What happened in the 1970's? A period I lived through as an adult, came of age during the first oil crisis of 1973.

The price of gasoline doubled (this was during a period we (America) were still producing over 2/3rds of our own oil)

The inflation rate went to double digits thru the rest of the 70’s from 1974 thru 1980.

I still drive to get every mile out of every drop of gasoline. I tell people buy only gold (or silver , I’ve come around), always have new tires on your car (for the time being).

Oh and most important!! Get a Bicycle, or two! you'll need them!!

Good question, Eli, because this is very topical. High prices today, unlike after the supply shocks in the 1970s, are definitely from higher demand for crude on the back of expanding economies, especially in Chindia and the rest of Asia and the developing world.

This insulates the price of oil from a slow-down or recession to be sure. There will be demand destruction at the margins from a slow-down, but transport fuel demand is rather inelastic in the short to medium term, and worldwide base demand is higher than it was in, say, 1999-2001 when we saw commodity prices, including oil, trough.

The Economic Effects of Oil Price Shocks

The core of world economies are using more oil because their economies have grown in absolute size, plus there are another 700 million people in the world since then, and no matter how low their consumption per person is, it is never going to be negative.

The IEA sees +2.2% p.a. increase in demand through 2012. They expect production to increase by just +1% over this period. Demand outstripping supply I believe spells higher real prices.


Source: Eric Kraus, Anyatta Capital, advisor to the:
Nikitsky Russia/CIS Opportunities Fund
August 2nd, 2007

Also, as you mentioned, oil companies are having to spend more in exploration, drilling, extraction, transport, refining and distribution, but they are finding less oil to replace reserves. Meanwhile, energy nationalization has put more reserves out of the multi's reach. You can argue about it all you want, but anecdotally I think it is fair to say that public companies are more transparent and efficient than NOCs. I compare a Lukoil, say, to a Gazprom, or ExxonMobil to Saudi Aramco, for example.

So with the cost of building refineries having doubled since 2002, and it being increasingly hard to find new reserves, the oil companies have been using surplus cash to do share buybacks and to pay dividends to shareholders rather than plough that money back into exploration and development.

That itself is a signal that they think the risks outweigh the benefits. That also has to lower future potential supply growth, unless the oil juniors pick-up the slack left by retiring oil majors.

To answer your question directly I think that a US recession would affect nominal oil prices, but real prices will hold-up as demand outstrips supply. So relative to wage growth, or lack of it, oil will not get cheaper. Its nominal price will depend on the value of the US dollar as well. A weaker US dollar will result in higher nominal prices as expressed in dollars. However, even then I would expect the price of oil to remain quite stable as measured in euros or a backet of other currencies.


Source: Aug. 1 (Bloomberg)

And given long-lead times you cannot expect that interruptions caused by uncertainty and/or a recession can quickly be corrected. Even with solid growth of 4-5% p.a. in the global economy over the past decade, quite stable, most of the supply increase came from using up existing spare capacity and not from new investment. Now that spare capacity is gone, due to higher global growth, so future supply growth can only come through the drill bit.

Of course, the world is still far too energy inefficient as the latest study from McKinsey shows. Not only do some countries still subsidize energy consumption, thereby encouraging more demand and inhibiting a shift to lower, more efficient energy use, but even in many countries that do not specifically subsidize energy use they still skew demand to automobiles, for example, by using public money to build more expressways and over-passes.


Source: gasoline prices around the world


Heavy trucks that use lots of diesel compared to railways are not charged the true costs of road repair from heavy loads, and truckers themselves resist using extra axles to spread the load due to higher fuel prices. One can argue that if you are going to subsidize, you should subsidize rail transport that is more efficient in the long-run. Of course, a recession would cut freight demand, and therefore transport fuel demand in the USA, but do little to change the situation for the good in the long-run.

Source: Global energy supplies tighten


However, the other side of the equation is that oil companies are getting hit on the cost side from higher prices for all their equipment and manpower shortages for critical engineering and project management expertise. While higher energy costs are pushing up the costs of mining itself. A vicious circle.

