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Energy Voices: Insights on the future of fuel and power

How high oil prices hurt wages and limit economic growth

Wages don’t rise at the same time as oil prices rise, Tverberg writes. The result is a mismatch between what citizens can afford, and the cost to manufacture and transport products.

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We have discussed previously why high oil prices can be expected to have an adverse impact on wages. There are multiple ways this can happen. For example, oil plays a very direct role in growing and transporting food and in making gasoline. Thus, the cost of food and of commuting increases. This causes people to cut back on discretionary expenditures, leading to layoffs in discretionary sectors. Lay-offs in discretionary sectors means fewer jobs.

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Gail Tverberg, an actuary with a background in math, analyzes energy and financial matters from a perspective that the world has limited resources. For more of Gail's posts, click here.

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Another thing that happens is a change in the competitive situation that indirectly leads to layoffs. Oil is used in transporting many types of goods, and is used in producing a wide variety of products, such as asphalt shingles and synthetic cloth. Wages don’t rise at the same time as oil prices rise. The result is a mismatch between what citizens can afford, and the cost to manufacture and transport products. Some customers are “priced out” of the market. Businesses find that they must scale back the size of their operations to produce only the amount customers can afford. For example, a delivery service will operate fewer vehicles, if demand is lower, laying off workers.

Also playing a role in reduced employment is increased competition from China, India, and other low wage countries. These countries typically use a lot of coal in their energy mix, so are less affected by high oil prices. As a result, their prices become more competitive as oil prices rise.

Changes in trade agreements can also be expected to play a role in the competitive situation. China started growing rapidly immediately after it joined the World Trade Organization in December, 2001. The big drop-off in US employment coincides very closely in time to the time China started growing quickly.

Another factor in reduced wages is increased automation, in an attempt to compete with low-wage countries. An employer may replace several workers with a single worker, using a new high-tech machine. The worker with the new machine may earn more, but the others are left to find jobs elsewhere.

Going forward, increased retirement of “baby boomers” is likely to add further challenges. Retirees will need to be fed and cared for, mostly from taxes on current workers. In theory, the retirement of baby boomers should leave more jobs for unemployed young people, but this will depend on whether such jobs are really available.

One important point is that the impact of high oil prices on wages doesn’t “go away” to any significant extent over time. This is clear from Figure 4, and is a point I have made previously. Increased fuel efficiency helps a bit, as do adaptations like finding a job closer to where a person lives. But high oil prices continue to make goods that are made using oil less competitive on a world market. High oil prices also continue to make increased automation attractive, and continue to keep the cost of transport of high. Individuals find they need to permanently cut back on discretionary spending to balance their budgets.

Oil prices are likely to remain high, and in fact, rise in the future. When we started extracting oil, we began with the easy (and cheap) to extract oil first. Now, the inexpensive to extract oil is mostly gone; what is left is high-priced oil.  Over time, the price becomes even higher, as diminishing returns set in. The recent publicity about the possibility of more tight oil in the United States doesn’t change this dynamic. What the press releases don’t say is that this oil will only be available if it is sufficiently high-priced. A recent survey by Barclays indicates that North American oil and gas companies are anticipating less than a one per cent increase in “exploration and production” expenses in 2013; current North American oil and gas prices are not high enough to justify much increase in investment.

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