Spring is nearly here. It’s the season we’ve been anticipating for some time. Soon the snow and cold weather will just be memories. Our attention is being directed toward the annual return of beautiful flowers, basketball tournaments, and baseball training camps. This year, however, we’re also looking at the possibilities of lifestyle altering events.
As we go to press, war is looming on the horizon. The anticipation of that likely event, with its vast unknowns, is creating concerns and uneasiness. Evidence of this fact lies in the daily fluctuations in the market resulting from each new announcement related to troop movements, political support for America’s position or the lack of it, and projections of costs—both of a war and the aftermath of rebuilding.
Adding to this tenuous situation are reports that the economy is still suffering from anemia, and the timetable for its full recovery continues to be unclear. To boost the economy, information is now circulating that the Federal Reserve may soon cut interest rates again, which would put them at their lowest levels since Dwight Eisenhower was president. Such a move will have little impact; it would be dwarfed by the effects of eliminating the war uncertainty (whether we do so by going forward or not).
For several weeks, we have been experiencing the escalation of gasoline prices; they are already as high on average as they have been since May 2001. These spikes are not being caused by a shortage of oil, but by the anticipation that a shortage might occur. Unverified reports that the Iraqis are funneling explosives to their oil fields have escalated speculation that Saddam Hussein may seek to destroy his countries’ oil production infrastructure in the case of an American-led invasion.
Of course, gasoline price hikes are the most visible result of the anticipated oil shortage, but petroleum has many other purposes. It is used to heat and cool and is a part of plastics, fibers, pharmaceuticals, and many other products that we have come to rely on in our everyday lives. The longer prices stay high, the more escalation in the costs of other goods and services we can expect to see. The effect on jet fuel is also adding a nail to the coffin of major airlines.
So how big is the effect of war likely to be on oil supplies and prices? Let’s look at the possibility of the interruption of the flow of Iraqi oil more closely. There is plenty of oil in the world, and the OPEC group can easily adjust its operations to counter any loss of Iraqi oil from the market—even on a long-term basis. The US also has strategic reserves, as do many other countries; these could be accessed for near-term relief, though it is doubtful that the situation would require such actions on more than a minimal scale. Several other countries could (and would) also fill the gap.
In addition to the speculation that Iraqi oil production could be purposefully destroyed, there is the (remote) possibility of a massive embargo by oil-producing countries in sympathy with Iraq. That concept was discussed at a recent Islamic conference in Malaysia, but other that extensive rhetoric, nothing substantive resulted. Economic sense prevailed as major oil-producing countries have little desire to rupture relations with the US, the world’s largest oil consumer. In fact, they can’t afford to do so. An embargo would cripple them financially. Without the continual flow of oil money into their coffers, these nations could not achieve their long-range goals for trade and development.
Remember the supply reductions in the 1970s? Although they precipitated a global recession, they also caused acceleration in the development of new resources in the North Sea, Mexico, Canada, and elsewhere. As a result, OPEC lost ground in controlling the oil markets. With Russia, China, and others now waiting in the wings for their time on the stage, OPEC nations recognize the importance of maintaining the flow of oil.
Should anticipation about world oil supplies continue to linger and prices remain high, inflationary pressures can rise and dampen economic growth prospects. I believe, however, that regardless of the Iraqi situation, acceptable amounts of supply will be sustained and oil prices will be restored to equilibrium levels, possibly even a bit lower at first, as soon as the uncertainty ebbs. Markets are speculating about war, not looking at the basics of supply and demand.
Naturally, if we have a war, it will increase deficits (of real concern only to the degree that the resulting borrowing reduces private activity). The greatest impact of a war will be what occurs after it is over. If our nation and the “coalition of the willing” stabilize the area as promised, and political order is established, we can expect expanded trade, a less volatile energy market, and a climate more conducive to long-term investment. If we don’t, it’s not so pleasant.