WHEN FUEL PRICES GO UP,
SOONER OR LATER SO WILL
EVERYTHING ELSE
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The costs place an added burden
on shipping-dependent Hawaii
As president of air-cargo operator TransAir, Teimour Riahi occupies an upstream position in Hawaii's economic supply chain, and he's not happy with what he sees coming around the bend.
The inter-island carrier is getting squeezed by record-high world oil prices that have raised its aviation fuel costs by 45 percent in the past few months. So far, Riahi has absorbed most of that burden but may be forced to let a greater share of it trickle down to Hawaii consumers.
"I'm just sitting here hoping for better times to come but I have no idea when this will end," he says.
Hawaii's broader economy has yet to feel the brunt of a sharp summer rise in oil prices, partly due to the balancing act performed by businessmen like Riahi, but also because it can take several months for expensive crude oil to be refined into the fuels that power the ships and planes that supply the islands with everything from food to toys to automobiles.
But today's high oil prices -- futures contracts hit record levels of almost $49 a barrel recently after surging since early summer -- now loom like an 800-pound gorilla over Hawaii's transport-dependent economy.
"The trickle-down effect has been relatively muted so far (this summer) but we're going to see more pass-through if oil prices don't come down. This all just points to how vulnerable we are as an island state that's so dependent on petroleum-based transportation," says Leroy Laney, professor of economics and finance at Hawaii Pacific University.
Local gas prices have stayed steady above $2 a gallon through the summer, largely because major oil companies are sitting on big stockpiles built up for an expected surge in summer car travel nationwide that never materialized. But once those are sold off, gas prices could climb again.
They may never come back down, says Fereidun Fesharaki, an oil-policy expert and senior fellow with the East-West Center.
Fesharaki says the world's oil producers are no longer able tap sufficient new reserves of oil to keep pace with skyrocketing worldwide demand.
"The price of oil has irreversibly increased. We are in a new plateau," says Fesharaki, who expects oil prices to remain high for the next three to four years before pushing even higher as growth in worldwide production stalls.
What this means for Hawaii, he says, is continued increases in shipping costs, which may have a knock-on effect on the prices of imported consumer goods.
Matson Navigation Co. -- the largest trans-oceanic shipping company serving the state -- raised its fuel surcharge by 10 percent in June, bringing it up around historic highs.
"Shipping rates already have gone up and they won't come down," Fesharaki said. "We can look forward to those high rates for some time to come."
Power producer Hawaiian Electric Industries Inc. also has been bumping up its fuel adjustment surcharge this year. The state Division of Consumer Advocacy, which monitors HECO's pricing, says this has added about $3 to the monthly bill of the average household since the beginning of the year.
That may not seem like much, but HECO draws on a one- to two-month supply of the fuel it uses to produce electricity, meaning it has yet to take delivery of fuel reflecting the recent record-high petroleum costs. Moreover, businesses that need to illuminate and air-condition large amounts of retail or hotel-room space will feel an even larger hit, adding to the price pressures they face.
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Steven Ai, president of City Mill, said the home improvement retailer is feeling the squeeze but is trying to limit how much of that burden gets passed to customers, lest it jeopardize the chain's market position as a low-cost outlet.
"We try to absorb some of it but we have to pass on a lot," Ai says. "Other than that, we're just battening down the hatches. But this is definitely hurting our margins and profits."
All may not be lost, however.
Bank of Hawaii chief economist Paul Brewbaker sees a good chance that Hawaii consumers could dodge a full frontal blow from gushing oil prices since major purchasers such as gas companies, airlines and shippers can hedge their petroleum purchases out far enough into the future until prices ease, if they ever do.
"At first, I was worried about all this but now I'm not as bothered. I don't think we're going to see a slap upside the head the way we did with the 1970s oil shock," he said.
Even Fesharaki, despite his gloomy predictions on the future of oil, says the big picture is still relatively rosy for Hawaii consumers. Hawaii residents are "spoiled," he says, when one compares island gas prices of around $2.27 a gallon to the $4 and more being paid per gallon in Europe and Japan.
