Economics 201

Case of the Day: Tracing the Effects of the Oil Embargo

 

In 1973-74, OPEC imposed an embargo on exports to the United States and subsequently increased the price of oil fourfold. More recently we have all experienced another rapid increase in world oil prices that is causing significant readjustments in the U.S. economy. The case asks you to consider how oil shocks affects other markets in the U.S. economy, including both product and factor markets.

Oil is used to produce many other goods and services in the economy, and is also used heavily directly by final consumers. The best data on use of particular commodities within the economy comes from the detailed input-output tables that are published by the Burean of Economic Analysis. Table 1 shows the use of crude petroleum and natural gas in the U.S. economy in 1992. (This is the closest input-output table I could find in the Reed Library. Keep in mind that changes in oil prices would affect how it is used and that the 1992 numbers may be somewhat different than those of 1973-74 or those now.) The BEA tables do not report crude petroleum separately from natural gas.

Table 1. Uses of crude petroleum and natural gas

Using industry

Amount used (millions of dollars)

Petrolem refining and related products

74,499

Gas utilities

38,755

Crude petroleum and natural gas

20,296

Industrial and other chemicals

3,459

State and local government enterprises

630

Agricultural fertilizers and chemicals

624

Plastics and synthetic materials

237

Pipelines, freight forwarders, and related services

83

Electric utilities

9

Wholesale trade

9

 

As you can see, the vast majority of crude petroleum and natural gas goes to three industries: petroleum refining, gas utilities, and back into its own industry. The use of crude oil and gas within the crude oil and gas industry is probably mostly as a fuel for oil wells and drilling facilities, so we may neglect this and focus on the net output of the industry. The part of net output that goes to the gas utility industry is almost surely dominated by natural gas and not crude petroleum, so it seems safe to conclude that our focus in analyzing the impact of a change in the availability of crude petroleum should be on the petroleum refining industry.

Table 2 presents a similar breakdown of the 1992 use of the output of the petroleum refining industry.

Table 2. Use of petroleum products by industries, 1992.

Using industry

Amount used
(millions of dollars)

Agriculture, forestry, & fisheries

4251

Mining

2019

Construction

10011

Manufacturing:

23038

Food and kindred products

1283

Tobacco products

55

Textiles and apparel

412

Lumber and wood products

624

Furniture and fixtures

217

Paper and allied products

879

Printing and publishing

328

Industrial and other chemicals

1891

Agricultural fertilizers and chemicals

183

Plastics and synthetic materials

199

Drugs

83

Cleaning and toilet preparations

423

Paints and allied products

142

Petroleum refining and related products

12427

Rubber and miscellaneous plastics

322

Footwear, leather and leather products

50

Stone, clay, and glass products

579

Primary metals manufacturing

743

Metal products

442

Nonelectrical machinery

404

Electrical machinery

545

Motor vehicles and parts

349

Aircraft and other transportation equipment

275

Instruments

183

Private services:

39898

Railroads

3336

Motor freight transportation

7930

Water transportation

727

Air transportation

9451

Pipelines, freight forwarders, and related services

182

Communications

251

Electric utilities

2198

Gas utilities

353

Water and sanitary utilities

722

Wholesale trade

3476

Retail trade

2787

Finance, insurance, and real estate

1079

Miscellaneous services

2399

Restaurants

722

Automotive repair

1962

Amusements

352

Health services

1005

Educational services

966

Government services:

7046

Federal

734

State and local

6312

 

Clearly, some sectors consume very large amounts of petroleum products while others consume relatively little. However, Table 2 may be somewhat misleading because some industries produce much more output than others. A large industry may use a lot of petroleum even if oil is not one of its most significant inputs. Table 3 shows industries for which at least 5 cents of petroleum products are needed for each dollar of output. The numbers in the table show the amount of petroleum products that are used directly and indirectly (i.e., as inputs for the production of other inputs) to produce one dollar's worth of each industry's output).

Table 3. Amount of refined petroleum used directly and indirectly to produce one dollar of industry output.

Using industry

Dollars of oil required for one dollar of output

Carbon black

0.25831

Bus transportation

0.14364

Maintenance and repair of highways and streets

0.11483

Highway and street construction

0.10938

Air transportation

0.10559

Commercial fishing

0.10538

Industrial inorganic and organic chemicals

0.10136

Printing ink

0.07437

Surface active cleaning agents

0.07013

Tobacco

0.06777

Adhesives and sealants

0.06777

Sand and gravel mining

0.06640

Trucking and ground courier transportation

0.06427

Food grains

0.06387

Electrical equipment: carbon and graphite products

0.06257

Railroads

0.06180

Sanitary services, steam supply, and irrigation services

0.06030

Grass seeds

0.05840

Other chemicals and chemical preparations

0.05778

Micellaneous mineral mining

0.05690

Fruits

0.05677

Prepared fish and seafood products

0.05638

Plastic materials and resins

0.05189

Nonferrous metal ore mining

0.05185

 

Table 3 gives a different perspective from Table 2. While Table 2 shows the channels by which oil will have the largest effects on the economy, Table 3 shows which industries (large or small) are going to be most strongly affected.

Input-output tables give detailed descriptions of the interindustry flows of intermediate goods. However, we must remember that much of the petroleum products used in the United States are used directly by households. In 1992, households bought 53.355 billion dollars of petroleum products (at producer prices, not including taxes, transportation, and markup), accounting for about 1.6% of total consumption expenditures. (At purchasers' prices, which include taxes, transportation, and markup, petroleum expenditures were 116.039 billion, or about 2.5% of expenditures.)

Questions for analysis

1. Based on Tables 2 and 3, what are the major channels by which an oil shortage would affect the economy through its role as an intermediate input? Describe the effects on the supply and/or demand curves in a typical affected industry.

2. The U.S. auto and steel industries are often considered to have been strongly affected by the oil embargo, yet these industries do not have large values in Tables 2 and 3. Explain why the demand for U.S. produced autos and steel might be affected, given that oil products are not important inputs. Are there other industries that do not have large values in Tables 2 and 3 that might be affected positively or negatively through similar channels?

3. Changes in the product market also cause adjustments in the supply and demand for factors of production. What are some examples of particular kinds of labor and capital that would be strongly affected by an increase in the cost of petroleum products? Explain how they are affected and what happens to their supply and demand.

4. If you had access to the necessary data, how would you look for these effects on firms and factors of production in various industries? In other words, what variables would you examine and what kinds of changes would you expect to find occurring after an increase in oil prices?

Answer the questions in Moodle