Higher Gas Prices Could Slow Economy

March 9, 2004 -- Consumers and airlines may be feeling the impact of higher oil and gasoline prices right now. But a number of economists believe going forward that higher energy prices will have a slowing effect on economic growth overall.

As of Monday, gas prices were just a penny shy of an all-time record, before adjusting for inflation — the national average was $1.74 per gallon, up 22 cents from the beginning of the year.The previous record was $1.75 in August of last year.

Energy Department officials expect a new record soon. And many states are already reporting record highs — Virginia, North Carolina, South Carolina, Florida, Mississippi, California and Nevada to name a few. California still has the highest average at $2.12 a gallon, with gas prices in Los Angeles at $2.18.

Kathy Bostjancic, senior economist for Merrill Lynch, says the higher gasoline prices act as a "tax on consumers and corporations." Consumers pay more to fill their gas tanks and heat their homes, explains Bostjancic, and this "diminishes their disposable income."

Merrill Lynch estimates that every penny increase at the pump is equal to $1 billion in lost consumer spending. Using that equation, the 20-cent-a-gallon increase at the pump this year is taking $20 billion in spending out of the economy.

Wiping Out Benefit of Tax Cut?

Another way to think about it? Merrill Lynch estimates federal tax refunds this year would total about $55 billion from February through May. That would be about 30 percent higher than last year and would, theoretically, give the economy another boost similar to the one it got last summer from child tax credit checks.

But Bostjancic says Merrill Lynch believes the higher pump prices will wipe out as much as a third to half of the economic impact of federal refunds.

Oil economist Phil Verleger of PK Verleger in Newport Beach, Calif., agrees. "The higher pump price is taking it [impact of refunds] all away. It has struck out the benefit of the tax cut."

Airlines are feeling the impact right now, Verleger says, but they are unable to pass the higher cost for jet fuel on to customers. "Continental tried to initiate a fuel surcharge last week, but the industry would not go along with it," he notes.

Verleger and airline analyst Ray Neidl of Blaylock in New York say airlines have excess capacity and too much competition, and they will have to absorb the higher fuel prices.

Bostjancic adds businesses have to do the same right now. "This is a tax on corporations," says Bostjancic, "The environment is such they can't pass along higher energy prices to end-use consumers at this time. You are not going to see higher cookie prices in the stores."

Verleger suggests down the road continuing price increases "will put pressure on corporate profits, which might lead to more layoffs."