Arguments that the oil price shock contributed to a US recession are continuing to create discussion, particularly James Hamilton’s paper published by the Brookings Institution. We wrote about it earlier this month, and it has since been picked up by the Atlantic, and the WSJ.
A reminder for those tempted to dismiss Hamilton’s report out of hand: he’s talking about Q4 of 2007 to Q3 of 2008. It is a matter of conjecture, he writes whether the subsequent, much steeper downturn from Q4 of 2008, would have been avoided or merely postponed if the economy had not already been in recession. He concludes: “Regardless of how we answer that question, the evidence to me is persuasive that, had there been no oil shock, we would have described the U.S. economy in 2007:Q4-2008:Q3 as growing slowly, but not in a recession.”
Hamilton uses several different macroeconomic models to chart the connection between energy prices and recession. His study shows that vehicle sales underline a link between output and gasoline prices.
In late 2007 and the first half of 2008, SUV sales fell more sharply than car sales, while import vehicle sales actually rose. This suggests a response to the rising gasoline prices, he says: when vehicle sales continued to fall in the fourth quarter of 2008 the decline was shared more evenly – “hitting cars if anything more than SUVs, and imports along with domestics.”
The result was a significant shock to the U.S. auto industry in 2008:H1, quite comparable in magnitude to what was observed in the wake of the oil shock of 1990. The contribution of motor vehicles and parts to U.S. real GDP (measured in 2000 dollars at an annual rate) was $30 billion smaller in 1991:Q1 than it had been in 1990:Q3, similar to the $34 billion decline in this sector between 2007:Q4 and 2008:Q2 (BEA Table 1.5.6). Granted, that $34 billion in 2007-08 represents a smaller share of total GDP than did the lost auto production
in 1990-91, but the most recent slump still represents a sizable number, and it would be hard to defend the claim that a recession began in 2007:Q4 had it not been for the contribution from the auto sector.
He finds some evidence that SUVs are more responsive to gasoline prices:
Of course, the first half of 2008 saw not just a big decline in automobile purchases but also a slowdown in overall consumer spending and a big drop in consumer sentiment, again very much consistent with what was observed after other historical oil shocks. Like SUV sales, consumer sentiment spiked back up dramatically in an initial response to falling gasoline prices at the end of the summer, but, like SUV sales, then plunged back down as broader
economic malaise developed in the fall of 2008.
What about other likely causes, ie housing? Hamilton points out that housing had already ‘exerted a significant drag’ on the economy prior to the oil shock, but its effect was actually slightly lower when the recession began:
Residential fixed investment subtracted an average of 0.94% from the average annual GDP growth rate over 2006:Q4-07:Q3, when the economy was not in a recession, but subtracted only 0.89% over 2007:Q4-2008:Q3, when the recession began. At a minimum it is clear that something other than housing deteriorated to turn slow growth into a recession. That something, in my mind, includes the collapse in automobile purchases, slowdown in overall consumption spending, and deteriorating consumer sentiment, in which the oil shock was indisputably a contributing factor.
He also notes a study of five large metropolitan areas that showed house prices in inner urban areas were likely to rise in 2007, while housing further from the centre of town was likely to fall.
WSJ’s Real Time Economics blog ponders whether this might reflect a way in which the credit markets themselves were responsible: cheap gasoline and cheap mortgages in the 1990s led people to move out to the suburbs; higher gasoline prices then compounded the financial pressure on those same home owners, hence higher levels of foreclosures in outer suburbs.
Are we about to find out? Oil prices are, roughly, stabilising around the $50 level in recent weeks. The IEA has argued that the fall in oil since last year represents a $1,000bn boost to oil-consuming economies.
As Jeff Rubin writes, “If triple-digit oil prices are what started the recession, then
$60 oil prices are what will end it.”
James Hamilton’s 70-page report is here (PDF), and the examination of the 2007-08 recession begins halfway through.
Was the US recession caused by the oil shock of 2008? (FT Energy Source)
Further evidence on the influence of oil on the US economy (The Oil Drum)
Can the oil shock alone explain the financial crisis? (Atlantic)
Did the oil boom of 2008 cause crisis? (WSJ)