Here’s why high oil prices is bad for (almost) everyone
In 2021, crude oil prices are up 72% and natural gas prices are up 134% — with oil stocks and energy ETFs moving similarly. But unless you’re invested in the energy sector, you’re probably feeling the pain whether you realize it or not.
What’s happening in the oil industry?
While it’s good news for the energy industry, high prices are terrible for the economy which can lead to recessions. Just like another sales tax, high oil prices can lead to:
- Lower consumer spending (scary for investors).
- Higher inflation — which often means higher interest rates.
Here’s why that’s bad. Depending on the industry (i.e. transporting, manufacturing), high oil prices also lead to higher business costs. Higher energy prices are caused by:
- Oil exporting countries choosing to slowly increase oil production — limiting oil supply.
- In the Gulf of Mexico, gas production was shut down by Hurricane IDA, while in Asia, there is a coal shortage — which generates electricity — leading to more natural gas demand.
The transition towards clean energy is also contributing to an oil shortage and a potential upcoming cold winter could make the problem even worse.
Can high oil prices lead to a recession?
If there’s such a big shortage, why aren’t oil companies increasing oil production?
- Personal gains. High oil prices are good for profit margins, and incentives motivate oil producers to keep prices high.
- If one producer begins to raise production, others follow — driving down prices.
In the past, recessions followed periods of sharp oil price increases where energy costs reached 7% of global GDP. Currently, it’s at 5.2% of GDP — highest in almost a decade. With the higher energy prices, one analyst from Nordea Bank (via WSJ):
- Lowered his 2022 US growth estimate from 3.5% to 1.5%.
- Suggests the US could go into a brief recession if oil prices rise another 40%.
Higher prices on just oil is one thing. But the increasing oil prices are contributing to the high inflation. This is already eroding consumer purchasing power and higher prices across the board only threaten consumer spending even more.
Investors: Should you worry?
Oil price targets are all over the place — with forecasts of $100 to JPMorgan’s worst-case scenario of $190 by 2025.
According to JPMorgan’s chief economist, the current increase in energy prices “is not small, but it’s not a recession” — and the higher prices go, the worse its impacts get…