Given that it is hard for oil cos. to increase their reserves, cheaply in any case, and their cost pressures are rising, their profitability and therefore their share prices, depend on being able to pass those costs along to end consumers. In a recession, perhaps harder to do.

Also, OPEC has been squeezing European refiners this summer, driving their margins negative. Hard to believe given record high prices and strong demand, but a reality. The price maker will want their pound of flesh as well. On the otherhand, if they are making money, they can afford to pay for the expertise being offered by junior oil companies, drillers and other oil service cos.

So you have to take a bottom up as well as a top down sectoral approach when choosing how to position higher oil prices, but the threat of a regional slow-down. Just as an example, Baker Hughes got hit because of falling nat gas rig demand in N. America, while Haliburton's share price has also under-performed its peers. Schlumberger has outperformed both due to its mix of assets and geographical reach. So each company on its own fundamentals and at the right price.

Here is a chart for you. This is the data for unleaded gas consumption. Since January of 1971 the economy has contracted during 15 quarters (out of 144 quarters total that's about 11% of the time). The Conference Board, who used to decide such things, has grouped these into five or six recessionary events.

I looked at the gasoline products supplied (fuel consumption) by month during whatever quarter that was, compared to the equivalent month in the previous year. The idea is, if the economy contracts by X amount, how much will gasoline consumption change, if any.

So the columns above are: month, unleaded consumption, GDP change for that quarter, and average change in fuel consumption versus the previous year.

First of all, you can see that it has to be a pretty big recession in excess of 2%, in order for the fuel consumption to change at all. The rather wimpy recession in 2000-2001 did not result in a decline in fuel. The 1990 Gulf War I recession, accompanied by temporarily high pricing for fuel, did result in a decline.

Secondly, the recession has to last quite awhile in order for the fuel consumption to start to decrease. Example: During the period between July of 1973 and March of 1975, the economy was in recession for five of those 7 quarters. But it took until December 1973 until the fuel consumption actually started to decline. Recovery was a lot speedier, however, and in fact, the increase in fuel consumption actually picked up in January of 1975, so maybe it was a foreshadowing of the recovery that began a few months later. Also keep in mind that some of these occurrences lasted more than a year, so maybe in this case, it was a matter of things just not getting any worse.

There are also some historical perturbations that might have affected the data. The CAFE fuel efficiency standards went into effect in 1975, and so were starting to have a real effect for the 1980-81 recession period, and also, the 55 mph national speed limit was enacted in February 1974, which undoubtedly made the decline in fuel consumption for the recession period in 1974 and 1975 lower than it otherwise would have been.

Also, this does not really say anything about pricing during these periods.

So, based on this, I think the argument can be made that unless the economic contraction is severe and long, it will not even show up in fuel consumption, and even in the above cases where there were severe recessions, there were other factors that contributed heavily to the decline in fuel consumption, so I am ready to say that if there is, for example, a 5% economic decline, it is really questionable whether the decrease in fuel consumption will be more than 2 or 3%, no matter how high the price goes.

The data sources on this were: the EIA and the US Bureau of Economic Statistics.

Please excuse the annoying double post, but there is one more thing:

People are throwing around the "R" word quite a bit, I think not appreciating how much of a pain in the neck one of these things is. The recession of 1980-81 which was a decline of 5% or so, ran the unemployment rate up over 15% in some areas. That's one in seven or eight out of work, and that was when the unemployment numbers were more or less honestly derived.

Except for one quarter in 1958, We have not seen a 10% economic contraction since the 1930's, and I can assure you, we are in no way prepared, from a societal standpoint, for 25% unemployment in the event that this happens.

Also, not to put too fine a point on it, there are some segments of the population that are 10% unemployed right now, using officially reported pumped up data, and a nominally growing economy. We all know who they are. So, certain segments of the population could very well end up with 50% plus unemployment, and we do not want to think about what would happen to parts of our inner cities if this is the case.

