VOL. 10, NO.

3 APRIL 2015

DALLASFED

Economic
Letter
Plunging Oil Prices: A Boost for the
U.S. Economy, a Jolt for Texas
by Anthony Murphy, Michael Plante and Mine Ycel

}
ABSTRACT: Economic activity
in the U.S. overall will benefit
from the oil price collapse. The
decline will, however, negatively
affect oil-producing states such
as Texas and North Dakota.

ust last summer, oil prices

exceeded $100 per barrel and
many analysts expected them
to remain high for some time
to come (Chart 1). That didnt happen.
Prices plunged, falling by more than 50
percent in just six months (Chart 2), the
result of weaker-than-expected demand
and ample supplies from both the
Organization of the Petroleum Exporting
Countries (OPEC) and non-OPEC countries. Supply growth was particularly
strong in the U.S., with shale oil production booming in 2014.
Sinking prices have implications for
economies across the globe. Important
oil exporters, such as the OPEC countries,
bear the brunt of negative impacts, while
oil importers benefit. Overall economic
activity in the U.S. will benefit, although
lower oil prices will depress activity in
many producing states, such as Texas and
North Dakota.

Why Oil Prices Plunged

Opinions differ about the relative roles
of supply, demand and other factors in the
oil price drop. An International Monetary
Fund report suggests that increased supply
accounts for 60 percent of the plunge.1 The
remainder is attributable to lower-thanexpected demand and a November 2014
decision by Saudi Arabia and OPEC to

maintain production levels, which changed

peoples expectations of future supply from
the cartel.
Some analysts believe that the appreciation of the dollar also played a role.
The decline of other currencies relative to
the dollar makes oil more expensive for
consumers outside the U.S. For example,
between the end of June 2014 and the start
of March, the euro lost about 20 percent of
its value against the dollar. All else equal,
this pushes higher the euro cost of oil relative to its cost in dollars.
We believe the major factor behind
the recent price decline is a shift in supply.
World oil production grew at a significantly
faster pace than demand in 2014 (Chart 3),
with some of the supply increase largely
expected, such as expansion of U.S. shale
output.2 However, there were some surprises to the upside, particularly OPEC
production in the second half of 2014. It
included higher-than-anticipated output
from conflict-riven Libya and Iraq as well
as the cartels November decision to maintain production levels.
On the demand side, daily world consumption rose by 900,000 barrels per day
last year, a hefty increase driven primarily
by economic expansion in the developing
world. The gain, however, was not quite as
large as forecast at the start of 2014. The
growth outlook for this year also dimmed

Economic Letter
Chart

in the second half of 2014, particularly

in emerging economies that had been
the prime source of new demand for oil.
Appreciation of the dollar weighed on
demand. The growing imbalance between
oil supply and demand eventually led to
falling prices in the second half of 2014.

As Late as November 2014, Many Expected

High Oil Prices in Early 2015

Dollars per barrel

120

OPEC meeting
(Nov. 27)

110
Median forecast of Brent
spot price in first quarter 2015

100
90

Global Growth Boost

The macroeconomic effects of falling
oil prices vary by country and over time.
They also depend on the persistence of
the decline. Importing countries such as
China, Japan and the U.S. stand to gain,
while oil exporting ones such as Russia,
Saudi Arabia and Venezuela will lose.
The overall effect on the global economy
should be positive since the economies of
the oil-importing countries are significantly
larger than the oil exporters.
Consumption gains arising from lower
oil prices will be smaller than in the past
because cars and homes are more energy
efficient. In terms of investment, firms in
the oil and gas industry are cutting their
capital expenditures, while companies
that use energy intensively may invest
more capital. The degree of additional
investment will depend on the persistence
of lower oil prices. Firms dependent on
energy are more likely to undertake capital
projects if they expect oil prices to stabilize
at $60 to $70 per barrel, rather than reverting rapidly to $100 per barrel. Overall, the
global impact on aggregate investment is
ambiguous.

80
70
60
50
40
Jan.
2014

March
2014

May
2014

July
2014
Date of forecast

Sept.
2014

Nov.
2014

Jan.
2015

SOURCE: Bloomberg.

Chart

Oil Prices Plunge in Second Half of 2014

Price per barrel

160
140

Brent spot price in dollars

120
100
80
Brent spot price in euros

60
40
20
0
2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

U.S. Economy Benefits

SOURCE: Bloomberg.

Chart

Oil Supply Grew Faster than Demand in 2014

Growth rates, million barrels per day

2.5

Forecast

2
1.5
1
.5
0
Non-OPEC production
OPEC production
World production
World consumption

.5
1
1.5

2013

SOURCE: U.S. Energy Information Administration.

