NEW YORK: The collapse in the price of oil is a huge source of anxiety for many financial market participants. I suppose that’s understandable.
Investors have been very excited for the past several years about the promise of tight oil, which is extracted by hydraulic fracturing, or fracking, of rock formations where oil is present. This was a powerful, simple, story that asset managers and the financial media could understand, since oil is something that almost everyone uses.
The fracking boom lured trillions of dollars in investment, and domestic oil output soared, pushing the US close to energy independence and lowering demand for imports from big crude producers. With the recent dive in oil prices that all seems like ancient history now:
The price plunge will wipe out many small companies involved in fracking, as well as plenty of others in oil services. It will cause many high-yield bonds to go into default. It will generate big losses at major energy companies, and will lead to job losses throughout the industry.
In the short term, a negative shock to the world economy and the financial markets will probably be the main effect of the oil collapse.
But only in the short term. Most US industries are consumers of oil and other fossil fuels, not producers. The US is less of a net energy importer than it used to be, but it still consumes more fossil fuel than it produces. The fall in oil prices means that trucking companies are going to be able to buy less expensive gas for their fleets.
Construction companies will be able to build office towers and houses more cheaply. Farmers will spend less to plant and harvest their crops. Intel won’t have to pay as much to run its microchip plants, nor Boeing to run its aircraft factories.
It will take time for investment to shift to all the industries that will benefit from lower energy prices — but not too much time. The initial shock from the oil collapse might be negative, but it will be outweighed by the positive effects before too long. In other words, most Americans should be celebrating the oil drop, not lamenting it.
The real danger isn’t the decline in oil prices, but the thing that caused most of the decline in the first place: China. The dramatic slowing of China, which has become the workshop of the world, is behind much of oil’s latest fall. The slow unwinding of a property bubble, with its attendant debt crisis, will probably continue to exert a major drag on Chinese growth during the next few years.
Bloomberg-The Washington Post Service
Published in Dawn, January 17th, 2016