Monday, May 19, 2008

$10/Gallon But SOC Thinks This Is Ignorant Optimism

What if gas cost $10 a gallon?
Forget pizza delivery. And cheap airfares. And bottled water. In fact, forget a way of life that looks much like today's. But would that be so bad?
By Shirley Skeel
Editor's note: This is one in an occasional series of financial what-ifs.
In four years, U.S. gas prices have doubled to more than $3.70 a gallon, and crude oil has tripled to around $125 a barrel. Allowing for inflation, that's higher than prices were during the 1978–83 oil shock that triggered a recession and sky-high interest rates. But . . .
What if gas cost $10 a gallon?
Thousands of truckers would go bankrupt. Airplanes would sit idle in hangars. Restaurants and stores would shut down. Car-pooling, hybrid vehicles, scooters and inline skates would swing into vogue. And telecommuting, rooftop vegetable gardens, home cooking and recycling would proliferate.
Talk back: Who still says 'Fill it up'?
Yes, it would be painful. At $10 a gallon, filling a Ford Explorer could cost $225. Even gassing up a Honda Civic could set you back $132.
And suddenly the bus wouldn't look so bad.
A large recession, not a depression According to Todd Hale, a senior vice president for consumer researcher Nielsen, at $10 a gallon, the average family's gas bill would leap from 16% of its retail spending to about 40%. People would drive less, yes. But many have to drive to work or the supermarket, and they'd cough up the cash -- screaming all the way -- and cut back elsewhere.
(Above right: Use the calculator to see what your yearly gas bill would look like.)
Businesses and farmers, meantime, would be squeezed as the costs of transport, petrochemical fertilizers and plastics rose. If an oil shock came quickly, sending gas to $10 a gallon and oil to roughly $350 a barrel, the chain reaction of spiraling prices and sliced consumer demand would hit us hard.

"It would be a large recession, not a depression," says Michael Englund, the chief economist for Action Economics in Boulder, Colo. That would mean tight budgets and unemployment until the economy adapted and growth returned.

Here are some likely effects:
Consumer spending on eating out, clothing, electronics, vacations and other little luxuries would fall sharply. A Nielsen study found that even at recent gas prices, 41% of consumers were eating out less. In total, 18% of those surveyed were cutting spending to a "great degree." That would bruise companies such as Applebee's, Macy's, Gap, Best Buy and others. But discount retailers, particularly those selling food and gas, could do relatively well. Think Costco, Wal-Mart and McDonald's.
We'd see "a lot of parked planes," says Bill Swelbar, an air transport engineer for the Massachusetts Institute of Technology. The U.S. airline industry pays out $465 million in fuel costs for every $1 rise in oil. At $350-a-barrel oil, the industry would pay more than $100 billion extra, almost as much as last year's total airfare sales. Even if airlines ratcheted up fares 50%, half of their airplanes would be grounded because they'd be too expensive to fly, Swelbar reckons.
Many independent truckers, who pay for their own fuel, would go bankrupt as their costs soared and shippers switched to barges and trains. Taxis and FedEx would be strictly for the well-heeled. And home pizza deliveries would cease. Pizza delivery drivers also pay for their own gas. "It'd be brutal," says Joseph Miller, an assistant manager at a Domino's Pizza in Seattle. "I would think we wouldn't have any drivers."
Food prices could jump by a third or more, experts estimate. About 80 cents of the $4.50 retail cost of a box of cornflakes goes to transport it, says Dan Basse, the president of AgResource, a Chicago research company. On top of that, there's the cost of fertilizers to grow the corn and diesel for farm equipment. In 2005, transportation and energy made up 8.5% of all retail food costs, but energy was far cheaper then. As $10 gas pushed up food prices, pinched consumers would give up pricey fresh meat and vegetables for cheap pastas and oils. Ranchers and dairies with energy-hungry milking barns would struggle. And cities might sprout to life as people planted vegetable gardens on their roofs and balconies and in vacant lots.
Plastics for appliances, packaging, pacemakers and myriad other products would jump in price as the natural gas that plastic is made with rose in value alongside oil. Bill Wood, the president of Mountaintop Economics and Research in Massachusetts, says shoppers would have a choice: "Paper or paper?" Small plastic bottles of water would disappear. Glass and metal containers would make a comeback. And recycling would explode. Families might even have nine bins in the hall to separate their trash, as they do in Japan, where consumer recycling tops 90%.

Prediction: $200 oil, $5 gasEconomists say oil prices could continue to surge in the next two years, with prices as high as $5.60 a gallon at the gas pump possible.
As drivers began to switch to 100-mile-per-gallon plug-in hybrid cars (already expected to launch by 2010), the electricity grid could come under strain. Theoretically, if everyone had one and plugged it in at night, the grid could handle 84% of the nation's car fleet. But to avoid the risk of city brownouts, the grid capacity would have to rise. Solar, wave and wind power would ramp up. Giant solar thermal power plants, which use mirrors to concentrate the sun's energy, would be built. But in the rush to get power, we'd probably also step up the use of cheap, dirty coal (50% of our electricity generation now). Even nuclear power (21%) could be considered anew.
Resistance to drilling for oil in Alaska's Arctic National Wildlife Refuge and off California would shrink. Environmentalists might stand their ground. But as James Williams, an energy economist for WTRG Economics in Arkansas, says, "Let's put it this way: Y'all wanna drive?" Oil reserves in both areas are thought to be more than 10 billion barrels, double the proven reserves in Texas. That would help feed America's 21-million-barrel-a-day appetite.

After the hurt, some benefits There'd be other ramifications, too. The federal government's deficit would balloon as it paid for energy incentives and social welfare. We could even see civil unrest as the poor scrambled to survive.
Suburbanites would crowd into urban town houses to avoid costly commutes, and working from home would become common. Eventually, public transportation might even improve.
Some of these things, such as small cars and excellent public transportation, are already entrenched in Europe and Japan. Gas prices there are the equivalent of $8 to $10 a gallon, largely because of high taxes. They live with it. We could, too.
In the longer term, we might even be better off.
As the economy adjusted to functioning with new energy sources and more-efficient energy use, jobs in engineering, science, alternative energy and conservation would boom.

Matthew Simmons, the founder of investment bank Simmons & Company International in Houston, says he thinks a good slice of the hundreds of billions of dollars that would flow to oil-producing nations would filter back to the U.S. He believes the oil industry infrastructure is aging and America would be called on to help.
"We'd have a more engineer, blue-collar, scientific world, versus the Starbucks, high-tech business that we've been in," he says. Not to mention that America's Achilles' heel -- its dependency on foreign oil for 60% of its needs -- would finally have a remedy. A painful one, but effective.
Will gas cost $10 a gallon anytime soon? It's unlikely, though short-term expectations of $4 or even $5 gas this year are increasingly common.
But most oil specialists believe that in the near term, $10 gas couldn't happen -- or that if oil hit $350 a barrel through some Middle East disaster, it would be short-lived. They say demand would fall sharply, bringing oil prices back down. Adam Sieminski, the chief energy economist with Deutsche Bank in Washington, D.C., puts the probability at less than 3%.
Richard Heinberg, a senior fellow at the nonprofit Post Carbon Institute in Sebastopol, Calif., disagrees. He believes it could happen within five years (of course, $10 likely would be worth less then).
More than half of the world's oil producers, including the U.S., Britain, Mexico, Venezuela and Russia, are seeing production decline, Heinberg says. Meanwhile, demand is growing at 1.5% to 2% a year. Heinberg says the OPEC countries need their reserves to meet booming demand at home and that at some point, oil will become scarce.
The result: Prices will shoot up.

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