Outside voices and views for advisers

No inflation in energy prices – yet

Consumers can cope with higher energy prices as long as they don't hit in the form of a shock

Jul 12, 2014 @ 12:01 am

By Paul Schatz

crude oil, inflation, gas prices, investing, stock market
+ Zoom
(Bloomberg News)

With the various global tensions hitting the energy market both positively and negatively, crude oil is once again front and center. Energy and, more specifically, crude oil, has an enormous impact on the world economy. From common-sense items like heating our homes and powering our cars to more derivative things like chemicals and asphalt, crude oil is a vital ingredient in the global economy.

It still seems like yesterday that the pundits confidently proclaimed oil above $40 a barrel would cause a severe recession and $75 would spell depression. That was when Iraq invaded Kuwait in 1990 and, of course, they were wrong. From its generational bottom at $10.65 in 1998, oil almost quadrupled by mid-2000 without any economic pause.

(Related: Natural gas looks to burn clean for investors for some time)

From the post-9/11 low at $17, oil once again quadrupled by 2006 to $78.40. And again, there was no economic slowdown — let alone recession, save depression. It wasn't until oil went parabolic in 2008, straight to $147, combined with the financial crisis, that this spelled doom for the economy.

What's the takeaway from this very basic and brief study of energy prices?

• As we have seen since 1990, higher oil prices do not equal higher inflation

• Runaway oil prices over a period of time don't equate to a recession

• Third and perhaps most important, in my opinion, the American consumer is very able to cope with higher energy prices as long as they occur over time and don't hit in the form of a shock.

+ Zoom

Obviously, if gas was $10 a gallon, that would severely affect the economy, but $100 oil did not stop the global economy. And I would argue that if the financial crisis was not unfolding, the economy may have paused and perhaps even mildly recessed, but it would not have collapsed solely due to oil prices.

I am often asked where I believe crude oil is headed and at what level we should worry that the economy will be adversely impacted.

First, it certainly looks like oil is headed higher, right from here. Oil traded to fresh 2014 highs last month and is now resting. Once $108 is exceeded, $115 should be next before long. That level is really the "put up or shut up" spot for energy and as a consumer, my hope is that the rally ends there. Surpassing $115 opens the door to some much higher scenarios that most of us do not want to see.

Paul Schatz is president of Heritage Capital.


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