James Bullard

English

Research Papers in Economics

NationalEconomicTrends
October 2000
What Constitutes a 
High Price of Oil?
Economists have been concerned about oil price
shocks since the 1970s and 1980s, when sharp increases
in crude oil prices were associated with both declines
in real output and increases in inflation in many indus-
trialized countries.  A run-up in crude oil prices over
the last eighteen months has caused a good deal of
concern that a new shock is in the making.  A severe
enough change in prices might be enough to end the
long U.S. expansion and simultaneously raise infla-
tion.  But, what would “severe enough” be?
In a previous cover page (NET, April 2000), I argued
that the “real” or constant-dollar price of crude oil—the
spot crude oil price deflated by the consumer price
index—was quite a bit higher in the past, peaking at
more than $75 per barrel (in today’s dollars) during
the early 1980s, versus a price less than $30 per bar-
rel as of March 2000.  However, one might argue that
the very high prices observed during the 1970s and
1980s are irrelevant today.  U.S. firms and households
may have become accustomed to the
new, lower price of oil that has prevailed
over the last decade and a half. If that is
the case, then current prices may be
moving out of that comfort zone.  In par-
ticular, businesses and consumers may
have become used to the very low crude
oil prices associated with the Asian Crisis
during 1998. So, are current prices unusu-
al when compared to recent experience?
The chart suggests that the answer is “no.”
The chart shows the monthly average
of the real spot price of a barrel of West
Texas Intermediate crude oil from 1988
to the present, in today’s dollars.  The
inflation-adjusted price has fluctuated
around a mean of $23.50, represented by
the flat line through the middle of the data.  Of
course, the price of oil is determined in a volatile
global market, and one way to measure the volatility
is to calculate a standard deviation, which is about
$5.24 for these data.  The two lines through the top
and bottom of the data represent the mean plus or
minus two standard deviations, respectively, a rule of
thumb that can help us think about what would con-
stitute an “unusually high” oil price.  Observed prices
outside these bands would be considered very unusu-
al according to the rule of thumb.
According to the chart, there are only two periods
of very unusual real crude oil prices during this peri-
od.  One occurred during 1990-91, when the Gulf
War caused prices to spike.  The other occurred dur-
ing 1998, when the Asian Crisis sent prices to very
low levels.  Current prices, by contrast, do not seem
very unusual by this calculation, since they remain
well within two standard deviations of the mean.
Thus, while the real price of oil has increased sub-
stantially, much of the increase represents a return to
the mean from very low levels experienced during 1998.
—James Bullard
Views expressed do not necessarily reflect official positions of the Federal Reserve System
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1988 1990 1992 1994 1996 1998 2000
Mean
+/- 2 Std. Dev.
Real Oil Prices
Monthly Average of Daily Data.

What constitutes a high price of oil?

http://research.stlouisfed.org/publications/net/20001001/cover.pdf

What constitutes a high price of oil?

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