What if recession fails to dampen the oil price?
With the oil price rising through $10 a barrel, the only thing likely to halt the escalation is recession. But if economies go into recession, one of the main causes will be the high oil price.
This is not so much a circular argument as a self-correcting mechanism, like the governor on a steam engine. Oil prices rise, economies slow, the demand for oil falls and the price of the commodity deceases accordingly.
We have seen this pattern plenty of times before. A decade ago, as economies recovered from ther 1990s recession, oil was just one-tenth of today’s price.
Supply is part of the equation as well as demand, of course, and Opec producers have frequently sought to reduce output to maintain prices when demand is weak: they may yet try it again, but for the moment, demand is the stronger part of the formula.
If anything is different this time it is so-called disconnectivety. In previous cycles, when one major economy headed for recession it took others with it. When America sneezed, other countries caught the cold.
The fashion of recent years, however, has been to tell us that some countries - principally China and other parts of Asia - are disconnected from the Western nexus. The theory is that the G7 countries can experience economic slowdown while some other regions continue to boom.
This is the time to test the theory. Can China prosper without exports to Europe and the US? Given its growing domestic consumer base, it probably can. Can India avoid being depressed by the West? Perhaps.
But if they can, there will be demand for oil from that quarter of the world while demand in Western economies falls. That would mean prices remaining high while the USA heads for recession and other developed countries’ economies slow. The self-correcting mechanism would thus have failed, with the risk that oil prices make a recession even worse.
