A big drop in energy prices in the past month is easing the crunch and giving a lift to the struggling economy by increasing consumer purchasing power.
Federal Reserve Chairman Alan Greenspan and private economists are hopeful that the fall in energy prices, when combined with the Fed’s huge dose of interest-rate cuts and tax cuts on their way this month, will remove a major obstacle to growth and spur a recovery in the second half of the year.
The Fed chairman blamed the spike in energy prices since 1999 in part for the big slowdown that has brought the economy nearly to a standstill, in an unusual speech on energy before the Economic Club of Chicago last week.
The Fed has been closely watching the energy situation out of concern for the economy, he said, because energy-price spikes pre-
ceded the last three recessions in the United States.
“The tide may be turning,” said Richard Berner, chief U.S. economist at Morgan Stanley Dean Witter, who earlier this year predicted the economy would fall into recession in part because of the energy-price shock.
Now, he says, falling prices are providing support for overstretched consumers and the economy.
Average pump prices for gasoline have dropped 14 percent or 24 cents to $1.47 since hitting record highs in May. Wholesale gas prices have dropped even further and are near their lowest levels of the year on the New York Mercantile Exchange.
Crude-oil prices are $10 a barrel below the 10-year high of over $37 a barrel hit last year. And natural-gas prices have dropped even more dramatically, by two-thirds from their winter highs, deflating the cost of home-heating fuel and electricity, even in power-strapped California.
Analysts say more declines in pump prices likely are on the way, as wholesale prices continue to fall. Increased production at refineries in recent weeks and imports from Europe have provided a hefty cushion of inventories that is easing the pressure on prices.
The relief consumers are feeling at the gas pump and in their energy bills should enable them to spend more on other purchases, adding around 0.3 of a percentage point to the economic growth rate in the next year, Mr. Berner said.
While the effect from lower prices is modest so far, he said, it could increase if consumers see further declines at the pump and the lower prices stick.
The outlook for lower energy prices looks good, but is by no means assured, economists said.
The price drops of the last month mostly reflect falling demand in the United States and around the world, including Asia, where normally high industrial demand for energy is sliding rapidly along with economic growth.
The earlier high prices also induced greater conservation efforts in the United States, contributing to the decline in demand. And the lure of high prices spurred a binge of power-plant construction and drilling by the oil industry that is now paying off in more-plentiful supplies.
“These forces seem likely to persist, so they stand a good chance of holding energy prices down for a while,” Mr. Berner said.
“During June, the energy-price outlook changed dramatically” because of a variety of market forces, said L. Douglas Lee of Economics from Washington Inc. The change “augurs well” for consumer spending and economic growth, he said, and should improve the inflation picture in coming months.
Mr. Greenspan expressed hope that today’s energy problems “will be resolved … without any further adverse impact on our economy.” Even the power crunch in California appears to be easing some, he said, with only “modest” effects so far on the state’s large economy.
Record high prices for power and gas dampen growth apparently because of the exaggerated effect they have on consumer confidence and the way they erode purchasing power, he said.
High energy prices also have been a major culprit behind the collapse of business profits and investment spending this year because non-energy businesses have been largely unable to pass them on to consumers, he said.
Diane Swonk, chief economist at Bank One in Chicago, said the boost to the economy from lower energy prices may enable the Fed to hold off any further interest-rate cuts this year.
Mr. Greenspan in his speech was signaling that “the Fed doesn’t feel the need to supply as much in rate reductions to get the economy moving again,” she said.