2014

2015

The recent shale boom in the U.S.

increased the oil and gas sectors importance, although it remains a relatively small
part of the national economy. The share
of oil and gas in total employment peaked
in the early 1980s at close to 0.8 percent. It
declined until 2000, when it started growing again, reaching 0.5 percent recently.
The trend of oil and gas output as a share
of gross domestic product (GDP) is similar.
It fell from a high of 4 percent to less than
1 percent, and stands at about 2 percent
now. Despite the sectors growth, the U.S.,
as a net importer of oil, benefits from lower
oil prices because an oil price decline
means higher real (inflation-adjusted)
incomes for consumers, lower energy costs
for firms and lower headline inflation.
With lower oil prices, the consumer

Economic Letter Federal Reserve Bank of Dallas April 2015

Economic Letter
has more disposable income. Gasoline,
diesel and heating oil consumption
account for about 65 percent of total U.S.
oil use. The decline in pump prices provides consumers with more money for
purchases elsewhere. For example, the
Energy Information Administration (EIA)
estimated that households may have more
than $700 extra to spend this year as a
result of lower gasoline prices. A large part
of the gas savings will likely be spent, since
gasoline is a larger share of lower-income
households, and these households have a
higher propensity to consume.
For firms, less-expensive fuel leads to
more capital investment and more hiring. On the other hand, falling oil prices
reduce oil profitability, negatively impacting drilling activity. The U.S. rig count has
fallen sharply, down more than 850 from
December through late March. Many oil
and gas exploration firms have announced
layoffs and large capital expenditure cuts.
Although these reductions will negatively
affect economic activity, the impact will
likely be more than offset by the economic
positives.
Depending on which economic model
is used, a 50 percent oil price decline yields
a 0.3 to 1 percent increase in U.S. GDP. The
traditional rule of thumb has been that a
sustained 50 percent lower crude oil price
raises the growth rate by about 1 percentage point. However, since the U.S. produces more oil and uses it more efficiently
nowadays, the traditional rule of thumb
should probably be halvedthe reduction
should boost U.S. growth 0.5 percentage
point for a year or so.

employment associated with a 50 percent

oil price decline. Wyoming is affected
most, since it has the highest concentration
of energy-related employment. Texas, with
a more diversified economy, is affected less
than many other states.
Falling oil prices also hurt state budgets, some more than others. For example,
Alaska derives 80 percent of its tax revenue
from oil and gas; North Dakota, nearly 50
percent. Texas, owing to size and diversification, obtains 9 percent of tax revenue
from oil and gas. Oil and gas severance
tax revenue in Texas totaled $4.5 billion
in 2013. With the halving of oil prices,
and potentially lower production, those
receipts likely will significantly fall in 2015.

State Impacts Vary

Weaker Outlook

The costs and benefits of the recent

price decline are unevenly distributed
across the 50 states. A 2013 study suggested lower oil prices would adversely
affect employment in eight statesAlaska,
Louisiana, North Dakota, New Mexico,
Oklahoma, Texas, West Virginia and
Wyoming (Chart 4).3 These eight states
hold the highest concentration of energyrelated employment, typically in oil and
gas operations, refining, petrochemicals,
oilfield equipment and coal mining. Except
for refining, lower oil prices hurt these
industries.
The negative numbers on the map
are estimates of the percentage change in

Amid the oil price collapse, some fear

that Texas may experience a deep recession like the one in the mid-1980s. This is
unlikely. The Texas economy is more diversified now and the energy sector relatively
less important. For example, the share of
oil- and gas-related employment was 2.6
percent in 2014 compared with 4.7 percent
in 1982. The oil and gas sectors share of
output peaked at 19 percent in the early
1980s and was 13 percent in 2013.
The banking and savings and loan crisis in the late 1980s also resulted in a major
credit crunch, which contributed to the
depth and duration of the Texas recession.
Banks are better regulated now and more

Chart

Low Oil Prices Benefit Most States

2.0
4.3
0.7
0.7

2.3
1.2

1.7

1.6

Percent change in total employment as a result of 50 percent drop in oil prices

<2

2 to 0

0 to 1

>1

SOURCE: The Shale Gas and Tight Oil Boom: U.S. States Economic Gains and Vulnerabilities, by Stephen P.A. Brown
and Mine K. Ycel, Council on Foreign Relations, Energy Brief, October 2013.

geographically diversified after interstate

banking restrictions were lifted in the
mid-1990s.
Nevertheless, the Texas economic
outlook has weakened over the past six
months. The Texas Leading Index sustained a big hit due to the oil price decline,
presaging slower job growth.4 Last year, the
state added more than 384,000 nonfarm
payroll jobs (3.4 percent growth). The current forecast is for job growth of 1 to 2 percent, a lower rate than in recent years and
below the consensus forecast of 2.1 percent
job growth for the U.S. as a whole.

