Price Shocker — Gas Getting Cheaper

Image has not been found. URL: /wp-content/uploads/2008/10/gas-prices.jpgFlickr: Lodigs

After a summer of grimacing at the pump — with gas prices reaching an average of $4 a gallon — consumers are finally getting some relief. Just a few months ago, the cost of crude oil was as high as $140 a barrel. Now it is down below $65 a barrel, the lowest point in more than a year.

This is clearly good news for consumers — at least in the short term — and bad news for oil companies — whose stocks are plummeting. It’s really bad news for the Organization for Petroleum Exporting Countries, which Firday hastily cut daily output by 1.5 million barrels a day Friday. The oil cartel is predicting a decline in global oil demand for 2009.

Over this year, oil consumption has dropped significantly. From January to August 2008, petroleum demand declined by 4 percent, according to the American Petroleum Institute. That’s the biggest drop in the U.S. since 1982, say API economists.

Illustration by:Matt Mahurin

Faced with high energy prices, individuals and businesses had changed their everyday lives. But now that energy prices are falling, economists are asking what consumers will do next.

Some expect to see a consumers return to their old oil habits. Others say Americans have learned and internalized an important lesson about the risks of depending on oil. Most economists and analysts agree, though, that since cheap oil comes within the context of a faltering economy, consumers will act accordingly.

“Everyone’s continually getting surprised,” said David Pumphrey, deputy director of the energy and national security program at the Center for Strategic and International Studies, or CSIS. When it comes to fluctuating oil prices, he said, “We’re in such uncharted territory right now that it’s pretty hard to get a sense of what might happen next.”

With petroleum demand shrinking, Pumphrey said, the U.S. is in an unusual situation. The continuing financial crisis and accelerating global economic crisis are also unprecedented. In this context, Pumphrey expects the price of oil to hover between $75 and $90 a barrel for the rest of this year, and probably into next year as well. Economists at the Energy Dept.’s Energy Information Admin. project the “absolute floor” for oil to be between $60 and $65 a barrel.

In an email, Adam Sieminski, chief energy economist at Deutsche Bank, discussed what realistically constitutes an extreme low in this day and age. For oil prices to return to “long-run historical averages,” said Sieminski, they would have to reach $35 a barrel. “However, we believe that important changes in the market, especially the geographic location of marginal demand and supply, suggest that $60/barrel represents a more realistic characterization of ‘cheap’ oil.” That’s largely because OPEC has cut production.

Those who study oil markets have differing opinions on how consumers will respond. Pumphrey of CSIS expects that consumers may revert to earlier behavior. “I would not be at all surprised,” Pumphrey said, “to see a return somewhat to the habits that we had before.”

This summer, he said, when gas prices rapidly climbed, “people responded very quickly.” Such a reaction could potentially take place in the opposite direction. “One of the big questions is: Have we seen a structural change in the way people behave or is it just a temporary phenomenon?” he said.

It’s probably a little from Column A and a little from Column B, he says. For example, the increase in small-car sales may suggest a structural shift, but Pumphrey says we’re also likely to see more gas-guzzling SUVs on the road if gas prices stay low over some time — which he believes they will. Pumphrey says the prospect of new oil production overseas will bring some slack to the oil market, preventing major price spikes next year.

But some groups say the price of oil is likely to climb once the economy recovers. “Next spring,” said Sierra Club spokesman Josh Dorner, “gas is going to climb up again to $4 a gallon.”

Skyrocketing gas prices “kickstarted” efforts to reduce oil dependence, Dorner said. Americans have become aware of the extreme price volatility of oil, he continued, and it has significantly affected consumption habits.

“Obviously, as the price is lower, people are going to consume more,” he said, “but people understand that we need to make a change. I think that message got through loud and clear [this year], so I don’t think [lower prices] are going to dampen enthusiasm for moving in a new direction.”

With the current economic crisis, Dorner explained, businesses and individuals have an interest in cutting energy use. “Anytime the economy is hurting, we use less oil and less energy in general,” Dorner said.

People now realize, he added, that “cheap gas” is a thing of the past. “$2 gas is not coming back. $3 gas maybe, but that’s still not cheap,” he said.

Michael Morris, an economist for the Energy Dept.’s Energy Information Admin., agrees that oil prices won’t stay low for long. He also agrees that consumers won’t significantly increase their energy use in this economic crisis. “I think we’re entering into a recession, so oil prices are not going to do much,” he said.

In addition, Morris says the current pump price is still higher than before gas costs soared this year. The price of oil is unlikely to drop much more than it already has, he said. “I don’t think there’s much more room for downward movement in the price unless the worldwide economy really collapsed,” he noted.

Ron Planting, an economist with the American Petroleum Institute, the trade group for the oil and gas industry, says the sharp decline in consumer demand indicates fundamental behavioral changes. “Some of the changes are persistent,” he said. “People who are thinking about more fuel-efficient cars are going to keep doing that…. People changing jobs think more about their commuting patterns…. People have learned a little more about planning trips — like I’ve discovered that the train works very well.”

As for where oil prices will go next, answers vary, Planting says. “No one has a single-point forecast, because we know how volatile prices can be,” he said. “That kind of risk is just part of the business in terms of exploring for oil and natural gas.”

In the middle of economic and energy crises, says the Dept. of Energy’s Morris, the one thing that can be certain is uncertainty.

“We know this is a very uncertain time; it’s very hard to make predictions,” he said, echoing many other economists and energy experts.