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Rising oil prices are a headwind, but not yet a disaster







Energy prices are timely, especially now that Libya's Qaddafi has ordered the destruction of some oil pipelines to the Mediterranean. Libya produces some 1.9 million barrels of oil per day, or about 2.2% of world oil consumption. That's not a huge amount, but if Libyan supplies are cut off it could prove difficult for Europe and it could contribute to higher world prices, and prices have already jumped 10% since last Friday in anticipation. These charts help put things in perspective.

Oil and gasoline prices are closing in on their 2008 highs, but still have a ways to go—it will take another 40-50% before we see new all-time highs. Gasoline prices in the U.S. are running a bit ahead of crude prices, as suggested in the third chart, but not by that much.

The big question is whether prices are or will soon be high enough to shut down the global economy. I don't think this is an immediate concern. In real terms, energy prices are still well below their previous highs, and the U.S. economy is still on a trend whereby it consumes less energy per unit of output ever year. In real terms, the U.S. consumer spends much less of his/her income—about 30% less—on energy today than in the early 1980s, even though real oil prices today are about 10% higher than they were in 1981.

Higher oil prices would be more problematic if the Fed were tightening monetary policy to keep inflation. As it stands, the Fed is quite accommodative, which means they are supplying enough money to accommodate most or all of the rise in oil prices. If the Fed weren't so accommodative, then higher oil prices would be much more painful because they would require that other prices decline by an equal amount.

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