SUDS AND BLACK GOLD STORIES

Beauty is in the eye of the beer holder ~ Kinky Friedman 

Talk about market madness. The combination of the constantly-mutating coronavirus and the necessary Sheltering-in-Place (SHiPing), has dramatically unhinged our economy during the past several months. Many goods markets have become lop-sided rollercoasters. There has been radically reduced demand, consequent surplus supply, and even short-term excess demand. The federal government and the Federal Reserve have already provided multiple trillions of aid to people and businesses, with more on the way. States are now either extending or relaxing their SHiPing restrictions because no one really knows what path to follow for reopening markets in our devastated economy.

Gone into the mists of some ever-fainter past are the stable goods markets drawn by people like me on Economics 101 classroom white-boards. The traditional microeconomic market diagram shows product demand and supply curves intersecting at a single point, demarking market “equilibrium” price and quantity. Those were the days. It’s no longer a two-dimensional white-board world (it never was, but…).

The government announced on April 29 that the 2020Q1 real GDP dropped by 4.8%, with consumer spending down 7.6% and business investment falling 8.6%. March unemployment rose to 4.4%; about 13% of our labor force is now receiving unemployment benefits. April’s unemployment tally will be even higher. It’s not official yet, but everyone who’s breathing already knows we’re now dealing with a significant macroeconomic recession. Unlike other recessions, this one has happened quite suddenly, with rising unemployment as a leading, not lagging, indicator of distress.

The media attempts to explain our changing macroeconomic situation by using “letters”: like “V” showing a rapid expansion after the big drop; “W” a bumpy increase than another drop and a final improvement; and what the “L” that signifies an economic drop with no actual bounce-back recovery for a longer time. Very nasty. Very possible.

Much mention has been made about covid-19’s effects on business’s supply-chains, especially those that have anything to do with Asia. Less attention has been paid to how the virus has affected “demand-chains,” meaning in what way customer purchases are happening; and how we’re actually buying, and not buying stuff. Right now, we consumers are mostly “chained” to our shelters, with too many of us unemployed. That’s why aggregate demand for goods and services has plummeted so much and so rapidly.

But it’s consumers who will ultimately determine how and when our decimated economy will be revived. The media’s pics showing the first brave (bleeding-edge?) folks getting their hair cut and nails painted are curious. The economy won’t be adopting a general recovery “letter” until multitudes of just-regular customers like your Uncle Myron and Aunt Dorie feel safe and secure enough to physically re-enter the nation’s markets and stores on a regular basis.

Everyone has now has gotten through last month’s “where’s the TP?” epoch that was caused by panic buying. People no longer eat in restaurants; they pick-up food from them or have it delivered. Restaurants expect sales to decline at least 27%. The media is now braying about up-coming meat shortages because 33% of US packing plants have been shut down. Will there thus be a run on ground beef and Big Macs? Yet another reason to become a vegetarian.

Some medicines remain in short supply, like hydroxychloroquine for lupus and arthritis patients and azithromycin, because #45 made false public statements that they might prevent covid-19. It’s astonishing that despite his maskarading as our leader (unlike his VP, who won’t even wear a mask since it’s the devil’s mark), 31% of surveyed adults still believe he’s “trustworthy.” Seriously, it’s beyond depressing that nearly one-third of adults still trusts what he says is true.

I highlight here two very different goods’ markets – beer and oil – that caught my eye as consumers and producers attempt to adjust in our covidified economy. They don’t mix well at all, being oil and water, but they each offer a special type of liquidity that makes them quite popular.

Beer.  Beer with me for a moment. There’s a growing problem in the beer market, like many, because of an imbalance, especially for independent craft beer brewers and brewpubs that don’t bottle or can their product. Although total US beer sales were down 1.6% in 2019 (a long-term trend), craft-brewed sales increased to more than 25% of the beer market. In 2019 there were 8,275 craft breweries, up 9.1% since 2018 (also a trend). Until until several months ago, more craft brewers and their brews were facing a growing market. That’s always good news. But 2020 is a different kettle of beer.

Demand has sunk to the very bottom of a pint glass 🍺 and supply can’t easily adjust. Humans have been brewing beer for 7,000 years during good times and bad. Modern craft brewing usually takes two to three weeks to create a new batch of beer; a double IPA or sour beer can take five weeks or more. Also, draft brews taste best for a relatively short time.

