation that occurred in the 1970s. “The economy is weak,” he said. “It is terribly difficult to pass along the full rise.”
However, the results can be different if oil prices rise much beyond $25 a barrel, Kottman warned.
A similar view came from Bill Gerlach of Alphametrics, a Philadelphia economic consulting firm. “A $5-a-barrel increase won’t drive us into a recession,” he said. “Even at $27 or $28 a barrel, Saudi Arabia and the other nations can make up the difference” from the loss of Iraqi and Kuwaiti crude. But prices above $30 or $35 a barrel can bring on an economic downturn, he warned.
