Thursday, 13 March 2008
Somebody make it stop
The price of oil is a nightmare come true. Somebody make it stop. It cannot keep on increasing like this. The pain of filling up the petrol tank is just too much to bear. Driving into the local Tesco forecourt is just agony.
The numbers are shocking. Since the beginning of the year, the price of oil has risen from $94 to over $110, which is about a 13 percent increase in barely three months. Since the beginning of 2007, oil is up 120 percent. On February 13, 1999, the price of oil was just $9.77. Compared to that happy day, the price of oil has increased by over 1,000 percent.
An increase in the price of oil transfers resources from oil consuming countries to oil producing ones. Although the UK does produce some oil, it is on balance more of a consumer than a producer. So, the question confronting the UK is how will this resource outflow be distributed. Who is going to take the hit? Who will end up poorer by the end of the year on account of higher oil prices?
With previous oil price shocks, the UK has always answered this question in the same way. Back in 1974 and 1980 - the two last shocks - the UK went into recession and the unemployment rate increased. It was the unemployed who ended up paying for the higher oil price, while those in work largely maintained their standard of living. On average, real wages across the UK did not fall. Firms chose to fire workers rather than try to reduce labour costs.
With this most recent oil shock, which has been going on for a while, the UK has responded differently. Rather than having a recession, households increased their borrowing. Aggregate demand has remained high, and the consequences of higher oil prices has been pushed out into the future.
However, that strategy is now comng undone. Credit is tightening and the recent price hike is likely to have more immediate consequences. So hold on to your seats, the UK economy is about to dive into recession.