Thursday, November 1, 2007

Why up is really down

A few people are questioning whether its strange that surging oil price could led to falling domestic inflation?

It is a little strange at first but the answer is simple.

From a consumers point of view gasoline prices were pretty flat. So the gasoline price change is 0%.

We get gasoline by refining foreign oil here in the United States. So

Foreign Oil + Domestic Refining = Gasoline

However oil prices went up 10%. And gasoline prices stayed the same, So


10% + X = 0% =>

X = -10%

Or domestic refining prices fell by the equvialent of a 10% increase in the price of oil.


That has to be true or else the increasing price of oil would have caused increasing gasoline prices. If something is going up and the total is staying fixed then something else must be falling. That something else is domestic refining.

Now what does this mean for GDP?

Not much. The higher oil prices made our domestic refining seem more efficient which would tend to boost GDP. Yet, the higher oil prices also lowered our net exports which decreases GDP. The two effects cancel out.

13 comments:

Steve said...

Didn't we see somewhat of the reverse in Q2? Gas prices were shooting up much faster than oil prices were due to the refinery issues.

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