Lower Oil Prices: What’s its Effect?

Has the drop in oil prices had a significant impact on the economy?

Despite the economic viewpoint of many financial analysts who continue to cling to the belief that the collapse of oil prices will have significant and long-lasting effects, the jury is still out on just how much impact to expect.

Goldman Sachs expects the stimulus impact on the economy to be more complicated than anticipated and believes it will depend on how long these rock bottom prices can continue and which government policies will be put into place.

"Local fuel prices have almost fully adjusted to lower crude oil prices," a representative at Goldman Sachs said last week after tracking data from 24 countries.

Despite OPEC's best efforts to curb drilling with lower prices, the U.S. energy industry has not slowed its high levels of oil production. Since November 2014, the U.S. has pumped more than nine million barrels a day and last week it produced a high of 9.32 million barrels, the highest level since the 1970’s.

The effect of the reduced prices till now have been slow and indirect and analysts are divided as to their long term impact. "Income gains of households might not necessarily translate into significant spending rises," Goldman said, while “corporate gains would likely be reflected more slowly.”

Since oil surplus bears directly on dividends, wages, and retained earnings, it may not necessarily spill over immediately to consumers via lower retail prices. According to Goldman, "The use of oil is also quite diverse, entailing transportation, feedstock, and energy and a significant part of final goods are exported, with any spillover of windfalls going overseas."

Slow Impact

Indeed, households in the U.S. don't appear to be spending the oil bounty just yet. Real disposable income in the U.S. rose by 0.5 percent a month in both November and December, but "these extra funds, however, have not made it into the cash registers in the shopping malls or the bars and restaurants on Main Street," Paul Dales, an economist at Capital Economics, said.

Instead of spending their windfall, families are saving and although households bought 6 percent more gasoline in January than a year-earlier, they spent $120 billion less doing it. At the same time, the savings rate in January rose to a two-year high of 5.5 percent.

On a global level, according to Capital Economics, economic recovery may be uneven with euro zone consumers taking advantage of the improvement, but Japanese households not. On the other hand, as the cost of motor fuel in major developed economies continues to drop beyond its current 30 percent, consumers in the four largest advanced economies could see around $250 billion get freed up annually to spend elsewhere.

Cina Coren
Cina Coren is a former Wall Street broker and financial advisor. She holds a Master's degree in Communications and spent many years writing for international news outlets and journalistic publications. Today, Cina spends most of her time writing internet articles and blogs, and reading various newspapers to stay on top of the news.