The Oil Conundrum

December 1, 2014

There’s a real question right now about whether the sharp decline in oil prices will continue to have a ‘rising tide’ effect on the rest of the economy, thanks to the help it gives to consumer spending, or whether that marginal benefit is offset by a drop in oil production and mining jobs.

The fixed income market is certainly reacting as if it’s the latter, although this could also be the result of more weak data out of Asia and Germany that suggests those economies are nowhere near getting off the mat any time soon.

That’s caused the 10-year Treasury note to fall through resistance levels in terms of yield, and put it on pace to go back to levels not seen since the bond market ‘flash crash’ earlier in October. However, it seems strange to think that the Federal Reserve would markedly alter its expectations for rate increases based on what we’re seeing.

The Fed can only do so much when it comes to other economies, and the mantra has always been that it can’t do anything about oil prices at all.
Still, the expectations that have suddenly changed for the Fed to keep rates lower for longer may be overstating things a bit. In addition, lower liquidity is certainly going to play a part in the trading that happens in the next couple of weeks, thus forcing moves one way or another in a more rapid way.

Dan Greenhaus of Miller Tabak notes this morning that the activity in the extraction sector has largely offset near-recessionary conditions in most of the rest of the economy, and it raises questions over whether a slowing in one of the most robust parts of the economy can be offset by the rest of the USA – witness the weak holiday sales over the Black Friday weekend.

“Barring a sharp reversal to the upside in oil prices, this debate is not likely to end any time soon and it raises even more uncertainty regarding 2015,” he writes.

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