GWEN IFILL: As Judy reported, the economy crossed its latest painful threshold this weekend: the average cost for a gallon of gasoline is now officially at $4.
But the record energy prices are also affecting the cost of everything from baked goods to baby diapers. How did they get that high? And will they stay that way?
For that, we turn to two writers who have been following the volatile markets. John Authers is the investment editor at the Financial Times, and Roben Farzad is a senior writer at BusinessWeek magazine.
Roben, we’ve talked Friday on this program about the perfect storm that’s been brewing out there of bad economic news. In a nutshell, what’s the cause?
ROBEN FARZAD, editor, BusinessWeek: It’s really twofold. A lot of people are going to study Friday going forward. I mean, that was such a shock to the system to see oil go up $11 a barrel.
You did have some global, you know, histrionics on the margin, i.e., what’s going on in Nigeria, with the ongoing uprising in the Niger Delta and Iran saber-rattling.
But it was really an unbelievably obtuse story in that we got terrible economic news in the morning, something which would typically cause crude oil prices to go tumbling down. People suddenly fearing further weakening in the dollar went to crude oil as a readout of safety. That’s increasingly being looked at as a hedge against inflation, thus exacerbating the recessionary news in the first place.
And it remains to be seen if that kind of perverse relationship is going to unwind.
GWEN IFILL: John Authers, it’s very difficult for a layperson to try to figure out what the fallout is or where the fallout isn’t with this kind of bad news. Take a stab at it.
JOHN AUTHERS, Financial Times: Well, the most significant fallout we’ve had today is that we’ve got policymakers, Tim Geithner at the Federal Reserve most plainly today, making it clear that oil now is at the kinds of levels where it will require action to deal with that. And that action could, indeed, be painful.
And one of — the big drama that we’ve seen today in the markets is, I think, primarily a consequence of what’s going on in oil, which is that we’ve seen a very sharp sell-off in bonds and a huge increase in the market’s expectations for what the Fed is going to do to interest rates.
So even though the economy is going slower, obviously, the message from a very surprisingly bad employment report back on Friday, people now think that the Fed is actually prepared to raise rates to defend the dollar. And, at the moment, the link between oil and the dollar is remarkably close. Something that’s bad for the dollar will push up the oil price.
Weak dollar, strong oil
GWEN IFILL: Explain why there is a link between the weak dollar and oil prices.
JOHN AUTHERS: Oil, like other commodities, is denominated in dollars, so if the dollar gets weaker as a currency, that means the price in dollars will have to go up.
Similarly, you also have the phenomenon that many of the oil producers, having been paid in dollars, want to diversify, want to -- don't want to be too exposed to the dollar, so they'll sell those dollars once they get them, meaning there's a perverse effect.
But, ultimately, the degree to which the oil prices and the dollar are moving together at the moment is very hard to justify, other than that it's part of the kind of extreme high correlations you'll get when world financial markets in general are in crisis conditions. And we've been in crisis conditions for the best part of a year now.
GWEN IFILL: Roben Farzad, how much of this is all driven by investor and consumer behavior?
ROBEN FARZAD: You know, that's almost like that question everybody is asking, how much of this is speculative froth? It's like asking how many licks it takes to get to the center of a Tootsie Pop.
It's one of those Rorschach-type questions, and it's so hard to take the actual $135 price and say, "Well, this much is actual supply and demand. This much is a war premium, you know, a saber-rattling premium for what's going on in Nigeria and Iran and points elsewhere. This much is a speculative premium. This much is an inflation premium."
But quite shockingly today, you had the president of OPEC come out and say that $70 is something closer to the supply-demand nexus. And everything above that is fluff.
So to consider that almost that price has been marked up 100 percent, and you have the advent of certain products, exchange-traded funds, where you can, as a retail investor, log into your brokerage account, buy the security equivalent of a barrel of oil.
Suddenly, that has become the speculative area, the kind of safety hedging area of choice, now that the bloom is well off the real estate rose. And stocks haven't been great shakes. People are really going headlong into oil.
Developing world eats up oil
GWEN IFILL: John, let's talk about a little -- the practical impact. Obviously, there is a ripple effect, which is going beyond the markets. It's going beyond OPEC. It's going into people's pocketbooks, the result of what's happened with oil prices. How is it manifesting itself?
JOHN AUTHERS: Well, first of all, obviously, you see that consumer confidence has fallen very drastically in this country. And you're beginning to see evidence that people are actually going to go to the lengths of canceling vacations, or move to hybrids, or decide against buying an SUV, various things that you might argue are not totally unhealthy developments.
The other intriguing development over in the emerging world -- and this could be a key to how this bubble has managed to develop to this extent -- is that a lot of emerging countries have big subsidies for oil, which means that the high global prices haven't cut down on demand thus far. People haven't felt the need to cut back on their oil consumption.
You're beginning to see some of those countries -- because, obviously, it's costing them more and more to subsidize oil as the price goes up -- you're beginning to see those subsidies come under threat. And that could be the catalyst to finally see these prices come down to something more sustainable, when you lose the protection in the developing world.
And plainly with the -- sorry.
GWEN IFILL: Go ahead. Finish.
JOHN AUTHERS: With the kind of growth we've seen in the developing world, if you are getting to the point where these oil prices actually affect that, as well, that begins to change an awful lot of our cozy assumptions about the stabilizers for the global economy.
GWEN IFILL: Roben, go ahead.
ROBEN FARZAD: Gwen, that's a critical point. I'm sorry, just to seize on that point, because I think that this gets hidden amid all the headlines here and shaking your fist at speculators and OPEC.
The developing world writ large is a voracious consumer of any spare oil right now. China just alone spends $45 billion on subsidizing gasoline consumption, but this is all a function of a lot of monetary profligacy here. We've been a mind...
JOHN AUTHERS: Exactly.
ROBEN FARZAD: ... over the past five or six years the Chinese funding our deficits, a lot of manufacturing money going to China. They have more dollars than they know what to do with.
And the real scary thing is they can keep spending this money on profligate things like gasoline subsidies until well after the Olympics, because they have a huge machine to feed.
Automobile purchases are quadrupling there over several years. There's a burgeoning middle class. And we just keep funneling them our dollars.
So nobody really drew the line in the sand and said, "We need to protect the dollar. We need to mind our fiscal and monetary imbalances." And now we're paying an overdue tab for it.
Inflationary concerns ahead?
GWEN IFILL: There seems to also be, however, a lag in a couple of indicators, and one of them, John, is inflation, and the other is actual gas prices. We see these oil prices go crazy. Gas prices are going high, but not as fast as you would expect. And inflation doesn't seem to be affected yet.
JOHN AUTHERS: Right. In the case of gas prices, there are basic physical lags in supply. In the case of inflation -- this is what's so troublesome about everything -- there is every reason, apart from the remarkable rise we're seeing in commodities, to expect inflation actually to be very much under control.
We've got a severe credit crunch. We've got banks forced by the problems that started with the credit crisis last year to actually reduce the amount that they're lending. That's normally deflationary. That's what's quite remarkable.
You've had the Fed feel the need to cut the Fed funds rate by more than half in less than a year because there's such a worry about deflation, about problems for growth. But now, because of these various factors we've been talking about, because people have been allowing the dollar to weaken, whether they say so explicitly or not, as a means to bolster the economy, the oil prices are now getting to the level where they're obliged to behave as though there's an inflationary problem, as well.
It's not greatly surprising that inflation hasn't caught up with this yet, although, obviously, we're getting to the point where oil is so expensive that that's going to happen.
GWEN IFILL: It's quite an infuriating treadmill that we're on.
John Authers and Roben Farzad, thank you both very much.
ROBEN FARZAD: Thank you, Gwen.