Pocketbook pinch ahead – if soaring oil prices stay high

Consumers would feel the effects in the next few weeks, from the pump to the airline counter.

from the October 18, 2007 edition

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Mr. Norman says it hasn't helped that hedge funds, pension funds, and wealthy individuals are speculating in the energy markets. Also, the falling value of the US dollar puts pressure on producers to raise prices to make up for their lost purchasing power, since most oil is priced in dollars.

How much higher can the price of crude go? Flynn says $89 a barrel is certainly possible. If the price moves through this level, he says the next stop is $93 to $94 a barrel. But, he adds, "The price has moved up so fast, it's due for a correction."

Consumers seem to be expecting price hikes, says Richard Curtin, director of the Reuters/University of Michigan Surveys of Consumers. "In October, they said they expected gasoline prices to go up 15 cents a gallon at the pump in the year ahead," he says. "Over the longer term they are even more negative, anticipating a 60-cent-a-gallon rise in the next five years."

In the past many consumers have shrugged off rising prices at the pump. "Consumers are only spending 4.5 percent of their budget on gasoline, which is less than they spend on eating out and less than entertainment," says Mr. Felmy. However, he adds, "We are in somewhat uncharted territory."

There is little doubt that lower-income Americans will feel the rising cost of energy this winter. Wal-Mart, the nation's largest retailer, is already starting to discount its holiday merchandise.

"Rising energy prices will put a crimp in the spending patterns of consumers on a tight budget," says Lynn Franco, director of the Consumer Research Center at the Conference Board, a New York business-research group. "The initial forecast is for a subdued holiday season. If you couple in higher gasoline prices with the possibility of a colder winter, it will obviously have a greater impact."

In September, before oil prices started to climb, inflation was moderate. Yesterday, the Labor Department said September consumer prices rose by 0.3 percent, mainly because of rising food prices. However, oil prices have soared since then.

If prices hold at these levels, Norman expects business will try to pass the costs on to consumers. "They will probably add surcharges or bump up list prices or reflect the higher energy costs in contract renegotiations," he says. "They will be successful in varying degrees."

Consumers have been fortunate so far that gasoline prices have been slow to rise, says Geoff Sundstrom, a spokesman for AAA, a national motorist organization based in Heathrow, Fla. "This is the time of year when demand is the softest," he explains, adding, "that situation is coming to an end and it is only a matter of days or weeks before the gasoline price starts to rise."

At a minimum, Mr. Sundstrom anticipates a rise of 10 cents a gallon.

Consumers are also likely to see prices rise for airline fares, says aviation economist Dave Swierenga of AeroEcon in Round Rock, Texas. "I expect the industry will be boosting prices to cover this added cost, but the timing is hard to say since the industry is so competitive."

"But this is a huge increase in what is now the single largest ... expense for the companies," he adds.

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