Posted by John Irons at August 22, 2005 05:56 PM

Recession?

Econbrowser: Talk of recession

Talk of recession

Nine out of the ten recessions in the United States since World War II were preceded by a spike in oil prices. Nevertheless, for the past year, I've been telling people that this time it's going to be different-- the economy could weather the rising price of oil without a downturn. Developments of the last couple of weeks make me a little more concerned.

Expenditures on energy are a sufficiently small share of GDP that if the only thing that changes is the price of oil, we really shouldn't expect to see that big a change in total output. The way that previous oil spikes seem to have contributed to broad economic downturns was by helping to precipitate sudden shifts in the pattern of spending by consumers and firms, which demand shifts led to underutilization of labor and capital by the suppliers in those secondary markets.

In my opinion, the reason that the oil price increases of the last two years have not caused a recession yet is that they have built up gradually, and resulted not from a drop in supply but instead from strong global demand. Faced with a gradual price increase and rising incomes, most people have been able to adapt to the higher prices and make adjustments in an orderly way that does not cause serious economic dislocations.

On the other hand, just within the last couple of weeks, I've been hearing a lot more expressions of anxiety and concern-- the sort of psychological factors that produce abrupt spending changes. That is to some degree a purely subjective judgment on my part. Quantitatively, I suppose I could point to the drop in the University of Michigan's index of consumer sentiment from 96.5 in July to 92.7 in August, or the spike in phone calls I've been getting this last week from worried reporters.

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