Via ConvergEx's Nick Colas,
The drop in oil prices is certain to cause some incremental unemployment in the U.S. energy industry; the question is simply how much and what that means for the American economy as a whole.
To begin the search for answer, you have to go to the wellhead and consider how many individuals work in American oilfields, as well as those workers that directly support those activities. The answer here, courtesy of the Bureau of Labor Statistics, is 812,000 as of March 2014 (the most current data available). That may not sound like a lot, but at average annual wages of $99,854/worker, this small group receives $81 billion in estimated annual compensation. How bad can things get if oil prices stay low?
We actually have a recent case study in the 2008 experience, the last great crash in oil prices. The answer is a 20% headcount reduction from October 2008 to January 2010. The great wildcard for U.S. GDP is the “Multiplier” effect of these jobs. The damage could be slight (at 3x just 0.3% of GDP) or large (at 10x, a full 1% cut in 2015).
Offsetting benefits will have to surmount that hurdle to make themselves useful.
You may not know the author Robert E. Howard, but you have certainly heard of his most famous character: Conan the Barbarian. The original stories predate the famous movies of the 1980s by several decades, first published in a pulp fiction magazine called “Weird Tales” in 1932. If you enjoy “Game of Thrones” or any sword-and-sorcery drama, you have Conan to thank, for Howard essentially created the genre and gave it its first hero.
As for the inspiration for the Conan character, a muscular loner with serious fighting skills, it helps to remember that Howard grew up central Texas in the early 1900s. His hometown of Cross Plains saw its share of the 1920s oil boom. In watching the men that worked these early finds he found the inspiration for the tough and independent Conan. Howard’s famous barbarian is really just a Texas roustabout with a loincloth and a sword.
Fast forward to today, and the fate of Conan’s progenitors is of great interest in economic circles. The drop in oil prices from $106 in June to yesterday’s $56 close cannot, after all, be good for employment in the oil fields of Texas, North Dakota or Colorado. Yes, we all know commodity prices swing around like a weathervane in a hurricane, but this drop seems different. It does not come with a financial crisis like 2008 or on the heels of Fed-designed recessions in the late 1970s/early 1980s. Rather, it seems to start in the OPEC meeting room and emanate outwards towards the oilfields of Russia and American northern Midwest. So what will the harvest be if crude oil’s price drop lingers into 2015 and beyond?
To answer that question we started with industry data from the Bureau of Labor Statistics for employment and wages...
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Here’s a summary of what these charts show:
We are focusing for now on “Direct” employment at or near the wellhead – where the product comes out of the ground. The categories we chose were employment related to: Oil and Gas Extraction, Support Activities for Oil and Gas Operations, Oil and Gas Pipeline Construction, Oil and Gas Field Machinery and Equipment, and Drilling Oil and Gas wells.
The total current employment for these 5 classifications is 811,552 as of March 2014 (lastest data available). This represents 0.52% of the current civilian workforce. The largest segment is “Support Activities” at 38% of the total, followed by “Extraction” at 24% and “Pipeline Construction” at 16%.
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At just over half a percent of the workforce, this may not seem like a lot of people but they are paid exceedingly well. The average annual income here is $99,854 according to the BLS data, up from $64,642/year at the beginning of 2003 (the first year of this data series). That is a 54% increase in the last 11 years during a time when national household incomes remained largely flat.
Since 2001, the first year of the employment data, the oilfield employment levels relative to the civilian workforce have risen steadily, starting at 0.29% and climbing to just over 0.40% in 2008. From there they decline along with oil prices as the Great Recession pushed crude prices down from $140 to the low $30s. Then, starting in January 2010 they began to climb again as commodity prices recovered. The takeaway: yes, employment in the oil fields correlates directly with oil prices. In percentage terms, employment here dropped by 20% in a little over a year before it bottomed with crude prices in the 2008-2010 downcycle.
With that data in hand, we can begin to consider what will happen to oilfield employment if oil prices do not begin to snap back in 2015. A few thoughts:
If employment levels track the 2008-2010 experience, we can expect a 20% decline in employment. That amounts to 162,400 jobs based on current employment. How quickly they come off the rolls is another issue. The largest losses during the last recession came in month 3 and month 6 after the peak.
Remember that these are high-paying jobs on average, so that 162,400 job loss will feel more like +300,000 to the real economy. Assuming that average annual pay of $99,854 we mentioned earlier, this would take $16.2 billion out of the U.S. economy or 0.1% of GDP in 2015.
The job losses could be greater – or less harmful – depending on how employers see the recent price drop for crude. There is also the issue of break-even levels to consider. No one seems to have a good handle on actual break-evens for domestic oil production, so this is the “Known unknown” in the calculus.
Then there is the subject of economic multipliers – how many other jobs do these oilfield and related jobs actually support? Take the home office of a medium sized exploration and production company, for example: how many layoffs will occur there as prices drop? Then there is all the economic infrastructure around the fields themselves – homebuilders, service industry staff, car dealerships, etcetera. How will those sectors respond to a deteriorating local economy? Three quick thoughts on this:
Since consumption is the first variable in the classic equation for Gross Domestic Product, we are assuming that reduced personal income has a direct effect on national output. We are ignoring potential positives to lower oil prices, such as increased consumer spending in other areas from the money saved at the pump. That benefit would have to come in the form of higher multipliers than the ones we consider here that are related to the energy sector and its economic adjacencies. A dollar spent on gasoline looks just like a dollar spent at the local organic food market, until you chase it upstream and see what else it touches.
At the lower end, consider a 3x multiplier on the 0.1% of GDP we calculated previously. That would amount to 0.3% in 2015. What’s the magic behind that number? Simply that it is a common starting point for the economic multiplier related to a high wage job. It is, for example, the most common assumption used by auto industry economists – a sector I used to follow quite actively – to translate a lost assembly plant job in terms of its effect on a local economy.
At the higher end, try a 10x multiplier. The math behind this comes from the energy industry itself, which estimates total direct employment at 9.8 million (see http://www.energytomorrow.org/economy [13] ) , or just over 10x our oilfield/related employment number. That doesn’t even include the impact on local economies, but it is a decent starting point. By that multiple, a loss of $16 billion in income at the oil field would amp up to $160 billion, or 1% of GDP.
If you are a glass half empty kind of person, you simply need to believe that the economic benefits of lower energy prices will outrace the math we present here. Can we get more than 0.3-1.0% GDP growth from the tailwinds of lower oil prices in 2015? If the answer is yes, then these are surmountable hurdles.
And if, like Conan, you tend towards darker thoughts, then the math we present here is just the tip of the iceberg. Or the sword...
