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Economy And Oil

Summary

OPEC (Organization of the Petroleum Exporting Countries) has made it clear that it has no intention of reducing oil production any time soon.

Lower Oil Prices Don’t Translate Into More Consumer Spending.

In the short-term, market observers agree that this decline in oil prices won’t propel countries around the globe to go into recession.

Oil prices have declined more than they've risen over the past few months, leaving many to wonder when and where is the bottom. As oil prices have declined, observers are warning that the potential negative impact on the global economy could be significant.

Since its peak in June 2014, the price of brent crude has fallen almost 60%. Back then, the price touched $115 a barrel. At Wednesday's market close, crude's price was $48.13, which was an increase of almost 5% over the previous session. That number was significant because it was the largest increase in more than two and a half years. Now the question becomes, "have we seen the bottom," in terms of the falling prices.

What's Behind the Decline?

There are three main drivers behind the fall in oil prices. First, OPEC (Organization of the Petroleum Exporting Countries) has made it clear that it has no intention of reducing oil production any time soon. It is relying on oil prices stabilizing within the next two to three years as demand picks up. Next, is weak global demand stemming from the stalled economic recovery still affecting many countries, especially Asia and Europe. Last is the United States, which has propelled its self to be the largest oil producer in the world due to its surge in shale gas production. All of these factors have caused an oversupply issue in the global markets.

Lower Oil Prices Don't Translate Into More Consumer Spending

It's understandable that consumers could see these declines in oil prices as positively affecting them. A train of thought is that if they spend less at the pump to fuel their autos, they will have more money for discretionary spending. Considering consumer spending accounts for more than two-thirds of the U.S. economy, every extra dime they can spare on more spending seems like it would be a boon for the economy.

However, I say, "not so fast." Consumers may be spending less on gas, but that doesn't necessarily translate to them spending more, especially on discretionary and big ticket items. Remember, gas prices had begun to fall significantly last summer, yet the latest retail spending numbers released on Wednesday don't reflect a significant increase in spending.

In fact, just the opposite seems to have happened. Numbers released this week show that U.S. retail sales for the month of December were much worse than anticipated. According to the Commerce Department, retail sales fell .9%, which was the biggest decline in 11 months.

The Biggest Loser

One of the fastest growing U.S. industries and the country's number one job producer since the recession is domestic drilling for oil and natural gas, according to the New York Post. If the industry is reaping fewer dollars because of declining oil prices, the overall job market and economy could suffer.

Chris Melillo, a managing partner for Dallas-based Kaye/Bassman's Energy and Oil &Gas practice, pointed out how the job market could be affected. He noted that oil and gas companies may have to start laying off people due to declining oil prices, and that could have a ripple effect on the economy.

He also pointed out the significant wages that those in the industry earn, which allows them to make big ticket purchases, like houses and automobiles, that help spur the economy.

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Is a Recession Inevitable?

In the short-term, market observers agree that this decline in oil prices won't propel countries around the globe to go into recession. However, many can't help but to have flashbacks to the end of 2008, the height of the financial crisis, when crude's rice fell into the $30s a barrel and the U.S. and Europe went into recession.

However, I think this situation with falling oil prices is different in terms of the economic impact. The 2008 recession and oil price drop had more to do with demand; there was less of it. Now, as I mentioned above, it is more of a supply issue; too much of it.

The market will continue to see wild fluctuations in the face of unstable oil prices. Investors will continue to flee stocks in the sectors that are affected the most. Whether we've seen the bottom is anyone's guess. What is clear is that as the largest oil producer, much of the onus, in terms of policy over importing and exporting oil, lies with the U.S.

I think the World Bank's chief economist, Kaushik Basu, summed it up best.

"The global economy is running on a single engine ... the American one," he said. "This does not make for a rosy outlook for the world."

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it. The author has no business relationship with any company whose stock is mentioned in this article.