Why $200 Oil Is Good for US Markets

by: Steven Hansen August 24, 2008 | about stocks: DBO / OIL / USO    

Steven Hansen

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Goldman Sachs last week stuck with its oil price prediction of $147 per barrel by the end of 2008. I pray for oil at $200.

$200 oil with its knock-on effects would drive the CPI up at least 20% initially from today’s levels, and would place the world into a recession bordering on depression. It would cause major upheavals in the financial markets. The Fed would be close to powerless to soften the impact of the impacts of this high oil price. There would be blood on the streets and it may be a good thing.

“For all practical purposes we are at currently at war.”

This was a quote from the Tom Clancy book, Debt of Honor. The USA has been at war for some time but few recognized it as war. Terrorism was not the real enemy – economics was. America is under attack from:

  1. The US government leaders with ever mounting debt servicing due to inefficiencies, lack of fiscal restraint, and using weapons which spill blood and cost a lot of money to fight wars;
  2. Certain trading partners who believe trade is a one way street;
  3. Europe with the Euro;
  4. Commodity rich countries; and
  5. US residents credit lifestyle and search for the fast and easy buck.

The US Economy is in Bad Shape

Within the last year, trillions of dollars of real and imagined wealth was destroyed. It is tough going now as this debt has damaged the US economic engine. It will take many years to work off the losses and recapitalize. Additional losses will continue to unfold as the dominos of the housing and commercial properties markets continue to fall. The government will be short revenue from tax base deterioration and this will exasperate the government debt.

The Differences between the Great Depression and Now

The Fed. The Fed today has mitigated the potential over reaction to the sub-prime mortgage crisis, and the ensuing credit crisis which will be unfolding for years to come. During the Great Depression, the government and the Fed stood around and let the market forces destroy the economy.

We are currently in the Great Indescribable. It is indescribable because there are issues of inflation, deflation, unemployment, debasement, expansion, contraction…… For sure there is a lot of bad debt and over valuation which cannot be absorbed in the short term. The Fed will continue to fight to ease the damage being done. It is defending economic valuations which will not be sustainable for years to come. The very effort of trying to create a soft landing may be working against a smooth recovery. Politically they have no choice, unless an event occurs which even the Fed is powerless to mitigate.

A Major Event to the Rescue - $200 Oil

Without a major event, it will take decades to work out the effects of the Great Indescribable. The Great Depression needed the Second World War to terminate its grip on the economy. The massive R & D and economic priming necessary during and shortly following this war supercharged the US economic engine while the rest of the world was in ruins.

$200 oil would hurt the US economy, but would destroy the economy of pretty much everyone else other than an oil exporting country, China and India. The situation in the US would be very bad for many years, but when viewed twenty years from today we would see:

  • Quantitative analysis of shipping costs favored local manufacturing. Mini factories were built all across the US. The cost of labor became a very small percentage of the retail price of industrial and consumer goods.
  • Massive R&D into alternative energy favored US technology base. New technologies will be born in the USA and exported.
  • Politically, there would have been no way to lessen the USA dependence on oil unless oil until it became so expensive that the middle class could not afford to drive their cars or heat their houses or watch TV.
  • This massive R&D investment, subsequent retooling, and then manufacturing & construction of non-oil using cars and power generation installations revitalized the economic engine.
  • The Treasury and the Fed were far more important than the Departments of Defense and Homeland Security. The US can only be safe if it is strong economically. All wars are economic.
  • It forced the US markets valuations to contract to a level that long term and sustainable growth could be achieved.
  • There were several constitutional amendments which included the line item veto to get the budgeting process under control, and political campaign regulations which outlawed any fundraising or political action groups.

In the long run $200 oil may be a very good thing.

Disclosure: It seems I will not be running for any political office after writing this article.

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This article has 26 comments:

  •  
    Aug 24 08:44 AM
    drill here drill now!
    Reply | Link to Comment
  •  
    Aug 24 08:59 AM
    Under the bold heading "The US Economy is in bad shape" you claim that the government will be short revenue and that this will "exasperate" government debt.

    "Exasperate" is defined as to excite the anger of, to cause irritation or annoyance. An obsolete definition is to make more grievous.

    Perhaps you meant to say "exacerbate" - to make more severe.

