Must-read: Paul Krugman: “Oil Goes Nonlinear”

Must-Read: Paul Krugman: Oil Goes Nonlinear: “When oil prices began their big plunge…

…it was widely assumed that the economic effects would be positive…. But… taking a global view, there’s a pretty good case that the oil plunge is having a distinctly negative impact. Why?… Reduced inflation [would] free… central banks to loosen monetary policy — not a relevant issue at a time when inflation is below target almost everywhere…. Falling oil prices tended to redistribute income away from agents with low marginal propensities to spend toward agents with high marginal propensities to spend…. There is, I believe… an important nonlinearity…. A 10 or 20 percent decline in the price might work in the conventional way. But a 70 percent decline has really drastic effects on producers; they become more, not less, likely to be liquidity-constrained than consumers. Saudi Arabia is forced into drastic austerity policies; highly indebted fracking companies find themselves facing balance-sheet crises…. Small oil price declines may be expansionary through usual channels, but really big declines set in motion a process of forced deleveraging among producers that can be a significant drag on the world economy, especially with the whole advanced world still in or near a liquidity trap. Oh, and a belated Happy New Year.