Oil shocks and recession: consider ourselves warned
Posted April 6, 2009 at 9:49 am 
Filed in: Further confirming that the 2007-08 oil shock was a trigger, catalyst or multiplier for the U.S. recession is the work of UC San Diego Professor James Hamilton, reported in this morning’s Financial Times and found on the web at http://www.econbrowser.com/archives/2009/04/consequences_of.html. Prof. Hamilton’s paper, Causes and Consequences of the Oil Shock of 2007-08, compares the work of several economists, including his own modelling, and reaches the stark conclusion that ”had there been no increase in oil prices between 2007:Q3 and 2008:Q2, the U.S. economy would not have been in a recession over the period 2007:Q4 through 2008:Q3.”
Even Professor Hamilton doesn’t fully accept his own data:
“The implication that almost all of the downturn of 2008 could be attributed to the oil shock is a stronger conclusion than emerged from any of the other models surveyed . . . and is a conclusion that I don’t fully believe myself. Unquestionably there were other very important shocks hitting the economy in 2007-08, first among which would be the problems in the housing sector. . . . . Something in addition to housing began to drag the economy down over the later period, and all the calculations in the paper support the conclusion that oil prices were an important factor in turning that slowdown into a recession.”
Specifically, Hamilton found that the “biggest drops in GDP come significantly after the oil price shock itself. What we saw in earlier episodes was that the drops in spending caused by the oil price increases resulted in lost incomes and jobs in affected sectors, with those losses then magnifying other stresses on the economy and producing a multiplier dynamic that gathered force over subsequent quarters.”
Most analysts believe that the last oil shock won’t be the last oil shock–that this new era of demand-led oil price increases will resume once economies begin heating up again. Preventing the next global recession may have more to do with reducing our economic dependence on oil than most policymakers appreciate.
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