    I do not disagree with your conclusions, although I find them a bit extreme.
    Reply | Link to Comment
  •  
    Aug 24 12:15 PM
    I agree with many of your conclusions. The US government has been taken over by spendthrift politicians, who have allowed and encouraged incompetent and corrupt administrators to perpetuate the status quo. Every large US agency, rather than trying to cut costs, lobbies for more money and more employees.
    Reply | Link to Comment
  •  
    Aug 24 03:42 PM
    $200 will probably be the only thing that will prod the government and citizens of the US to understand the danger of worldwide oil supply not keeping up with worldwide oil demand. The only solution is a strategic, long-term, comprehensive energy policy:

    thefitzman.blogspot.co...

    apparently, $145/barrel and $4.50/gallon gasoline was not enough of a kick-in-the-ass. perhaps $200 will do it...but i won't hold my breath.
    Reply | Link to Comment
  •  
    Aug 24 11:57 PM
    Very interesting article; however, a correction needs to be made regarding this old myth, masquerading as conventional wisdom (who did *not* learn this as fact in school?):

    "The Great Depression needed the Second World War to terminate its grip on the economy."

    Conclusively disproven back in '92 by Robert Higgs - journal article here:

    www.independent.org/pu...

    Just an old wive's tale. Aside from that, though for somewhat different reasons, I agree that $200/bl oil would be a good thing.
    Reply | Link to Comment
  •  
    Aug 25 06:20 AM
    <$80 oil will empower free economies and weaken grip of the world's trouble makers.
    Reply | Link to Comment
  •  
    Aug 25 07:18 AM
    I agree with your basic premise, but I think that oil hitting $147 recently did the trick. My gauge for this is looking at the liberal editorial boards of both the LA Times and the Washington Post- both have run pro offshore drilling editorials recently. We are going to drill because the people want to drill and most importantly that is where the focus is.

    The biggest pain point for politicians is drilling here in the US, and they will respond to that pain. And they are, esp the Dems.

    Another way to get a sense of change is looking at the US auto industry- I saw an ad for a Mercury Mariner SUV on TV- a hybrid that gets 34 miles to the gallon for $229 a month. That is mainstream and right now. And the other plug in stuff is coming to market for consumers very shortly, as is fuel cell. Honda is now running an ad promoting their car.

    There is also a shift among consumers to move from Oil heat to Nat Gas. If you go to Boston.com you will see an article on this that discusses the rapid increase in conversions.

    All these things cited above are not long term policy things with knowns or unknowns- they are examples of clear consumer behavior. Which is probably the most powerful force on earth, other than gravity and the associated laws of physics.
    Reply | Link to Comment
  •  
    Aug 25 07:42 AM
    $30 would be alot better for all.
    Reply | Link to Comment
  •  
    Aug 25 08:14 AM
    the last wallet-hitting opportunity from seven systers before a $ 20 / bbl world again with real interest rates @ 12% as needs to be in a serious country. Goldman Sachs short term trade will be good for their call options: with only 50 million dollars you can temporarily control 600 million dollar in comex contracts and set any copper price. But fundamentals are not very bullish for oil, thats why the patetic black sea episode is over. Good sailing....
    Reply | Link to Comment
  •  
    Aug 25 08:20 AM
    You can't drill your way out of this problem. The remaining opportunities offshore outside of the GOM are a joke.
    Reply | Link to Comment
  •  
    Aug 25 08:24 AM
    Are you crazy?
    Reply | Link to Comment
  •  
    Aug 25 08:49 AM
    "The impacts of the impacts" is upon us! It is very exasperating!
    Reply | Link to Comment
  •  
    Aug 25 08:54 AM
    "The impact of the impacts" is upon us, repent all ye sinners, as the end is nigh, Most exasperating, wouldn't you say?
    Reply | Link to Comment
  •  
    Aug 25 09:17 AM
    There are NO lengths to which you Red-Greens will not go to debase our nation's economy and our way of life in your zeal to "save" the earth from mankind.

