If Oil Goes To $100…

The FT reports that Goldman Sachs (GS) and Morgan Stanley (MS) both predict that oil prices could move to $10o per barrel in 2011. Jeff Rubin, a former CIBC chief economist says: “Triple-digit oil prices are going to threaten a world recovery,” according to the paper.

A rapid rise of prices to levels above $100 would help oil companies, but would it hurt the economy much? Perhaps not.

Oil consumption is rising rapidly in the developing world, particularly in China which needs crude to fuel its huge transportation infrastructure system and energy needs of its factories. The People’s Republic may not be able to pass these costs along to consumers outside China, particularly if the global economic recovery is slow. Margins on Chinese goods may be pressured, but the nation’s exporters cannot sell what the global consumer cannot buy. And, the prices that the customer can pay, whether it is an enterprise or an individual, are already strained due to the recession.

Oil price increases almost always trigger conservation because people drive less and set their home thermostats lower. Businesses cut the amount that their employees travel to keep down air travel expenses as airlines try to increase prices to offset rising jet fuel costs. Businesses also look for alternative ways to ship the materials that they need and the products that they produce. The number of goods sent by rail instead of truck or overnight courier may increase. Companies also drop the temperature in their offices and turn out the lights at the end of the day. Each action is modest, but in total they can save a great deal

It is certain that oil companies will benefit and airlines and firms that create products which use petrochemicals will be hurt. But, the consumer and businesses have been forced to live with a new economic poverty of sorts, and that prepares them to keep their belts tight if energy prices rise.

Douglas A. McIntyre