Norton On Real Estate: A host of factors cloud the state of the economy

Halfway through 2008, there is still a great deal of angst about the economy and what economic conditions will be like this winter and for the next year. Gasoline prices, the cost of fuel oil, food costs and generally rising prices are raising the question of whether we are experiencing an inflationary spike. At first the government says, “No way.” Then Ben Bernanke, chair of the Fed, says, “Well, maybe.” The situation is complicated further by the soft U.S. dollar. What folks and small businesses know is that it costs them more to operate each week.

The price of oil rose to over $140 barrel and recently dropped below $120. But what does that mean for gasoline prices? There are 42 gallons in a barrel of oil. At $126/barrel that is $3/gal. That is for crude oil at the wellhead or point of departure. Now that oil needs to be transported, refined (which is very energy-intensive), distributed, marketed and retailed before it gets into your tank. Oh yes, Uncle Sam and your state government want to tax that gasoline too. So even as local prices have receded from $3.99 to $3.89 per gallon, that is a temporary dip. Gasoline at $4.50 or $5 per gallon is in our future.

I met one of our vendors who told me he put 200 gallons of No. 2 fuel oil in the tanks at his shop for $924 ($4.62 a gallon — ouch). So whether the government, the Fed or anyone else wants to deny that our transportation, energy (mostly heating here in the New England but cooling in the South) and food costs are rising sharply, you and I know they are.

Now several pundits are suggesting this is a spike, and energy prices will fall back. I am not convinced. World demand for petroleum is increasing dramatically. There are seven times as many people in India and China as in the United States. Not all or even most of them will achieve middle-class status, but even if one-seventh does, their consumption of oil could match ours, which is 25 percent of current production.

We are not going to change our addiction to oil over night, so consequently there could be severe impacts to our economy in both the short and mid term. Keep in mind that oil and products derived from oil go into almost everything we consume. We are painted into a corner and need to start working our way out.

On a recent family vacation we saw a massive wind energy farm near Palm Desert, Calif. Boone Pickens announced an even bigger wind project in West Texas. But these take years to build and bring on line. If area households start spending double what they used to on energy, that means consumer spending in other areas will decline. Consumer spending has been a strong component of this last economic expansion. Since 2002 there have been excesses, largely due to excess liquidity derived from a super-inflated housing sector, but that has cooled off.

Confusion reigns because many economic indicators suggest the economy is cooling off, not heating up. It may be that we have a slowing general economy with sharply rising prices in some segments, including energy, transportation, food and construction costs. These severe financial stressors are weighing on the equities and bond markets. Add in a presidential election year and it gets really goofy!

The $64,000 question is whether the underlying strength of the general economy is sufficient to absorb these tremors so things will settle down in the next six months. As far as I can tell, it can go either way. Enjoy your summer and remember to put aside money to pay your winter heating bill.

Bill Norton, president of Norton Asset Management, is a Counselor of Real Estate (CRE) and a Fellow of the Royal Institution of Chartered Surveyors (FRICS). He can be reached at wbn@nortonnewengland.com.