Commodities
US Oil Shock Carries Smaller Employment Risk but Inflation Threat Remains, Boston Fed Says
A 33% oil price shock linked to the US-Iran conflict is generating inflation risks, although the US economy now appears less vulnerable to energy disruptions than it was in the 1970s, the Federal Reserve Bank of Boston said in a Thursday note.Few tankers have crossed the Strait of Hormuz since late February, disrupting roughly one-fifth of global seaborne oil trade and pushing West Texas Intermediate crude prices from $65 per barrel in February to nearly $100/bbl in May, the report said.Using Hamilton's oil shock methodology, the Boston Fed estimated the current shock at about 33%, roughly half the size of the disruptions caused by the 1973-1974 OPEC embargo and the 1978-1980 Iranian Revolution.The report said higher oil prices typically increase costs across the economy, fuel inflation and weaken consumer spending, developments that have historically contributed to economic downturns and stagflationary conditions.Personal consumption expenditures inflation increased to 3.8% in April from 2.9% in February, largely reflecting higher energy costs, while inflation has remained above the Federal Reserve's 2% target for more than five years, the report said.The Boston Fed said structural changes have reduced the economy's sensitivity to oil shocks, citing stronger domestic production and lower energy consumption relative to overall economic output.The US economy consumed nearly one barrel of oil for every $1,000 of real output during most of the 1970s, but current oil intensity has fallen to less than one-third of that level, according to the report.Net oil imports accounted for roughly two-fifths of domestic consumption in the 1970s and about one-third by the mid-1980s, while the shale boom helped the US become a net oil exporter by 2019, the report said.The report found that a 33% oil shock would have increased year-ahead headline PCE inflation by about 2.2 percentage points before the mid-1980s, compared with roughly 1.5 percentage points today.The relationship between oil shocks and core PCE inflation weakened significantly through the mid-1990s, then strengthened modestly over the past decade, according to the report.A shock of the current magnitude would have reduced year-ahead employment growth by about 1.8 percentage points during the 1970s, but that effect has largely disappeared since domestic oil production accelerated around 2010, the report said.New Mexico, North Dakota, Alaska, Oklahoma and Texas accounted for 82% of US oil and gas extraction output in 2024, while the industry represented about 1% of gross state product nationally.The Boston Fed estimated that, 12 months after a 33% oil shock, employment growth in Texas would run about 1.7 percentage points above that of an average-producing state, while Massachusetts would lag by roughly 0.4 percentage points.The Boston Fed said oil shocks now pose a greater inflation challenge than an employment challenge, suggesting policymakers should place more emphasis on inflation risks when responding to future energy market disruptions.