Strange days we live in, again. Last week we discussed that Ford had decided to effectively discontinue its lineup of often fuel-efficient automobiles and instead focus on its extremely profitable truck and sometimes profitable SUV lines. Just two days later, West Texas Intermediate crude’s futures price topped $70 per barrel for the first time in years.
Of course, that’s not the only price quickly rising. Nineteen years ago, when I flew to London to attend their auto show and broadcast my show from the old BBC Bush House, roundtrip airfare cost less than $900. A decade ago I took a second trip to London, and the cost of airfare was $1,200 per ticket. Today? Try finding a non-stop flight for less than $2,600.
This is a conversation worth having, because the Fed has continuously claimed that inflation is well under control. In fact, last September USA Today quoted Fed Chair Janet Yellen as saying inflation was weaker than the Fed had anticipated. How could that be? Haven’t they noticed how much the price of gasoline has gone up in just the past year, or that it’s climbing still? Or the prices of homes in most markets? Even in Stockton, California — ground zero for the housing market collapse in 2008, when the average home price bottomed out at just $127,000 in 2009, from nearly half a million two years earlier — in just the past two years the average home price has gone from $232,000 to $305,000 today, according to Zillow.
As for the price of oil, WTI hit $107.26 on June 20, 2014; it bottomed out at $29.64 on February 19, 2016, and it’s been rising ever since. Slowly, maybe, but that’s still a 137 percent increase in the price of oil over two years. In the past that was called inflation, but apparently the Federal Reserve has changed the definition, because they don’t see oil prices’ more than doubling in two years as inflationary at all.
To be fair, items such as electricity have been stable in deregulated areas because that utility’s pricing is tied to the price of natural gas, and that just seemed stuck in place.
When it comes to new car purchases, pricing is all over the map. An extremely popular luxury SUV, the Jaguar F Pace, has seen its price rise by almost $3,000 since it was introduced two years ago. Conversely, the Nissan Titan’s pricing seems remarkably stable since its introduction in 2016.
As always, factory incentives really determine the net price of any new vehicle today; they change unpredictably from month to month, leaving both new car dealers and their customers frustrated with such inconsistency. As always, customers tend to blame the dealers for these price fluctuations when the blame should be laid at the feet of the automakers 95 percent of the time.
The price of steel is critical to the cost structure of new vehicles; and during the past 25 months we’ve watched the price of cold roll steel climb from just under $500 to $1,005 ten days ago. And over the past year aluminum is up almost 9 percent, copper up 16.73 percent, nickel up 31.24 percent and zinc up 17.7 percent. Ironically, the cost of iron ore has fallen dramatically in the past 12 months, down 19.74 percent. Of course, not everything has shown similar price increases; and the prices for some commodities, such as oranges and sugar, are way down.
Still, the average person bases his or her long-term fiscal confidence on far fewer factors than are displayed and traded on the world’s commodity markets. In reality, the price of gasoline, homes or rent, and basic groceries determine how good we feel about the economy at large. If one doubts that, we are now months into our new tax law and allegedly most have a higher take-home pay at the moment; yet since its enactment the new car market has actually softened. But the exact same thing happened in the new car market 15 or so years ago, when the two Bush tax cuts went into effect. And car sales fell in four out of five years after the Tax Reform Act of 1986, when they bottomed out at 4 million fewer sales by 1991.
Of course, at the time there were other depressing elements at work, including our Savings and Loans debacle and the numerous bank collapses that followed on the heels of that tax reform law.
Ah, the good old days
Elected officials love to talk about how tax cuts always boost the economy, but new car sales, one of the key metrics for how the economy is really doing, have never fallen in line with those rosy predictions. Illustrating that fact, Sam Brownback pushed tax-cut logic to its illogical extreme in Kansas over the past few years; according to Market Watch last week, his state was one of only three in the nation to have its economy contract last year.
