Oil Prices Reach 13-Year High, Posing Threat to U.S. Economy

U.S. crude oil inventories hit a 28-year low in January

Published: 19-Mar-2004

The price of crude oil hit its highest level in 13 years Wednesday, raising the risk to an economy struggling to create jobs.

The price for the benchmark grade of U.S. crude jumped 70 cents to $38.18 a barrel in New York trading. It hadn't closed at that level since Oct. 16, 1990, when oil was soaring in the aftermath of Iraq's invasion of Kuwait.

The chief catalyst for the latest run-up was an Energy Department report showing that U.S. gasoline inventories fell last week while demand rose. In fact, that has been the story for both oil and gasoline worldwide for much of the last year.

"Global demand is rising at a faster rate than was expected," said George Gaspar, an energy industry analyst at investment firm Robert W. Baird & Co. in Milwaukee.

With gasoline prices already at record levels, well above $2 a gallon in California, energy is becoming a drain on many businesses and consumers. Rising fuel costs are almost like an added tax on everything from transportation to manufactured goods. And some analysts warned that those costs could soon do more serious damage to the economy.

"If within the next four weeks you don't see a break, then it becomes an issue" for economic growth, said James Glassman, an economist at J.P. Morgan Securities in New York.

A number of factors are driving oil prices higher. Energy consumption in Asia has been particularly strong over the last year, for example, as China's economy has boomed.

Last week, the International Energy Agency raised its forecast for global oil demand in 2004 by 2.1%, to 80.2 million barrels per day.

Oil supplies, meanwhile, have been tighter than was anticipated. The Organization of the Petroleum Exporting Countries has been more disciplined about production and many cost-conscious oil companies have been reluctant to build up inventories for local markets.

U.S. crude oil inventories hit a 28-year low in January.

As demand rises while inventories remain limited, the result is more competition worldwide for available supplies, pushing market prices higher. Since the start of the year, the benchmark U.S. oil price has climbed 17% from $32.52 a barrel.

As for the U.S. gasoline market, supplies are constrained because many refineries are running full-out. And no new capacity is being added.

Stubbornly high energy costs run counter to what many observers figured would happen after the U.S. invasion of Iraq one year ago. A fast victory — and a ramp-up in Iraqi oil production — had been expected to push oil prices sharply lower after they crested at $37.83 a barrel last March. But the U.S. benchmark price never fell below $25 a barrel last year.

Now, OPEC (news - web sites) — which supplies about one-third of the world's oil — is planning to cut production in April, as the winter heating season in the Northern Hemisphere ends.

Some analysts believe that, even if OPEC does cut back, crude oil prices will nonetheless fall as heating demand ebbs.

Gasoline prices, however, may be a different story because of the refinery capacity issues, many experts say.

Philip Verleger, an energy analyst and visiting fellow at the Institute for International Economics, predicted that average pump prices could reach $2.50 a gallon in California this summer.

 

Southern California figures to feel a disproportionately big hit from rising fuel costs because the region is a major trade hub, as well as the nation's largest manufacturing center.

"This is something quite serious. It could have a major ripple impact," said Jack Kyser, chief economist at the Los Angeles County Economic Development Corp.

Mario Rueda, president of Pacific Molding Inc. in Corona, a producer of scuba diving fins, said the costs of his raw materials have been creeping higher in recent months. He fears that the latest surge in oil prices will further erode his profitability.

Every week, Pacific Molding's factory goes through as much as 23,000 pounds of rubber and synthetic rubber materials, in which petroleum is a component. Some of those materials shot up from 60 cents a pound in October to 75 cents a pound in January. Rueda said he was expecting to pay 90 cents when he places his next order in June.

"It makes me feel we're losing some of the grip in staying in business here," he said Wednesday. "It's tough to compete when your hands are tied."

Rueda said he would pass on some of the higher supply cost to his customers. "The ones who are paying more at the end of the chain is the consumer."

Dependable Logistics Services, a major trucking company based in Los Angeles, has been coping by tacking on a fuel surcharge for most of its customers. The surcharge, indexed to a baseline price of $1.25 a gallon, changes weekly. On Monday, the surcharge for customers using less-than-full trucks was 5.5% of the total tab, up from 3.5% three months earlier.

"It's pretty substantial," said Michael Dougan, Dependable's chief financial officer. He noted, however, that some larger clients don't pay that surcharge — and that has cut into the company's profit margins.

Dependable operates about 500 trucks and employs 1,000 people, mostly in California.

So far, Dougan said, the company hasn't laid off workers, thanks partly to belt-tightening measures all around. But he gave no assurances for the future, especially if oil prices remain high.

"No responsible company can absorb those increases over the long run and it not affect employment," he said.

With U.S. job growth overall at meager levels over the last few months, despite other signs that the economy is advancing strongly, anything that would further impede job creation could depress consumer confidence and threaten the pace of spending.

Some analysts say that although higher energy costs are a drain on consumers and businesses, the threat to the economy overall isn't yet severe.

"There are a lot of other things this economy has going for it now," said Peter Hooper, an economist at Deutsche Bank Securities in New York.

Falling interest rates are spurring another wave of mortgage refinancings, he noted. What's more, federal tax refunds are substantially larger this year because of the tax cuts Congress voted on last year.

Energy costs so far "aren't enough of a negative to offset those positives," Hooper said.

But that rings hollow for some consumers. Climbing gas prices are what forced 27-year-old Jose Gutierrez in January to give up on Jai Express, the courier service he had owned.

Traversing Southern California delivering packages and documents, Gutierrez said he was spending between $200 and $250 a week on gas. "With the maintenance, insurance and gas, I couldn't afford it. I wasn't making enough."

The high cost of filling gasoline tanks is already a political issue: In a nonbinding resolution, the U.S. Senate last week voted to suspend oil purchases for the nation's Strategic Petroleum Reserve to divert more supply to the marketplace. The idea is opposed by the Bush administration.

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