Many brewers therefore are agonizing about dumping their excess craft beer. “There was literally nothing that we could do with it,” lamented a Minneapolis brewer, as he ditched his unconsumed product. Closed bars and abandoned social happenings have created a draft beer surplus, which is being abandoned into wastewater treatment plants. This frees up tanks, kettles and kegs for breweries to start post-covid production at some point, but this loss is a calamity.

So it might be a very good time to fill your growler at a favorite local bar or brewery with surplus banana-scented hefeweizen (OMG), or whatever your brewpub’s special spring beer might be. Sure as shootin’ they’re having unaccustomed challenges selling it.

One Oregon microbrewery has sold only draft beer since it served its first pint over 20 years ago. But after the state closed all bars and restaurants in March, distributors canceled their beer orders. The owner had to decide whether to dump all of his already-brewed, but aging IPAs. Faced with that disconcerting prospect, the brewery hurriedly swung to canning its product; something the owner previously had sworn he would never do. Canning involves considerable expense, but less risk. He stated, “I would rather eat a lot of crow than send beer to a sewer.” Only the crocodiles will be disappointed.

Petroleum.  Like beer, oil has been used for thousands of years. The walls and towers of Babylon apparently used asphalt in their construction 4,000 years ago. Until very recently, petroleum products like kerosene were mostly consumed as a fuel for night-time lighting and for lubrication. The I Ching, written around 1000BCE, mentions oil in its unrefined, raw state being used by Chinese people.

The first drilled (rather than hand-dug) crude oil well in the US was near Titusville, PA in 1859. Recently, about 1 million oil and gas wells were active in the US; fewer are now actually pumping. Until February, the petroleum industry had yearly revenues of about $1.7 billion. The world’s largest oil producers are the US, Saudi Arabia and Russia.

The real (inflation-adjusted) price of crude oil has significantly fluctuated over time, as shown in this chart. 

real price of crude oiL, 1860-2020 ($/bbl.)

Source: The Economist, 4/27/2020.

The US spot price of WTI (West Texas Intermediate) crude oil – the US benchmark – on April 27, 2020 was $12.17/bbl. Two months before, on February 27, 2020, it was $47.17/bbl, almost 4x as high. That’s market turmoil.

Although there were price spikes in the 1860s because of the American civil war, in the 1970s because of the OPEC oil shock and again during the 2000s commodities boom, the real price of a barrel of crude today is around the same level it was between the late 1800s and the early 1970s.

The recent price drop initially happened when Saudi Arabia and Russia couldn’t agree about how much to cut their production to push petroleum’s world market price upwards. The US president, displaying his own oleaginous properties, came down firmly on the side of oil suppliers – the US petroleum giants and their brethren – in facilitating an agreement between OPEC and Russia.

Then the coronavirus emerged as an all too powerful oil market counterweight by suddenly cutting the demand for the Saudis’, Ruskies’ and everyone else’s “black gold.” World-wide demand for petroleum is down at least 30%, causing prices to dramatically fall, as shown above.

The world’s huge oil markets are now in meltdown, just like the far teenier, but dearer craft beer market mentioned above – and for the same reason, a novel microscopic avenger.

This petroleum price reduction can have several consequences. First, much of the now-uncompetitive US shale-oil production will be drastically reduced, if not halted. This is no small matter because, according to the US Energy Department, 63% of total US petroleum production in 2019 came from shale. US shale has some of the highest lifting (production) costs in the world, requiring a market price around $50/bbl to breakeven. Watch for an increasing number of shale firms declaring bankruptcy and/or being purchased by the already-massive, established firms like Exxon/Mobil, Chevron and Shell. Also watch for the US to lose its ranking as the world’s largest oil producer, which was the Saudi’s and Russian’s original goal, and for us to eventually begin importing more petroleum.

Second, with very low oil prices alternative energy will have more challenges in usurping market share from fossil technologies; recent progress in clean-energy technologies might be threatened. Third, because of petroleum’s outsized influence on the economy, its much-lowered price will likely increase deflationary pressures on overall prices. This isn’t necessarily good. If oil’s price stays very low for a while, policy-makers’ near-total reliance on deficit-financed aid may become a bit more costly. Why? Because one often-used hedge against both bigger public and private debt – inflation – won’t be in the cards.

Here’s hoping the beer, oil and every other market’s turmoil can soon diminish in consumers’ favor. That will likely take a fair amount of time, far more covid-19 testing, large improvements in consumer confidence, as well as a practically light-speed-provided effective vaccine.