Oil Shocks in a Global Perspective: Are they Really that Bad? Tobias N. Rasmussen and Agustin Roitman; IMF Working Paper.
A rise in crude oil prices is often viewed with alarm, particularly in oil importing countries like India. But how badly are they really affected? By how much is growth in gross domestic product reduced as a result of higher oil prices?
In this paper,Tobias N. Rasmussen and Agustin Roitman explore these questions, particularly for oil importing countries.
One problem is that oil prices are usually high when the world economy is doing well. By way of example, consider the recent fall in oil prices as soon as it became evident that the world economy is unlikely to see a V-shaped recovery. The authors study 12 episodes since 1970 in which oil prices have reached three-year highs and then check the impact it has had on growth. To further refine their analysis, they split their sample of 144 countries into four groups: Oil exporters, oil-importers of the OECD group of countries; middle-income oil importers and low-income oil importing countries. The first thing they find is that oil prices and gross domestic product tend to move in the same direction. This is true even for oil-importing countries on average.
The second fact, a rather obvious one from the oil importers’ point of view, is that oil prices and imports tend to move in the same direction. And thirdly, oil prices and exports too move in the same direction. The authors sum up the results: “From these three stylized facts we conclude that oil prices tend to be positively associated with economic activity and also that the degree of co-movement has strengthened over time. The relationship is strongest for oil exporters, as one would expect, but is also clearly present among the majority of OECD countries and—somewhat less strongly—in oil-importing developing economies. This suggests that, especially in the second half of our sample period, variation in oil prices has been driven more by variation in demand than by variation in supply. Accordingly, oil price increases during the past two decades appear to a large extent a reflection of good times for the global economy.” But a big jump in oil prices may have negative outcomes, particularly for countries that are large oil importers. The authors find that a large part of the negative impact of higher oil prices is offset by higher exports to oil exporting countries as well as income from remittances and from investment by oil exporters. Nevertheless, for countries with an average ratio of oil imports to gross domestic product of 4% or more, the results show that a 25% increase in oil prices will reduce real gross domestic product in that year by 0.3%. If the effect on output over two years is taken, the effect is a reduction in gross domestic product of 0.8%. The US, however, has been somewhat of an outlier among oil importers and it has been affected very negatively by higher oil prices. The authors also find that high oil prices have usually been associated with better demand conditions, rather than a curtailment of supply. They advocate efforts to reduce dependence on oil to minimize the impact of high oil prices.
What about the impact on India? The tables for individual countries at the end of the paper show that real gross domestic product growth in oil shock episodes between 1970 and 2010 minus median growth is positive for India, although by less than half of one percentage point. The same metric a year after the oil price shock is also positive for India, by more than 0.5 percentage points.
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