California: Entering Inflationary Depression

Oct.29.09 | About: The United (USO)

I was surprised to see the following headline in yesterday’s Wall Street Journal: Oil Price Rise Poses Little Threat, Yet, To Economic Recovery. The piece was stitched together with many quotes from economists, saying that oil’s advance to 80.00 was not yet a problem–though it could present a problem if we went any higher.

I suppose that in a multi-year data set, and looking at the world in a rather static way, this might be true. But I thought economists at least shared the view that weak economies were more vulnerable to shocks? 80 dollar oil in the Autumn of ‘07 was a very different overlay, than 80 dollar oil right now. And besides, I’m also not sure about the Journal’s use of the phrase economic recovery. From yesterday’s article:

Estimates vary as to when oil prices become a major drag on the economy, but several economists said crude at $90 to $100 a barrel and gasoline above $3 a gallon was the edge of the danger zone. December crude futures were recently up $1.05, or 1.3%, at $79.75 a barrel on the New York Mercantile Exchange. Prices at the pump for U.S gasoline have risen over 6% in the past month to average $2.671 a gallon, according to data from the American Automobile Association. “Eighty dollars a barrel is not a showstopper,” said Brian Bethune, U.S. economist with IHS Global Insights in Washington. “We need to be at $90 to $100 a barrel before things get more serious. The problem is underlying consumption spending is not strong.”

Since my last update on California in mid October, BLS has produced fresh, state by state data on the broader (U-6) measure of unemployment. At the end of Q2, California was recording around 12.0% unemployment in the conservative measure, but had risen to 17.7% unemployment in the broader U-6 measure. BLS has just produced Q3 data, and California has now risen again, this time to 19.6% in the U-6 measure. Meanwhile, although gasoline fell yesterday on higher inventories, the lagged effect has been very much in play the past 8 weeks, and California petrol prices have made their way back now, and are very close to 3.00 dollars a gallon.

You might have seen the headline yesterday that the Bay Bridge in San Francisco had to be closed, on account of falling debris and structural concerns. A vast collection of mid-century infrastructure needs to be upgraded there and most of it is automobile related. Given that the state is broke, that office vacancies in Silicon Valley are approaching 20%, and that Central Valley unemployment is easily at depression levels, I don’t think Californians see “economic recovery.” While 5.00 dollar petrol certainly was crushing in 2008, it seems a lay up that 3.00 dollar gasoline is still quite rough under current conditions, in a state over-leveraged to the automobile. True, the United States is not California and here on the East Coast we have more choices in public transport.

One question I’ve started to ask people is whether they use the word depression, when referring to the country’s situation. And if not, why not. A lot of the recent data suggests that no sustainable recovery in housing is imminent and, that structurally, unemployment has some permanent qualities to it now, in the sense that many industries in the US are simply not going to return to credit bubble levels. Housing, Automobiles, and Finance just to name the big three. But while housing and wages are deflating, food and energy prices are about to go positive again on an annual basis.

My view is that oil in the previous era, before the peak of Non-OPEC supply, would be trading around 15-20 dollars a barrel right now in the midst of this depression. But oil can’t trade there. And it won’t trade there.

The reason is partly the situation with the US Dollar but mainly that 60% of global supply–Non-OPEC supply–cannot really produce oil anymore with prices in the teens. Non-OPEC oil, which is mostly free-market, Western oil, needs prices nearer to 50 just to maintain production, at minimum. The implications of this are not pleasant, for the United States. And in particular California, with its 32 million vehicles. Worse, the California state labor department is now reporting even uglier unemployment numbers than BLS, with the broad measure now rising to 21.9%. 80 dollar oil and nearly 22% unemployment? Feel free to use my own phrase: inflationary depression.

Further Reading: has covered California quite alot this year, with more to come.