The abiding concept in real world economics is that “there is no free lunch.” Most things that are considered good or bad in economics are actually collections of benefits and costs.
When the benefits outweigh the costs, it’s generally considered a good thing — but that judgment doesn’t make the costs go away. In economics some people can still get hurt by a good thing. It is, after all, “the dismal science.”
The sharp drop in the price of oil is a good thing for American consumer, but that’s not the end of the story. Some people are going to get hurt by the price decline.
It’s a big economy, and the diverse effects of the price drop tell us a lot about the differences between looking at the total and looking at the pieces that make up the total. There are behavior and structural differences between “some of us” and “all of us.”
That is the essential difference between microeconomics (“micro”), which looks at the economic behavior of individuals and businesses, and macroeconomics (“macro”) which looks at the economy as a whole.
For economic theorists, finding and explaining the link between “micro” and “macro” economics has become a sort of Holy Grail. There have been brilliant, worthy, and determined efforts to do this, but so far all have been unsatisfying to some degree.
The result is that in a situation like the rapid and substantial oil price decline, which is so pervasive in our economy, many economists are cautious about just how positive the impact on the U.S. economy will be.
There is no doubt that on the positive side, the biggest, most immediate impact will be on consumers’ discretionary income. After the bills are paid each week and each month, individuals and households will find more left over — because it costs less to drive to work and take the kids to school or soccer.
What consumers will do with that extra money, though, isn’t clear at this point. There has been a lot of talk, and printed talk, that the decline in oil prices will slow down the sales growth of hybrid and electric cars. But purchasing a car is a major outlay of money and a long-term decision. Right now, most households have barely seen any short-term effects of the oil price decline in their pocketbooks and it might be a while before they rush out to buy a gas guzzler.
What is not known, either, is how much of this unexpected windfall — after Christmas spending — they will spend and how much they will save. If they spend all or most of it, this will give an upward boost to consumer prices, increasing the likelihood that the Federal Reserve will increase interest rates.
The producers and sellers of consumer goods will face a “what’s not to love” situation with both higher sales volume and higher prices. Meanwhile, though, we will hear the lonely saxophone notes of the blues coming from oil production companies and the related industry businesses that provide the exploration and drilling equipment and services.
The oil industry’s income and profits will decline sharply even if, as is likely, drivers buy more gasoline. As producers adjust they are likely to reduce both their employment levels and their investment in expanding production.
Oil producers are mostly large, well-capitalized oligopolies that are used to long-range investment decisions, and it isn’t clear just how long-term this price decline will turn out to be. There is little doubt, though, that in the short-term there will be significant job losses in the oil production industry. This will be particularly damaging to the economy since the energy sector has been a major source of well-paying jobs — sorely needed during this sleepy recovery.
Before economists get too confident about their forecasts, though, they should remember that the effects of the price decline on some foreign economies, especially those dependent on oil export revenues, are likely to be more profound — perhaps enough to shape our future along with theirs.
A sudden collapse in export revenue is not likely to be an additional stabilizing influence on the Middle East, for example. And the decline in revenue will also have a disastrous effect on Russia’s already ailing economy, with an unpredictable effect on Vladimir Putin’s ambitions and actions. In our own hemisphere, Venezuela, in particular, will be hard hit by this price decline but it is difficult to predict what direction that will push the country.
As it plays out in our economy the sharp decline in oil prices will have effects on individuals and individual companies — mostly positive but some significantly negative as well. On balance, we should take the advice of the song and “Accentuate the positive.”
James McCusker is a Bothell economist, educator and consultant. He also writes a column for the monthly Herald Business Journal.
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