Last week, Pierre Andurand of Andurand Capital Management suggested that the price of oil could quickly shoot up to $300 a barrel within the next few years. His business logic is that large oil projects that take years to come online are not happening at the moment because of the large risk to long-term pricing. Therefore, if worldwide demand spikes quickly, oil could hit that $300 figure. Keep in mind that his hedge fund deals in crude futures; it’s in his interest to convince others that his prediction might be accurate.
He did add that oil at $100 a barrel will not impact the economy at all. On that point he’s probably accurate. We’ve all lived through $3-a-gallon gas as a result of $100 oil before. While it’s a shock to the system the first time it happens, it never has the same negative impact after that. Come to think of it, even a return to $4-a-gallon gasoline would not affect the overall economy the same way it did during the summer of 2008. But the very idea of $300-a-barrel oil and its likely pricing impact, which would take gasoline to potentially $8 a gallon, is something entirely different.
It’s doubtful that this could happen because, once gasoline sets a new high price, it changes everything almost immediately. In the spring of 2008 Toyota had an incentive package on its always fuel-efficient Prius hybrid electric worth about $2,500, while Volkswagen dealers were offering their diesel models for $100 over invoice just to get rid of them. But only four months later, when gasoline topped $4 a gallon, every last Prius in the country was sold without any incentive, while many VW dealers were selling their diesel models for over list price.
Overall, though, things started grinding to a halt. Keep in mind that, just a year after the Financial Meltdown, which dropped oil from $147 a barrel in July of 2008 to just $33 the following February, new car sales also collapsed, annualizing just 9.4 million sales at the lowest point and achieving only 10.5 million sales in all of 2009. That’s a six million-unit drop in less than two years.
So no, oil will not get to $300 a barrel and stay there anytime soon. The effect would be exactly what happened in 2008: The shock would hit the public hard; people would instantly alter their automotive buying habits; the impulse buyers would disappear (and in good years they comprise typically 15 – 25 percent of the total car market); and as a result the immediate contraction to the overall economy would collapse the price of oil. Just as it did after the Second Energy Crisis, Desert Storm, the Asian Financial Crisis of 1998, and the Meltdown of 2008.
You see, none of this is any big secret. It’s always been there right in front of all of us. And Baby Boomers have actually lived through all these events. The only question is whether you remember how things have gone down, again and again over the past 40 years, or you listen to elected officials, who tell you to ignore your lyin’ eyes and sign off on what they are selling instead.
For the record, and despite what the Federal Reserve has stated, there has been more than a reasonable amount of inflation in recent years. It was done intentionally. Not only does it reinflate housing prices — which very positively affects how homeowners view their personal wealth — but simultaneously it kept lenders solvent because they didn’t have to carry billions in mortgages on homes showing negative equity on their books.
Likewise, the stock market was reinflated for that same feeling of wealth and to restore lost paper profits. Cheap interest was extended to encourage consumption and business expansion. These were all reasonable and prudent decisions which reversed the effects of 2008, but at some point it’s too much. Alan Greenspan made that mistake and admitted it — before he again denied it.
And likely it’s happening again today. You can see the imbalance in gasoline’s quickly rising price and in the fact that banks pay virtually no interest on your money in passbook savings. You see, it’s that cheap money that encourages wider speculation in the commodities market. Then again, in the past so did huge tax cuts. The combination of the two drove those markets back in 2003 – 2008; remember how that ended?
Probably not. Everyone seems to have forgotten that scenario already.
As the summer moves on, it may be best to play a contrarian game. Fuel-efficient cars are bargains when the price of gasoline is low, butte reverse will happen soon enough. At least, that’s been the cycle you could bet on over the past 50 years.
Commodity prices came from Index Mundi
© Ed Wallace 2018 Ed Wallace is a recipient of the Gerald R. Loeb Award for business journalism, bestowed by the Anderson School of Business at UCLA, and hosts the top-rated talk show, Wheels, 8:00 to 1:00 Saturdays on 570 KLIF AM. Email: firstname.lastname@example.org