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Katrina deepens already profound energy crisis

Katrina deepened what was already a profound energy crisis, and gasoline prices continued to climb Thursday as the effects of the hurricane filtered their way through the national economy, whose growth pace has already begun to slow.
/ Source: Forbes

Katrina deepened what was already a profound energy crisis, and gasoline prices continued to climb Thursday as the effects of the hurricane filtered their way through the national economy, whose growth pace has already begun to slow.

Prices brushed $6 in Atlanta and hovered near $3.40 from Trenton, N.J., to Los Angeles. Analysts traded anecdotes about gas lines forming 20 and 30 cars deep in Charlotte, N.C., as residents worried gas supplies would run out going into the holiday weekend.

Crude oil prices hovered just below $70 per barrel Thursday even after the Bush Administration began loaning refiners oil from the Strategic Petroleum Reserve.

Energy is having such a dramatic effect on spending that economists are lowering their expectations for growth in gross domestic product in the aftermath of Katrina. Bank of America, which was looking for fourth-quarter GDP to grow 3.7 percent before Katrina struck, is now forecasting growth of 3 percent. That would be down from a forecast of 4.5 percent for the third quarter. It sees spending slowing from 4 percent in the third quarter (which is two-thirds complete) to 1 percent in the fourth quarter.

If energy prices sustain their lofty levels for an extended period of time "we will see a meaningful slowing in consumer spending" that will ripple through the economy, said Peter Kretzmer, senior economist at Bank of America.

Even before Katrina slammed into the Gulf Coast, there were fissures forming. The Commerce Department released July spending statistics Thursday that said individual income rose 0.3 percent in July from June while spending rose 1 percent.

But much of the spending was on automobiles, says Wachovia economist Mark Witner, as the big three automakers promote their "employee discount" pricing to clear inventories. Demand at car and parts dealers rose 6.7 percent in July, the biggest increase since October 2001 (when the automakers offered 0% financing to get sales moving after the shock of Sept. 11, 2001).

Auto spending may get a big boost from the thousands of cars abandoned underwater in New Orleans that will have to be replaced.

More telling, spending on nondurable goods slowed. It rose 0.6 percent in July after rising 0.7 percent in June, and spending on services rose just 0.4 percent after rising 0.5 percent in June. The price index for personal consumption that did not include food and energy rose 1.8 percent year over year, compared to 1.9 percent for the index in June.

Witner lowered his GDP outlook for the third quarter to 3.8 percent from 4.6 percent. "This is not going to go away."

That may be because Katrina was not a typical hurricane. Past experience — even with devastating storms such as Hurricane Andrew in 1992 — showed that short-term regional declines were offset by longer-term economic growth in affected areas after reconstruction began. The effects on the national economy were fairly limited.

But Katrina took direct aim at the heart of the nation's domestic oil production and refining region. Refineries were already straining at peak capacity before the storm, and now with many shut down or damaged, fuel shortages are building.

"This is a gas and jet fuel story," says Wachovia's Witner. And it's not just limited to drivers. Airlines are struggling with the rising cost and supply of jet fuel. Higher gas prices are making it more costly for shippers to deliver everything from vegetables to laptop computers.

Merrill Lynch economists estimate that sustained higher energy prices could shave $30 billion from U.S. economic growth. That's in addition to the estimated losses from hurricane-related damage of up to $40 billion.

One side effect has been a dampening of long-term interest rates, which has created what bankers and economists call a flat yield curve — a narrowing of the difference between short-term rates and long-term rates. This crimps bank profit, but it's a boon for mortgage lenders and home buyers.

Long-term rates were edging up Thursday morning after reports that Federal Reserve Chairman Alan Greenspan was going to meet with White House officials. But few economists see the Fed raising rates at its next meeting Sept. 20. Many expect Greenspan and company will wait until the November meeting to begin raising rates again.

"They would look cold-hearted raising rates in September," Witner said. "He would look like Ebenezer Scrooge."