The higher consumer costs that trickle down from the oil markets are "uncomfortable and inconvenient," he says. But when compared with the steep cost of buying or renting a home in Hawaii -- the main factor fueling inflation in Hawaii so far this year -- they are "a drop in the bucket," he says.
Not everyone is as sanguine. The country's Air Transport Association last week called on the government to consider tapping the nation's strategic oil reserves, warning of a looming "catastrophe" for passenger and cargo carriers. Hawaiian Airlines, for one, last week blamed high oil prices for a 36 percent drop in July profits.
Way downstream, at the terminus of the consumer supply chain, such concerns have trickled down to Meredith Gonzalez, who flips through a rack of "made in China" dresses at Ross Dress For Less while back-to-school shopping for her daughter.
"This stuff is definitely more expensive than last year," she says. "But I unless I go live in China, this is just something you have to put up with if you want to live in Hawaii."
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ANALYSIS
Higher oil prices
may kick-start
widespread inflation
NEW YORK >> It makes sense that higher oil prices could boost air fares and what you pay at the gas pump. It becomes more worrisome when rising energy costs boost the price of everything from Barbie dolls to Tylenol capsules.
The good news is that we aren't there yet. Though oil prices have been soaring in recent months, the impact of those huge gains hasn't started to creep into other areas of the economy.
But if lofty energy costs are sustained, it could have inflationary consequences that we haven't seen in decades.
Oil prices have been rising over the last two years, but the biggest surge has come in recent months. Crude futures settled at $48.70 a barrel last week, the highest settlement on record on the New York Mercantile Exchange. While prices have slipped back to around $43 in recent days, that is still about 30 percent higher than where they started the year.
Driving the recent gains has been geopolitical concerns, with traders worried there would be inadequate supplies if there are severe output disruptions in Iraq, Russia, Nigeria or Venezuela. At the same time, there is also increasing global demand, especially from China.
And even though the run-up in oil prices has spooked stock-market investors -- who have been selling shares amid fears that pricier oil will raise corporate costs and curb consumer spending -- the price jumps haven't cascaded through the broader economy.
In July, the core inflation rate, which excludes volatile food and energy categories, rose a tiny 0.1 percent and is only up a moderate 2.4 percent for the first seven months of this year, according to the Labor Department.
Still, there is no telling what's to come. A look back in history provides possible scenarios -- and some lessons, too.
During the 1970s oil crisis, two oil shocks drove prices sharply higher. In 1973, prices tripled from $3.50 a barrel to about $10 in about six months. And then in 1978 to 1979, prices tripled again, from about $11 a barrel to over $30, according to a new research report by Goldman Sachs senior U.S. economist Ed McKelvey.
The Federal Reserve didn't have a consistent policy in how it dealt with the higher prices, seesawing between raising and cutting interest rates. That added to the worries of U.S. companies, which faced large and unexpected increases in costs that they had the pricing power to ultimately pass on to consumers.
And the inflationary troubles didn't stop there. Higher prices caused workers to ask for wage increases, and to cover those costs, companies had to continue to raise prices. That set off a destructive cycle.
But then, as the Goldman report details, the inflationary effect of oil has been minimal for most of the last 20 years. Part of that came from the deregulation of domestic energy prices, which helped lead to more normal swings in oil prices. Consumers and businesses viewed those ups and downs in prices as "transitory" events that could absorbed through profits and savings.
In addition, corporate pricing became more competitive thanks to such factors as technological innovation and globalization, so it was harder for companies to pass along price increases to consumers. And lastly, the Federal Reserve was more responsive to oil price increases in its monetary policy, the report said.
So where does that leave us now?
There is a greater chance of rising core inflation if higher energy prices remain. Even if the geopolitical troubles subside, some economists believe that increasing global demand will keep prices at least around $30 a barrel over the next decade.
Also, companies today have begun to regain some pricing power as the economy has rebounded. As a result, they may be more willing to pass on those additional costs.
But the Fed undoubtedly is staying on high alert.
When the central bank boosted a key short-term interest rate earlier this month for a second time this year, it signaled that future rate increases would take place at a gradual pace unless inflation threatens to become more of a problem.
So, history shows higher energy prices don't always lead to broad inflation, but they certainly can.
The tricky part today may be figuring out which history could repeat itself.
