Written by Steven Hansen

There is no question that falling oil prices are good for a USA style consumer driven economy. Falling oil prices put more money into the hands of the consumer – and it is appearing the consumer is now spending more in this holiday season.

Already, falling oil prices are migrating into the supply chain reducing costs of providers of non-energy products and services – and reducing the prices for consumers. So not only is the consumer benefiting from lower fuel prices, but is benefiting from some other prices. If consumers buy more, a further positive cascade migrates into the employment situation where providers of goods and services will need to hire more workers to fill the demand.

And yes, there will be a headwind to employment – as prices fall below extraction costs, less oil will be mined in the USA. But in perspective, the oil mining industry direct employment is a small, small fraction (0.2%) of USA employment. 

If oil prices stay low, then the real USA economy will be in for a sweet ride. Of course if the prices start to rise, then the benefits disappear and the USA economy slows. However it is likely relatively lower oil prices will stay for the near term but it is unreasonable to believe they will remain as low for an extended time as the global demand for oil continues to increase (and lower oil prices will increase demand). [hat tip to Yardeni for the graph below].

Economic pundits tend to look only at one dynamic, extrapolate – and predict. There are a lot of things going on under the hood of the USA economic engine. The greatest dynamic ignored dynamic is that the US dollar is a global currency – and that the USA trade borders are literally open doors. I cannot quantify this dynamic and I have heard no one who has even begun to understand.

It is known that global economies are softening, and global trade is growing softer. Global exports always equals global imports. Oil producing countries will export less, and will import less. It means that other exporting countries will export less. This is an unquantifiable dynamic.

The USA monetary base (a measure of currency and bank reserves) has declined 9% since September. 

This means monetary tightening is already underway in the USA. Try to quantify this dynamic.

Connecting of dots is what we all do – and it seems impossible to get the connected dots to accurately project the future. It seems in the near term, the USA’s economy looks strong because of the decline of oil prices. On the whole, the future is never as bad or as good as predicted.

But if you want to look at contrarian possibilities, right now the energy sector looks really bad, with sector ETFs like United States Oil ETF (NYSE:USO) and PowerShares DB Oil ETF (NYSE:DBO) both down more than 45% since June 30.  If there is a rebound in oil in the coming year these could go back toward their post recession highs seen in late 2011 and early 2012 and each of these is a possible double from here.  Of course, timing is everything – do we have a guarantee that oil will actually go up substantially in the next year?

Wishing everyone the best for 2015.

Other Economic News this Week:

The Econintersect Economic Index for December 2014 is showing our index on the high side of a tight growth range for almost a year. Although there are no warning flags in the data which is used to compile our forecast, there also is no signs that the rate of economic growth will improve. Additionally there are no warning signs in other leading indices that the economy is stalling – EXCEPT ECRI’s Weekly Leading Index which is slightly below the zero growth line.

The ECRI WLI growth index value crossed slightly into negative territory which implies the economy will not have grown six months from today.

Current ECRI WLI Growth Index

The market was expecting the weekly initial unemployment claims at 280,000 to 294,000 (consensus 290,000) vs the 280,000 reported. The more important (because of the volatility in the weekly reported claims and seasonality errors in adjusting the data) 4 week moving average moved from 298,750 (reported last week as 298,750) to 290,250. Rolling averages under 300,000 are excellent.

Weekly Initial Unemployment Claims – 4 Week Average – Seasonally Adjusted – 2011 (red line), 2012 (green line), 2013 (blue line), 2014 (orange line)

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Bankruptcies this Week: NII Holdings

Weekly Economic Release Scorecard: