The Eighth Deadly Crack in the Economy

Rising Gas Prices Are the 8th Deadly Crack

Rising Gas Prices Are the 8th Deadly Crack Photo Credit to M.V. Jantzen

Previously I wrote about “Seven Deadly Cracks” in the U.S. economy.  Today I am here to discuss an eighth crack that was omitted in my first article.  Why wasn’t the first article therefore called “8 Deadly Cracks”?  Well, like any author I like to draw analogies so of course Seven Deadly Cracks was drawn from the concept of “Seven Deadly Sins”.  This crack though may really be the granddaddy of them all, one we have quietly seemed to have forgotten about as the last two years of downturn mitigated it.

So what is the eighth crack?  Gas and oil prices, the very driving force of the United States economy.

Think back to 2008, oil was flirting with 150-160 a barrel and many people were paying well over 4 dollars a gallon for gasoline.  Diesel prices of course flirted with 5 dollars a gallon and pushed our independent and even some small corporate trucking companies to the verge of striking.  Why?  They were getting close to a point of working for free.  Then came the economic downturn and oil plummeted to about 35 dollars a barrel while gas dropped to then stuck right at about a 2 dollar a gallon national average.   What drove the drop in oil prices?  You and me and every person and company that cut expenses and did so to a large degree by cutting gas consumption.

Contrary to what you may believe instinctively, people do not cut luxuries first in most situations.  If you doubt that ask yourself how many of the unemployed still have an iPhone, Android or perhaps a fancy new iPad.  Instead of cutting back on a beloved hobby, activity or guilty pleasure most people first look to shave off the expenses of necessities, such as rent, gas, electric bills and food consumption.  Gas is a big one for Americans and we are the biggest consumer of it on the planet.

Additionally think about how much gas and oil goes into the other necessities that we cut back on like food and electricity.  Of course there is also a lot of gas involved in the daily commute the unemployed no longer endure and in the construction business that has all but been decimated during the recession.  So far our economy has only seen the faintest hints of what I call false recovery but gas and oil prices have rebounded heavily from their lows in early 2009.

Oil is back up to a very healthy (if you are an oil investor) 90 odd dollars a barrel.   The national average on gasoline is right at about 3 dollars a gallon.  Do you remember when people freaked out in 2005 when we were paying that much for the first time?  It happend again in 2006, and again it dropped back to a more manageable level  Then in Oct – Nov. of 2007  3 dollar a gallon gas returned while the stock market was at a much celebrated, “all time high”.    Well guess what began in Oct. and Nov. of 2007?  The recession and the eventual crash of the Dow.   Everyone fixates on the fall of 2008 but look at the graph below of the Dow from about 2005 – 2010, the slide begins right as gas crosses 3 dollars a gallon and the market never really begins a meaningful recovery until it hits bottom in February of 2009.  Unlike the previous spikes in 05 and 06 the market was above the previously established cap and you can see the effects of the resulting collision quite clearly.

Theee Dollar Gas Has Been a Limit to Economic Growth - (Chart Source Google Finance)

Of course gas prices continued to climb to more than 4 dollars in 2008, and look at the effect between Nov. of 2007, right up until the big plunge in 2008.  Please remember all during this period the talking heads from CNN, to MSNBC  and even FOX News were telling us everything was just super and better times were on the way.

During this period we had some great comedy from main stream media.  Such as Jim Cramer advising us to hold on to Bear Stearns.

Another beautiful moment came from my favorite pin head Suze Orman who was advising you to keep tossing you money into the market at full speed as late as Oct. of 2008.

Seriously you could have never make up a story this bad, who would have ever believed it?   With the exception of a false rebound in early 08 the Dow pretty much tracked down as oil went up and in Sept. other factors such as the housing crisis took over and drove the market off the deep end.

I am not trying to say that 3 dollar gas is the ultimate cap on the stock market, inflation alone can change that.  The simple reality though is the economy of the the United States runs on oil and gas.  No amount of tree hugging or polar bear worship will change that anytime soon.   What many fail to realize is that while our economy has been in a lurch the economy of China has been booming away, getting close to 8% growth averages in recent years.  This has begun to lax as of late because they are so dependent (for now) on U.S. export business but it hasn’t stopped growing.

That means the demand for oil in China continues to grow and above all isn’t going to go down.  India and Russia are also large growing economies that are driving global oil demand higher.   Not to mention that OPEC Just Set a $100 a Barrel Target on Christmas Eve, hope you enjoyed getting that in your stocking.

So I ask you to do some tough analysis of these facts…

  • The U.S. is still deep in recession, high unemployment, etc
  • Demand for gas in the U.S. is down
  • Gas is still back at 3 dollars a gallon in spite of a terrible US economy

With those facts in mind answer this question for yourself what will happen to gas prices in 2011 if we begin to have any meaningful felt recovery? What will happen if unemployment drops by one or two points?  Investor confidence is made stronger by a Dow getting back into the 12.000 range?  The republicans cut a few billion in meaningless spending and people ignore a still staggering deficit?  Put simply if gas is 3 dollars in a terrible economy what will it go up to during a perceived recovery?

There is a fundamental reality at bay here, our economy can only recover as far as cheap oil will take it and cheap oil seems to have become one of the dinosaurs they tell us it is made of.  (actually oil is made of mostly plankton).  I hate to even bring up the term “peak oil” in the article because I don’t know when peak will happen and do not claim to.  What I can tell you is our ability to produce refined oil is growing slower than global demand during a recession.  So when we hit the bliss of recovery it will only get worse.

So in addition to the Seven Deadly Cracks add in the eighth one of rising oil and gas prices and we are in for some very tough times in my view.   Keep in mind while we have had more inflation then the government admits to that it has been largely held in check by debt repayments and defaults.  In addition to banks hording money and reducing the velocity and multiplication of it.  Yet this can’t go on forever, at some point making a 2% spread by borrowing from the Fed and loaning back to the treasury won’t keep the doors open to all those new branches built during the boom.  Of course as recovery begins banks will want to begin loaning and hence the money creation cycle again will resume, and the more success they have the more inflation we will see.

In short I am telling you that the eight deadly cracks tell us something counter intuitive!  Recovery is the beginning of total collapse.  Each of these cracks are like a rupture in the hull of a ship and every increase the ship now makes in speeding forward opens them further.

Some will call me an alarmist but since I wrote the first article only 7 days ago, look at some of the latest information.

  • I stated, “The majority of US States are near bankruptcy” and two days ago – “The Heritage Foundation warns us about another round of potential state bail outs by the Fed“.  – In the first article I also stated, “it will be a state or two at first that cuts retirement for state workers and ushers in a form of austerity“.  So I ask you how likely is the new GOP led congress that campaigned so heavily on cutting spending and no more bail outs likely to allow another federal bail out of the states?

Now with all that you might think that the only one of my predictions I would want to back off of is the part where I stated,

“Boosted by growth in revenue and unwillingness to pay excessive taxes on it many of the surviving companies will look to expand and begin hiring, not a ton but some.  This will drop the unemployment number by say a point perhaps at best two points.  People will become abuzz with confidence even more than right now and spending will get stupid again.”

Well, unfortunately for us all the people running this ship don’t seem to have a clue about any of the deadly cracks and believe it or not despite everything I just told you a recent survey by CareerBuilder.com tells us that about 24% of business expect to hire new full time employees in 2011, up from 2009 and 2010 survey numbers.  Unfortunately my view is that we have entered a cycle that we now must play out.  We are in a situation where the very recovery we seek will be the eventual terminal downfall so long forecasted by the likes of Peter Schiff, Gerald Celente and Jim Rogers.

For one more chilling prophecy that now seems even more accurate then ever, listen to my broadcast from March, 9th 2009 (almost two years ago) which was titled, Recovery Equals Inflation.

3 comments to The Eighth Deadly Crack in the Economy

  • Cat Ellis

    Thanks for a really well-written article, Jack. I’ve been trying to warn the people I know personally and am connected to via social media about gas prices for a few years now. Before my husband was laid off in Jan/2008, his employer (made construction/aggregate materials) had sent a letter out to all employees to please conserve as much fuel as possible because their fuel expenses had skyrocketed to $500K/month. It takes a lot of fuel to run those crushing plants, heavy equipment, etc. We had a dose of really harsh medicine back then. But, I’m concerned it will be much worse medicine for a much greater number of people this time around.

  • hmmm..this is slightly troubling…as I write this there is a news alert on tv gas is average $3.11 per gallon with $4 before Memorial day…

    I wonder how high it will get before truckers park their trucks and everybody completely reliant on supermarkets will become freaked out when shortages happen?

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