Is It 1985-86 Again?

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Includes: BNO, DBO, DNO, DTO, DWTI, OIL, OLEM, OLO, RINF, SCO, SZO, UCO, UDN, USDU, USL, USO, UUP, UWTI
by: Scott Sumner

See if this sounds familiar. Halfway through a long expansion, industrial production levels off, after years of rapid growth. This is blamed on two factors, declining oil prices and a strong dollar. I could be describing the past year, or I could be describing 1985-86:

Notice how industrial production leveled off for a couple years, before resuming its rise:

And here is the oil price, which fell gradually in the 1982-85 period and then plunged in 1985-86:

And here is the trade-weighted dollar, which soared in value, and then plunged:

My hunch is that the dollar was more important than oil. Tight money led to a slowdown in NGDP growth and a strong dollar. NGDP growth (year over year) slowed from 12.4% in 1984 Q1, to only 4.9% 1986 Q4. Eventually the Fed eased policy, and NGDP accelerated. The 1980s boom resumed. It actually eased a bit too much in the late 1980s, which set up the 1990-91 recession.

Does this mean that history will repeat? No. But it's an interesting comparison.

PS. While writing this I forget that Caroline Baum made a similar observation in her book "Just What I Said", where she pointed out:

This isn't the first time that a change in oil prices has been regarded as a tax increase or tax cut and anointed with the ability to help or hinder economic growth. Time-trip back to early 1986, when oil prices plunged to $10 a barrel in April from $30 at the end of 1985. This was hailed as good news - a tax cut! - for consumers, which was guaranteed to boost US economic growth.

It didn't turn out that way. Following the plunge in oil prices, gross domestic product growth slipped to an anemic 1.7% in the second quarter of 1986 . . .

Ah, recall the days when 1.7% RGDP growth was anemic, not above trend.