Record Energy Prices Have Ripple Effect
Oil's run to nearly $100 a barrel this year jacked up the cost of travel, clothing, beauty products and milk, and many analysts think fuel prices will remain at historically lofty levels throughout 2008.
But record energy prices could sow the seeds of their own destruction. Along with the housing crisis, they are contributing to an economic slowdown that is sapping the country's energy appetite just as oil producers ramp up production.
"The cure for high prices is more high prices," said Tim Evans, an analyst at Citigroup Inc., in New York.
That doesn't mean oil will plummet - unless there's a severe recession, said Evans, who expects prices to hover near $70 a barrel. In the face of such forecasts, OPEC could decide to cut production, as it did last year, to keep prices from falling too low.
Other factors will also keep a relatively high floor underneath prices. Demand is expanding in China, India and the Middle East. And political upheaval in oil-producing countries such as Iran, Iraq and Nigeria has sparked worries about possible supply disruptions. These concerns have prompted banks and hedge funds to make big bets on oil - investments that put further upward pressure on prices.
Several analysts have boosted their average oil price forecasts for 2008: $75 a barrel is a common prediction. And many expect tight domestic refining capacity to push gasoline prices higher in the spring, possibly threatening last May's record of $3.227 a gallon.
But there are already signs that the gargantuan 6-year, 270 percent run-up in crude prices is having an impact on consumers and businesses, and that could curb growth in demand.
"I am being a little bit more judicious about where we go and when we go," said Frank Ban, of Bensalem, Pa., as he loaded his Chrysler at a Philadelphia area Wal-Mart one recent morning. "If I cut back on my heating use any more, my pipes would freeze."
A typical family spends 3.8 percent of its income fueling a single vehicle, up from 1.9 percent in 2002, according to the Oil Price Information Service. That's not a huge percentage, but combined with increases in prices of other energy-dependent goods and services, a family's income takes some significant hits.
Indeed, prices of consumer goods such as meat and milk are also higher these days, in part due to skyrocketing energy costs that are taxing American farmers. The cost of corn, used to feed cattle, is rising due to demand from the ethanol industry. Transportation costs are rising, as is the cost of plastic bottles and rubber tires, which are made from crude.
"Oh, yeah, you see that in groceries," Ban said.
At many companies, particularly in the transportation sector, programs to offset high energy prices have gone from side project to central business strategy.
In addition to raising fares, AMR Corp., the parent of American Airlines, is using tractors to tow aircraft from gates to hangers, rather then relying on the planes' own engines, as a way to cut down on jet-fuel consumption.
Nagle Cos., a Walbridge, Ohio-based trucking company, has renegotiated financing with lenders to free up cash and keep its 70 rigs rolling as diesel price soar, said CEO Ed Nagle.
Just Born, a candy maker in Bethlehem, Pa., is raising prices of its Peeps, Hot Tamales and Teenee Beanees to compensate for rising energy costs. Just Born is also working to ensure machines in its plants are running at their most efficient levels and encouraging employees to turn machines and lights off when they're not in use.
The rising cost of petrochemicals, as well as of shipping, - is driving up the price of all kinds of consumer goods. For example, lipstick and other makeup derived from oil are up 7 percent in price over the past 12 months, according to Marshal Cohen, chief analyst at NPD Group in New York. Clothing prices have risen 3 to 5 percent over the same period, Cohen said, with synthetic-based apparel rising fastest.
Manufacturers have found that small changes can lead to big energy savings.
Gary Jones, director of environmental, health and safety at the Printing Industries of America, said commercial printers are pinching pennies by shutting off compressed air machines when not in use, installing motion-sensors for lights and turning computers off at night.
There are many signs oil-demand growth is falling.
The International Energy Agency recently slashed its 2008 forecasts, saying global oil demand will rise by 2.3 percent in 2008 to 87.7 million barrels a day, down from previous estimates of a 2.5 percent increase to 88.2 million barrels a day. And BP PLC says oil consumption has grown at steadily lower rates over the past three years, falling to a growth rate of 0.7 percent in 2007, well below historical averages.
Oil prices have fallen 11 percent since peaking at $99.29 a barrel on Nov. 21, in part because the Organization of Petroleum Exporting Countries has boosted output. The cartel raised production quotas by 500,000 barrels a day on Nov. 1. Some members are producing above their quotas, either to cash in on high prices or, in the case of Saudi Arabia, to help bring prices down enough to keep the global economy on track.
Oil companies have benefited immensely from high prices. But profit growth is slowing because refining margins (the difference between what companies pay for the oil they refine and are paid for the products they sell) - are falling. The rise in oil prices this year has outpaced increases in gasoline and diesel prices.
While soaring energy prices are squeezing U.S. economic growth, their impact has been blunted by efficiency gains.
Lester Lave, professor of economics at Carnegie Mellon University's Tepper School of Business, notes that since the oil shock of the early 1980s, America has halved its energy use per unit of gross domestic product. The economy is less dependent on manufacturing, and car, plane and truck engine technology has improved, letting consumers and businesses get further on less fuel. Efficiency has also been gained in areas such as home heating.
"We've become a much more energy-efficient economy than we were in the past," Lave said.
Overall spending on energy stands at about 5.7 percent of after-tax income, according to Standard & Poor's, well below the all-time high of 7.9 percent, set in 1981.
"This is why $100 crude oil isn't causing an economic meltdown," said Daniel Lippe, principal and consultant at Petral Worldwide Inc. in Houston.