Inflation is finally down, but don’t pop the champagne just yet
Oil prices are up 15 percent compared to last year, while gasoline prices have hardly budged.
President Biden is cheering the latest CPI report showing that prices overall declined slightly in June from the prior month. In a statement, the president boasted, “Today’s report shows that we are making significant progress fighting inflation.” It was good news for the beleaguered White House, and for Democrats wanting to talk about something — anything — other than their diminished standard-bearer.
Left-leaning media allies joined the exuberant chorus, happy to pump up Bidenomics, if not Biden. The Washington Post’s Heather Long led the charge, giddily posting on X: “Inflation actually DECLINED -0.1 percent in June. That's the first decrease since the pandemic month of May 2020. -Gas prices declined in June -Electricity prices declined in June -Rent had its smallest monthly increase (0.2%) since August 2021.”
Despite the news, the White House would be smart to keep the cork in the champagne bottle. Yes, inflation dropped slightly month to month in June, but prices were still 3 percent higher than a year ago — far from Fed Chair Jay Powell’s 2 percent target. Also, much of the improvement came in energy prices, which were off 2 percent from June’s level, and especially gasoline, which was down 3.7 percent. That will not last.
Oil prices are up 15 percent compared to last year, while gasoline prices have hardly budged. The average retail price for regular gasoline today is $3.60 per gallon; a year ago it was $3.66. As AAA reported recently, stating the obvious, “With oil costs accounting for about 54 percent of what you pay at the pump, more expensive oil usually leads to more expensive gas.”
Energy prices are volatile, like food prices, which is why both are removed from the so-called “core” report. But the price of gasoline and fuel oil factor into the headline number and were a main cause of the disappointing inflation readings earlier this year.
Prices for gasoline had dropped for months, but suddenly reversed in February (up 3.8 percent over January) and moved higher in March and April, squelching prospects for a rate cut. Now we have seen two consecutive months of decline, but the cost of filling your tank in the coming months almost certainly will jump.
Note to Biden: consumers don’t care a fig for the CPI — but they really, really care about gasoline prices.
Oil prices are subject to global supply and demand shifts as well as geopolitical developments. A major factor keeping a lid on oil prices in recent years has been the surprising turnaround in U.S. production, which began to decline in 1970 at 10 million barrels per day and then bottomed at less than 4 million per day during the recession of 2008. Thanks to technological improvements, and especially to fracking and the “shale revolution,” the U.S. is currently producing 13.2 million barrels per day, an astonishing and unexpected accomplishment that has proved enormously beneficial to U.S. consumers.
In coming months, U.S. output will likely decline. Efforts by the Biden White House to slow permitting and leasing, to increase costs and taxes on oil companies and to put off-limits productive new areas like the Arctic National Wildlife Refuge are projected to drive down U.S. production.
There are only 585 rigs currently drilling in the U.S. today, down 13 percent from 675 a year ago. In July 2019, when President Trump was in the Oval Office and encouraging domestic energy production, there were 954 rigs operating. That drop in drilling activity is not due to falling oil prices; in July 2019, the price of West Texas crude oil was $56 per barrel. Today it is $82. Were it not for the actions taken by the Biden administration to accelerate an unrealistic switch to renewable energy and discourage our use of oil and gas, we would have more drilling taking place, and even higher production.
What’s more, there is a lag between drilling and production. That means the downturn in rig count portends an eventual drop in output. Not only is the overall rig count down, the amount of horizontal drilling taking place is off 20 percent from its recent peak, suggesting that all-important shale output, which has accounted for much of our production gains, will drop too.
That will give more pricing power to Saudi Arabia and other members of OPEC+, which have cut their output sharply this year to keep prices high. The U.S. is the world’s leading oil producer today; the lower U.S. production falls in the coming years, the easier it will be for other major producers to drive prices higher.
Recent reports show U.S. demand for oil rising seasonally, as it usually does, and beating some forecasts as Americans take to the roads for summer holidays. Hurricane season also portends shutdowns of Gulf Coast refiners, adding to upward pressure on gasoline prices. Some analysts are predicting that oil prices, which have moved higher in recent weeks, will trend toward $90 per barrel; gasoline prices will follow.
Increases in demand for oil in the near term may be met by Saudi Arabia, which has cut back exports substantially to stabilize prices. Saudi exports dropped dramatically in June by 930,000 barrels per day, to 5.42 million barrels per day — a level not seen since at least 2013. That is how committed Saudi Arabia is to maintaining high prices. It is unlikely that if prices rebound to $90, the kingdom will immediately open the spigots.
Biden took a victory lap in his statement celebrating the June CPI report, claiming that it is his policies that have brought inflation under control, including “taking on Big Oil to lower prices at the pump.” What he has actually done is create an environment in which Big Oil will invest elsewhere, and where production in the U.S. will start to drop.
Biden has promised to “do everything I can for the working people that built our economy,” but don’t expect him to keep gasoline prices low by encouraging U.S. oil production.
Liz Peek is a former partner of major bracket Wall Street firm Wertheim and Company.