Thanks Pup55. Excellent data and post. Supports the entry in Trader's Corner today on 'The Econonic Effects of Energy Price Shocks'.

Parts of Paris' outer rings (as opposed to inner cities) also have youth unemployment approaching 25%, and even though France's social programmes are much more generous than in the USA, they also suffer from outbursts of rioting, car burning and other forms of mass protest.

The politics of exclusion go beyond just the economics of unemployment. But being jobless certainly does not help the situation.

I don't think historical data is useful here because oil consumption is now a global phenomenon. There would have to be a global recession/depression to bring down the price. Regional recessions just mean more oil for somebody else so they shouldn't bring down the price much if at all especially with oil diminishing.

It might be just the opposite of what you think. In many situations,
if a particular thing is hot and in high growth method, then only
a small negative occurs, the bottom drops out. A present example,
the US housing market. Or the dot com bubble or way back,
tulip mania. In each case, a small external change results in
really large declines.

In other words, if we have a small world recession, China's
oil consumption might drop a lot.

Peter Schiff seems to think that the price of oil will drop for places like China and India during a severe global recession as it continues to increase for Americans related to the fall of the dollar.

This drop in price would cause an increase in consumption.

I posted his interview yesterday in the open forum.

There is a thread about the possibility of an US recession like in the 1930ths, which would mean a worldwide recession.
How likely is this going to happen? One article said that the expected recession will occur within 6 month.
How would be the influence on the oil depletion of a really deep recession or one like in the 70th , 2000? the price of crude is easing yet.

Past recessions (1990, 1998, and 2001) as you can see have only led to flat production or a small short drop in production but things are flat already. If we have a sharp recession then it could reduce market tightness for perhaps just 1-2 or 3 at most years - by then it's likely the geological decline woul be setting in, rising the price sharply. So a recession won't do much, in fact it will likely be the last recession we ever have.

Or we could have a series of recessions and upswings with each recession a little tighter than before as our energy supplies dwindle.

To quote Heinberg in End of Suburbia: "Each recession will be worse than the previous one and people will ask why this is. This will happen until the recession turns into an economic depression."

http://www.peakoil.com/fortopic31163.html+effects

We discussed the US effects in this thread. The "global effects" might or might not be similar.

Currently, the US is consuming about 1/4 of the world's energy.

In the recessionary period between 1979 and 1982, there were a couple of other things going on at the time: big increase in interest rates (choking off the economy) and also implementation of fuel efficiency standards in the US. If you would have just had the recession rather than the other two things, there is some question in my mind as to whether there would have been as big of a decline.

Even though the sky is falling, the stock traders are panicking, the banks are closing down, etc. as of last week, the US fuel consumption was still up over last year at the same time.

There is a difference this time. Past recessions have always had the luxury of abundant energy with which to pull ourselves back to growth. Not this time.

If TPTB allow the US to slide into recession, given our high level of debt and the ubiquitous nature of the dollar, a worldwide depression will inevitably follow.

Central banks the world over will do everything in their power to avoid even the hint of recession. Seems they’ve all taken the lead from Greenspan/Bernanke; print more dollars (yen, pound, rubles, etc.) and lower interest rates. We ani’t seen notin’ yet.

The economy is being managed to the best of their ability. Like the small boy trying hold back the sea with a finger, eventually the sea wins. When it washes over us, not even the rich will survive.

this is a great point. i suspect that future decline economists will gain a whole lot of insight on the real fundamentals of the old expansion economy by witnessing what dynamics changed or even inverted in the new paradigm. too little too late, however.

economists divorce their analysis of "cyclical" business patterns from significant underlying causes of those cycles. they have been able to assume, for instance, this relative wealth of resources that automatically accumulates in recessionary periods. but they will make an ass out of u and me after peak.

i have heard theories that without the plague there would have been no renaissance. all of those people dying freed up enough wealth for the pace of toil to ease a bit.