Market Uncertainty Elevated

The eventual impact of lower oil
prices will depend upon how long they
last. They are forecast to rise gradually,
though not back to the $100 per barrel level
anytime soon (Chart 5). The EIA anticipates the price of benchmark West Texas
Intermediate crude will rise by more than
20 percent, to more than $60 per barrel by
year-end; futures prices are somewhat lower. Significant uncertainty exists, though,
with a wide range of prices considered
likely in any given month.5
The predicted path of prices is influenced by what people think will happen to
demand and supply in 2015 and beyond.
Continued growth in the global economy
means the world will consume more oil
this year than last. Demand, which is not
very sensitive to price change in the short

Economic Letter Federal Reserve Bank of Dallas April 2015

Economic Letter

Chart

Prices Expected to Increase by 2016

shares of oil and gassuch as Texaswill

be hurt, while the majority will benefit.

80

Murphy is an economic policy advisor

and senior economist, Plante is a senior
research economist and Ycel is senior
vice president and director of research in
the Research Department at the Federal
Reserve Bank of Dallas.

60

Notes

Dollars per barrel

120
100

See Seven Questions About the Recent Oil Price Slump,

by Rabah Arezki and Olivier Blanchard, IMF Direct (blog),
Dec. 22, 2014.
2
The 43 percent drop in the Goldman Sachs commodity
price index for energy since June 2014 is far greater than the
declines in the industrial metals index (12 percent) and all
commodities index (17 percent) and supports the dominant
role of the supply shift narrative.
3
See The Shale Gas and Tight Oil Boom: U.S. States
Economic Gains and Vulnerabilities, by Stephen P.A. Brown
and Mine K. Ycel, Energy Brief, Council on Foreign Relations, October 2013.
4
For details of the Texas Leading Index, see Data Definitions
at www.dallasfed.org/research/basics/definitions.cfm. The
Texas nonfarm payroll employment model is described
in An Evaluation of Real-Time Forecasting Performance
Across 10 Western U.S. States, by Keith R. Phillips and
Joaquin Lopez, Journal of Economic and Social Measurement, vol. 34, 2009, pp. 11932.
5
The market puts a 95 percent probability that prices will be
between the dashed green lines in Chart 5.
1

40
20
0
Jan.
2014

Historical WTI spot price

Short-term Energy Outlook WTI price forecast
NYMEX futures price
95% NYMEX futures confidence interval
April July Oct.
2014 2014 2014

Jan. April July Oct. Jan. April July Oct.

2015 2015 2015 2015 2016 2016 2016 2016

NOTE: WTI is West Texas Intermediate crude oil. NYMEX refers to the price previously pegged to the New York Mercantile
Exchange.
SOURCE: U.S. Energy Information Administration.

run, will also rise in response to lower oil

prices, although this will take time. For
example, consumers are likely to drive
more and buy larger cars and trucks,
gradually replacing the nations vehicle
inventory.
On the supply side, lower prices should
slow supply growth, and the response may
be swifter now than in the past due to the
growing importance of horizontal drilling
and hydraulic fracturing. Initial production
rates from horizontal wells are very high,
so a decline in the rig count will eventually
result in lower output. On the other hand,
with prices low, many shale oil producers
are drilling but not fracking wells, leaving
oil in the ground. This implies that when
prices rise, oil output can increase relatively rapidly.

DALLASFED

Overall Outlook
Oil prices have declined substantially
amid burgeoning supplies and weakerthan-expected demand. The oil market
will adjust to this new environment. Lower
prices will eventually spur more demand.
Producers will pare supply growth,
although the adjustment will take time and
there remains significant uncertainty about
the future.
Despite the growing importance of the
oil and gas sector in recent years, the U.S.
as a whole benefits from lower oil prices
because they increase consumer disposable income and decrease firms energy
costs. Both factors should provide modest
boosts to economic activity. The benefits of
lower oil prices will be distributed unevenly among the states. Those with large

Economic Letter

is published by the Federal Reserve Bank of Dallas.

The views expressed are those of the authors and
should not be attributed to the Federal Reserve Bank
of Dallas or the Federal Reserve System.
Articles may be reprinted on the condition that
the source is credited and a copy is provided to the
Research Department of the Federal Reserve Bank
of Dallas.
Economic Letter is available on the Dallas Fed
website, www.dallasfed.org.

Mine Ycel, Senior Vice President and Director of Research

Carlos E.J.M. Zarazaga, Executive Editor
Michael Weiss, Editor
Jennifer Afflerbach, Associate Editor
Ellah Pia, Graphic Designer

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