Over the past year, there has been some concern over the potential economic impact of unusually high natural gas prices. Although natural gas prices declined from $10 per thousand cubic feet (mcf) in December 2005 to about $6 recently, the Energy Information Administration (EIA) expects prices to return to the unprecedented price levels of last year as we move back into this winter’s heating season. The recent decline reflected recovery of the natural gas industry from the hurricanes of last year, increased supply moving into the U.S. through pipelines and liquefied natural gas terminals, and moving away from last winter’s heating season. Because of the expected resurgence of natural gas prices, there has been continuing concern over the potential economic impact of unusually high natural gas prices.
We examined the macroeconomic and industrial impacts of a $2 per mcf increase in natural gas prices above those embodied in the EIA long run price projections for natural gas through 2020. Oil prices were assumed to follow the EIA baseline, with no significant impact from the rise in natural gas prices. We used INFORUM’s LIFT model of the U.S. economy to analyze the impact of higher natural gas prices.
We concluded that these levels of higher natural gas prices would (1) cause the economy to grow moderately more slowly through 2008, but the effects would not be enough to cause a recession; (2) reduce the growth in industry output and job creation in the economy; and (3) induce individual and business consumers to use less natural gas and, alternatively, use more electricity.
In summary, we found that—
• In 2006, real Gross Domestic Product (GDP) growth slows by 0.1 percentage points below the baseline growth. In 2007 and 2008, growth falls by another 0.1 percentage points. Given the strong momentum of economic growth, such slowdowns are far from what it would take to induce a recession. After 2007, real GDP growth rates more-or-less follow the baseline forecast through 2020.
• The unemployment rate is 0.1 percentage point higher through 2010, at the height of the labor market impact. After 2010, the difference diminishes as the economy adjusts.
• Compared with the baseline, the higher natural gas prices push up consumer prices, as measured by the personal consumption expenditure (PCE) price index, by 0.2 percent and 0.5 percent for 2006 and 2007, relative to their baseline levels. By 2008, the PCE deflator is 0.6 percent greater than the baseline level.
• Real disposable income is reduced up to 0.4 percent in 2008 leading to an overall reduction in personal consumption expenditures of 0.1 percent during the simulation period.
• Industrial output growth is affected adversely—but the impact is small—across all sectors of the economy through 2008.
• The competitiveness of domestic natural gas intensive manufacturing industries is adversely affected. The import share of domestic consumption for such industries as agricultural chemicals, other chemicals and stone, clay, and glass products rises significantly.
• Higher energy prices mean that the number of jobs that the economy creates is reduced. In this scenario, instead of creating 1.9 million new jobs in 2006, the economy creates 1.8 million new jobs—a difference of 100,000 jobs. In 2007, the impact is a bit larger, with employment 206,000 jobs below the baseline. Missing jobs peak in 2008 at around 229,000—accounting for about 0.2 percent of total private employment.
• The main channel through which higher gas prices affect the economy is through lower real incomes. Consequently, the impact on jobs and production is broad-based. Construction, wholesale and retail trade, and finance and insurance are industries that experience the most jobs lost relative to the baseline. Gas utilities and industries that are natural gas intensive such as agricultural fertilizers and chemical producers have the largest employment effects relative to their size.
• Reductions in real income account for the bulk of job loss relative to the baseline in general consumer-related industries such as wholesale trade, retail trade, and construction. In general, jobs impacts by state are proportional to the size of these sectors for each state, which are, in turn, roughly proportional to each state’s employment share. Therefore, California, Texas, New York and Florida lose the most jobs relative to the baseline, in that order. Pennsylvania, Ohio, and Illinois come in close together at fifth place.