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High oil prices are supposed to be bad news for economies and stockmarkets as they crimp economic activity by raising companies’ costs, which hits profits. But today, despite the fact that oil prices have doubled to record highs since mid-2003 – and are likely to keep climbing over the medium term – equities are on the up. The key US indices hit four-year highs this summer and the FTSE 100 isn’t far off doing the same.
One reason the economy “hasn’t fallen off a cliff”, as it did in previous oil spikes, is that we now use oil more efficiently, as Peter Dixon notes in The Business. Each ton of oil consumed in Britain delivers 2.7 times more economic output than it did in the early 1970s. In the UK, meanwhile, stocks have been bolstered by the heavy weighting of oil shares, which now comprise 20% of the index, while miners, also buoyed by strong commodity prices, account for another 5%. Nonetheless, that leaves three-quarters of the index that isn’t helped by higher oil prices, says The Guardian. Banks, which account for 20%, look set to face more bad loans as firms and consumers face higher prices for filling up cars or running offices; throw in the impact on logistics groups, chemicals processors and consumer goods businesses, “and you have to conclude that high oil must depress corporate growth sooner or later”.
In America, oil is already starting to crimp profits: Wal-Mart’s recent disappointing earnings report suggests that the US consumer’s resilience to higher oil prices is fading, says Edward Hadas on Breakingviews.com. And just wait until the 20% crude spike of the past two months works it way into the petrol pump.
Today’s high oil price, now (in inflation-adjusted terms) back to levels seen shortly after the record spike of the early 1980s, could finally finish off the US consumer, says Morgan Stanley’s Stephen Roach. The last two energy shocks induced the nastiest consumer-led recessions on record, and consumers are more vulnerable now than on those occasions: savings have virtually disappeared, while in the 1970s and 1980s there was still a “cushion” of money in the bank to fall back on. Since US consumers have been propping up the world economy, the “capitulation” of US consumers would hardly be good news for global growth or financial markets
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Andrew Van Sickle
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