Page 100 - DMGT401Business Environment

Unit 3: Economic Environment of Business

Notes
willing to accept lower wages. Mr Oswald and his colleagues showed that a forecasting
model based on this version of the “efficiency wage” theory of labour markets fits the data
very well. From the late 1970s to the mid-1990s, oil played a stronger and statistically
more significant role in driving American unemployment than interest rates. In forecast
extending beyond the sample period used in the study, a stern test of any model, Mr
Oswald’s approach easily outperforms its rivals, including consensus predictions of
commercial forecasters.
The paper makes no attempt to test and reject the view that new technologies have changed
the structure of the American economy in the late 1990s. New economy optimists may
therefore be untroubled by these findings. But that would be a mistake. Mr Oswald’s point
is that there is no need to posit a new economy to account for the behaviour of the
American economy since the mid-1990s. The boom has all the standard features of an oil
price shock, except that, compared with the more familiar cases of 1973-74 and 1979-80 and
the not-so-noticed case of 1990-91, this one happened in reverse. Profit margins widened
dramatically as the price of energy fell; inflationary pressure subsided even as demand
gained strength (under the influence of rising stockmarket wealth and other forces); the
rate of unemployment consistent with stable inflation (the so-called natural rate) appeared
to fall to an amazing low.

Lawrence Summers, America’s treasury secretary, attracted attention recently when he
likened the new technology boom to a positive supply side shock, the converse of the oil
price shocks of the 1970s. And yet, Mr Oswald argues, the more natural parallel to draw
between then and now is that for most of the 1990s there has been a “good” oil price shock.
Even if you do not accept Mr Oswald’s new economy scepticism in full, it is undeniable
that oil was (rightly) given most of the blame for what went wrong in those earlier
periods, but none of the credit for what has gone right more recently.
It seems highly likely, Mr Oswald’s scepticism notwithstanding, that a surge of
technological progress in America has indeed applied a significant positive supply shock
to the economy. But it is certain, as opposed to merely likely, that the recent oil-price hike
is a substantial negative supply shock. The future course of the economy will depend on
which of these forces proves more powerful. If low inflation persists alongside very low
unemployment, the new-economy shock can be declared the winner. But if, with oil
pegged at more than, say, $ 20 a barrel, low inflation can be maintained only at the cost of
rising unemployment, the oil price will have had its revenge. It was denied its full share
of thanks for the current boom; it may be harder to ignore in any forthcoming recession.
Questions
1. What is the impact of oil price on international business and economy?

2. Do you agree with Mr Oswald? Give reasons.
3. Analyse the cause-effect relationship between unemployment and oil price.
4. Contrast the “demand side” and the “supply side” views on the case.

Source: The Economist, April 1, 2000

3.6 Summary

The impact of business is so pervasive that besides judicial and administrative the third
important work any government has to perform is to regulate business in the national
interest.

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