As oil prices began their long slide in the summer of 2014, we were among many market observers that predicted a boost in consumer spending from cheaper gasoline, improved margins from energy dependent industries (such as airlines), and an overall boost to U.S. GDP as a net consumer of energy. More than a year later we have yet to see convincing evidence that the more than 50% decline in oil prices has delivered the expected results. Where did we go wrong?
Conventional economic wisdom held that a 10% decline in oil prices would translate to about a 0.2% rise in U.S. real GDP after one year. This was based on a number of independent studies conducted during the last decade. However, most of those studies were conducted before the explosive growth of hydrofracturing in the U.S., which has roughly doubled U.S. oil production in the last five years to about 9 million barrels per day.
While the huge growth in domestic supply has greatly reduced our dependence on foreign oil, it has made parts of our economy more vulnerable to sharp declines in the price of the commodity. Indeed, those states with the highest exposure to oil production as a percent of GDP (North Dakota, Arkansas, and Wyoming) saw sharp declines in payrolls as oil prices continued to fall, while the states that are the largest net consumers of energy (Maine, Hawaii, and South Carolina) saw uninterrupted job growth. As a result, the net impact on the U.S. economy is more muted than it once was. According to a recent Goldman Sachs study, the net annual import of oil has dropped from about 15 barrels per person in 2005 to about 5 barrels per person today.
What about the consumer? Gasoline prices have fallen more than $1 per gallon since April 2014, and economists have estimated that this decline would add about $1,000 to each U.S. family’s disposable income per year. While consumer spending has remained relatively strong over the past year, it has not delivered the lift that some economists had predicted. One theory held that consumers needed to be convinced that cheaper gas was not just a temporary dip before increasing their spending. However, with the decline more than a year old, it would seem that consumers would be more confident now in the stability of lower prices.
A recent report from the JPMorgan Chase Institute identified another unexpected change in consumer behavior from the decline in gas prices. Instead of using the savings from lower gas prices to spend on other necessities, consumers used about half of the savings to buy more gas. In addition, they also traded up to higher grades of gasoline!
Although expectations about the benefits of lower energy prices on the U.S. economy appear to have been overly optimistic, we continue to believe that cheap energy represents a tailwind for U.S. economic growth. It may just be that the full effects are a little later in coming.
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