    Fortunately, you and the rest of your fellow travelers are headed straight for the dustbin of history. Good riddance!
    Reply | Link to Comment
  •  
    Aug 25 09:25 AM
    Great Article. Foreigners now own 2.4 Trillion of US debt up $400 Billion in just the last 12 months. If the Soviets and their allies unload enmass, do you believe this would be enough of a catastrophe to trigger the vicious punch needed to "Awaken" the sleeping giant? Or would another "hot" war be enough to do it?

    Russia with the aid of Venezuela and Iran could drive up oil to $200 without decreasing their revenue very much just by cutting their production in half. Which They may do if too much pressure is exerted in Georgia.

    Rebuilding after 30 years of neglect will not happen overnight, but at least it will be a start in the right direction.
    Reply | Link to Comment
  •  
    Aug 25 09:30 AM
    Why don't we have the Air Force carpet bomb Detriot and Los Angeles on their way back from Iraq? The effect on the U.S. economy would be the same as $200 oil. And market forces didn't prolong the Depression, FDR and his "pragmatism" and "experimentation&... prolonged the Depression.

    I suggest reading Economic Sophisms by Bastiat.
    Reply | Link to Comment
  •  
    Aug 25 09:55 AM
    I don't think oil coul reach $200 by the year end.
    Reply | Link to Comment
  •  
    Aug 25 10:27 AM
    I whole heartly agree with this article. When are we going to get it?
    The only cure for higher energy prices is higher energy prices. The growing nations are emphasizing education, and we spend our time in school, trying to deny evolution. There is such potential in our country to improve our situation. We just lack leadership.
    Reply | Link to Comment
  •  
    Aug 25 10:31 AM
    Yeah, $200 oil would be marvelous. Food prices will continue to go through the roof. The travel industry will be ruined. At least one of the major auto manufacturers will go bankrupt. Life for middle class Americans will get worse and worse (with far less available cash for other things that they want or need). It will become harder and harder to set aside money for savings. OPEC will have even more of a stranglehold on us.
    Reply | Link to Comment
  •  
    Aug 25 11:57 AM
    Interesting. Higher oil prices will have unintended consequences. Will they result in a better life or not is unclear. It is possible that major econonmic and cultural changes could happen quickly and result in signicant improvements in our energy policies. We live and die by energy. Just get on any major freeway and tell me what drives all of these cars and trucks. Arguements over alternative and nuclear are part of a long term policy that needs to be supported by a stronger short term policy. Higher prices will drive a stronger short term policy driven by need and necessity
    Reply | Link to Comment
  •  
    Aug 25 01:25 PM
    How about making it illegal for corporations to lobby the congress. That would be a step toward making our system a true democracy!
    Reply | Link to Comment
  •  
    Aug 25 01:28 PM
    Ueser 199792 - but but but someday we are going to run out of oil for the 800,000,000 million oil fired vehicles that are on the road worldwide. What will we do with all those freeways when no one can afford to buy and gas?
    Reply | Link to Comment
  •  
    Aug 25 01:39 PM
    Yes, we can also look forward to global warming, flooding with little to drink, plagues and starvation beyond imagining; several wars as well. Just look across the valley of death to the rise in the far distance. Cathartic, isn't it? Gosh, I'm nearly giddy with righteousness.
    Reply | Link to Comment
  •  
    Aug 25 01:59 PM
    unions and special interest groups lobbying politicians is not any different than corporations...We need a strong third party that is unwaivering in low taxes and minimizing government. Americans and our government both need to start immediately balancing our budgets.
    Reply | Link to Comment
  •  
    Aug 25 03:43 PM
    Oil at $220 within 12 months would be cataclysmic. But would not increase our dependence on Foreign Oil. Demand Destruction would be force fed into our economy. Denial would no longer be an option.

    But if, the idiots in Congress get their act together, it good trigger an employment boom. Made In America could become a rallying cry, manufacturing could be moved back to the USA, drill drill drill, Wind, Solar, Biofuels, Nat. Gas, electric cars, use everything available. The jobs created would be from the basics to high tech and would last for years.
    Reply | Link to Comment
  •  
    Aug 25 07:46 PM
    $200 oil will be good for those that are long oil futures, own oil service, drilling companies, Canadian oil trusts and are short the U.S. dollar. Otherwise, I don't see it benefiting that vast majority of individual money management morons that encompass the general population.
    Reply | Link to Comment
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