November 21, 2014
The original meaning of crisis is a turning point, decisive or crucial in time, whether good or bad. The overused negative interpretation is that of a time of danger or threat. The United States is now living a real crisis - one that relates directly to the old meaning of the word.
The change in the global energy landscape - primarily due to America's fracking industry as well as advances in energy conservation - is decisively altering the American economy and America's role in the world.
Domestically, over a year's time, the drop in energy prices will allow every American household to save on average over $500. This beats any middle class tax cut. And these savings do not take into account diminished inflation as cheaper energy whether from manufacturing, farming, or shipping work their way through the economy.
Globally, the United States is now in a unique competitive position. It spends significantly less money abroad to import oil, giving its balance of payments a huge boost, and the oil it does import (America cannot produce certain grades) is on the whole cheaper than the oil other countries import.
Because the U.S. dollar is the reserve currency, most of the world's oil is traded in dollars. Thus when America imports oil, it is not affected by the change in value of the dollar versus other currencies.
With the recent rise in the dollar, Europe, just as one example, pays comparatively more for oil than does the United States. This does not mean that Europe, China, and Japan are not benefiting from lower oil prices. They are just benefiting less.
Revolutions in energy production
America is also now the largest producer of natural gas in the world. Natural gas is crucial in competitive heavy industrial manufacturing, and it is now substantially cheaper to purchase natural gas in America than in Europe or Asia. American gas sells for about $4 per million BTU, compared with about $10 in Europe and $18 in Asia. According to the IMF, this has led to a 6 percent average increase in America's manufactured exports, all thanks to sharpened competitiveness.
The International Energy Agency has warned that Europe will lose a third of its share of global energy-intensive exports over the next two decades, because its energy prices will remain higher than those in the United States.
The agency did not mention China, but obviously the situation there should be similar to Europe as concerns non labor-intensive, energy-intensive manufacturing.
Without the new energy savings, the American economy could well be either standing still or slowing. Europe is America's largest trading partner, and the fracking revolution has essentially vaccinated the American economy against Europe's economic malaise.
How low can oil go?
The question is how far oil can drop in price - at what point would further falls in the price of energy kill price incentive to invest in fracking, clean energy and conservation? Energy pricing is based on global supply and demand, plus the impact of government intervention. Most experts believe that the fall in price is the result of the introduction into markets of the U.S. fracking product. For example, the United States used to be the main buyer of Nigerian oil. Since the United States now buys very little from there, Nigeria has been forced to find a new customer at a cheaper price and on more difficult terms - China.
The medium breakeven price for U.S. shale oil is $60 per barrel. Let's add a $10 risk premium, the absence of which would limit investments in shale. So while predictions are of course difficult to make, there is sound logic to back a price in the $70 dollar area, below which shale production would slow, causing prices to stabilize or rise.
Crises are turning points and at any turning point one must be wise enough to force the situation and to take advantage of one's luck. With the development of fracking this happened. America's oft-disparaged political culture, and its hard to explain relationship with industry, functioned correctly.
There is a saying that America talks like Jefferson but acts like Hamilton. In other words, while Americans say they want government out of industry and individual enterprise, in reality government action spurs the economy. Whether developing the Erie Canal, extending rail networks, backing the development of airplanes or of the Internet, the American government often acts as the original venture capital firm for private innovation. Since the 1970s, the federal government has spent over $100 million funding basic research into fracking, while extending tax breaks to companies involved in the industry.
Dan Steward, an executive at Mitchel Energy, where fracking was first successfully developed, put it this way:
"[The Department of Energy] did a hell of a lot of work, and I can't give them enough credit for that. DOE started it, and other people took the ball and ran with it. You cannot diminish the DOE's involvement."
America's success in lowering energy pricing is also starting to pay substantial foreign policy dividends:
It is further pressuring Iran into pragmatism. Under the sanctions agreement, Iran is allowed to sell oil to only a few nations. Because of falling prices, in order to keep their economy above water, they need to increase the volume of their sales. If Iran enters into a nuclear deal with the United States, it will be allowed to openly sell more oil. Here again, the rules of supply and demand click in. Iran will add more to the oil glut, which will limit upward price pressure.
Because hydrocarbons are so crucial to Russia's economy, the falling oil prices proliferates the force of the sanctions on Putin. Take for instance the deals Russia signs to sell gas to China. Putin appears to believe China's rhetoric suggesting that Russia has a geopolitical friend in Beijing. More likely, however, China sees its dealings with Russia as an opportunity to acquire energy resources at fire sale prices. Lower energy prices also give China more space to re-orient its economy away from its reliance on exports - a necessary adjustment in addressing the global balance of trade, which many economists believe helped bring about the 2008 financial crash.
Globalization has redefined the definition of leadership. A nation's economic wellbeing is more than ever an outward sign of power. China exemplifies this new reality. Its defense budget falls far short of that of the United States, yet Beijing has the economic strength needed to propose several international development banks, as well as its Silk Road initiative. America needs to keep pace, and its economic revival, partially based on newfound energy wealth, lends fresh legitimacy to Washington's role as a global leader - under any definition.
Edward Goldberg is an expert on globalization and how geo-economic/political events shape our lives. He is an Adjunct professor at Zicklin Graduate School of Business, Baruch College, City University of New York. He is also on the adjunct faculty of the New York University Center for Global Affairs.
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