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Economic Impact of Oil and Gas on Inflation and the Fed

Economic Impact of Oil and Gas on Inflation and the Fed
(Maksym Yemelyanov/Dreamstime)

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Monday, 06 August 2018 05:31 PM Current | Bio | Archive

In the last 40 years, the Federal Reserve could evaluate inflation by analyzing the cost of goods and services as they moved up or down in price.

The Fed traditionally looked at these inflation increases as more static than dynamic in relation to the cost of energy. With new oil and gas capacity, global production, technology, substitutes and agile markets, the cost of oil and gas can increase quickly, but the world production can also increase much more quickly than say 20 years ago. Thus, energy costs can be brought down to a price rather quickly as compared to 30 years ago because there is a global rat-race to increase output at higher prices.

We are now at a point in time where oil and gas production capacity has grown quickly. Today, production worldwide is nowhere near full capacity due to costs in mature markets with higher labor expenses and regulation. Therefore, when the price goes up, capped wells or new fields can be open or reopened for a profit to fulfill new energy demands.

For instance, if the cost of a barrel of oil goes to $70, then how much new capacity will be uncapped and turned-on for production on a global level? How much wind and solar power will be added to the market supply?

The Federal Reserve has used a basket of goods to measure inflation for decades. A large percentage of that basket of goods is impacted directly by the cost of oil and gas. Since there is so much supply, a spike in price of oil can trigger a new spike in production and exploration. Thus, a laissez faire system of ebb and flows of the supply and prices of goods based on global output would continue to exist. However, many states have large percentage-based taxes on fuel based on the cost per gallon, which also artificially increases inflation. If the government allows more deductions for fuel, heating, and commuting, the impact of inflation is also reduced dramatically.

There are many countries around the world that have increased capacity to produce crude oil. Countries like Russia, Nigeria, Mexico, Iran, Saudi Arabia and OPEC nations, Kuwait, Libya and more.

When the cost of a barrel of oil is at $50, there is money to be made but many oil-producing regions remained crippled at low output due to costs of production and logistics of moving the oil. When the barrel of oil is at $70 a barrel, oil and gas production around the world is profitable almost anywhere whether it is traditional drilling or advanced fracking or shale oil production.

Common sense also tells us that the costs of importing goods from Asia and other regions of the world will become more expensive due to transport costs. Thus, there is an artificial inflation on imports due to shipping costs, but domestic or local higher quality products will be more attractive to purchase due to competitive pricing.

In sum, the Federal Reserve should not overreact to a spike in inflation that is directly related to energy because energy costs are variable and dynamic. Moreover, people respond to energy costs quickly by telecommuting, using alternative energy, or simply mitigating use.

As a side note, it took 16 years for the NASDAQ to come back from the Clinton Crash of 2000 where Americans lost over 10 Trillion in today’s wealth; thus, the stock market should not be looked at as being overvalued.

With all of that being said, the costs of a basket of goods, travel, and even groceries may spike up temporarily creating mild inflation, but costs would come back down quickly do to competition, increased production, alternative energy, released reserves, technology uncapping wells, technology, and existing fields, expanded exploration globally, and energy substitutes.

President Donald Trump and National Economic Council Director Larry Kudlow should make sure that the Federal Reserve and Department of Treasury understand that we are living in a new paradigm where we do not need to overreact to energy prices and CPI in the short term by increasing lending rates.

George Mentz JD MBA CWM Chartered Wealth Manager ® is a licensed attorney and CEO of GAFM ® global education, which is an ISO 29990 Certified professional development company operating in over 50 nations. Mentz is an award winning author and advisory board member to several companies around the world in education, charities, and crypto currency.

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GeorgeMentz
President Donald Trump and National Economic Council Director Larry Kudlow should make sure that the Federal Reserve and Department of Treasury understand that we are living in a new paradigm where we do not need to overreact to energy prices and CPI in the short term by increasing lending rates.
economic, impact, oil, gas, inflation, fed
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2018-31-06
Monday, 06 August 2018 05:31 PM
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