What $4 Gas Would Do to the Economy

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1:33Mark Zandi:That's how many dollars the Department of Defense spent on Alaskan King Crab in the month of September. That's in addition to the 7 million they spent on lobster tails and the 15 million they spent on ribeye. More evidence that Republicans are the fiscally responsible party. Money market madness. If money is evil, then that building is hell. The show goes on! The folks in there have watched the show, show! Welcome to Prof G Markets. I'm Ed Elson. It is March 12th. Let's check in on yesterday's market vitals. The S &P and the Nasdaq were flat and the Dow declined. Oil crept higher even after the International Energy Agency approved its largest ever reserve distribution.

2:19Mark Zandi:And finally, Treasury yields rose as hopes for rate cuts this year waned following the CPI report. We'll get into that right now. Okay, what's happening? Inflation was sticky in February as expected. The consumer price index, including food and energy, rose 0.3 % from January and 2.4 % from a year earlier. That annual rate is higher than the Fed's 2 % target and unchanged from January. Inflation in the coming months, though, is likely to get worse. The war with Iran has already driven up the cost of oil, airfare and fertilizer, and prices at the pump have increased by 20 % since the strikes began, which complicates the inflation picture.

3:07Mark Zandi:So here to help us break it down, we're speaking with our friend Mark Zandy, chief economist at Moody's Analytics. Mark, thank you for joining us. I want to get right into it. 2.4%. What do you make of this inflation print?

3:22Ed Elson:Uh, it's, you know, once you, once you count for all the moving parts here and the measurement issues, it feels like to me, inflation is closer to 3 % than two and 3 % is, uh, on the high side of anything that you'd feel comfortable with. I mean, as you pointed out, the Fed's target, uh, is lower. It's about 2%. So, um, you know, it's, it's better than 4%, but 3 % is still too high. And as you pointed out, we are going to see inflation pick up here because of what's going on in the Middle East and the fallout from that. So I don't know. It's okay, but it's not great. And certainly the trend lines here are disconcerting.

4:04Mark Zandi:Yeah, my reaction seeing this report was, again, I can't tell how much it even matters because, one, there's the point that you've been making, which is when you account for the other factors, the number is actually higher. It's closer to 3%. And then two, we've got a war going on, which is absolutely skyrocketing the price of oil. So does this even matter anymore? I guess that is the real question. Does it matter?

4:32Ed Elson:It's in a rearview mirror, for sure. So it's certainly not helpful in trying to understand where we're headed and what it means for people's purchasing power, standard of living, what it means for markets, what it means for the Federal Reserve. So, you know, the markets really didn't respond to this because it just really doesn't matter because it's history and it doesn't reflect on where we're headed here in the future. We're going to get another read on inflation on Friday, the consumer expenditure deflator. That's the measure the Fed actually uses to gauge inflation and set monetary policy.

5:02Ed Elson:That's where the 2 % target is. And that's going to be on the hot side and that's going to be 3 % on the nose. And, you know, that I think that's where we are. And I think that's what people are going to be focused on and nervous about, thinking about how all this translates to future inflation. So does it matter? Not really. I mean, it's more academic at this point than anything else.

5:25Mark Zandi:Where are we on gas prices? I've seen that gas prices have increased 20 percent. That's what I've read since the strikes began. But oil is moving so quickly up and down. I can't tell how much of a handle we actually have on the price of gas in America. What is it looking like at this point? And what do you think it will look like in the coming weeks?

5:48Ed Elson:Well, you know, we got AAA. AAA canvases, gas prices across the country, they're a little over$3.50 a gallon. That's up over$0.50 a gallon from where it was a week ago. And if oil prices stay right where they are today, you know, they're somewhere between $85,$90 a barrel, depending on WTI or Brent. If it stays there, then we're going to see prices go to$3.75 here in the next week or so. Obviously, if oil prices go higher than that, then, you know, we're looking at$4 and above. But right now, we're at$3.50, headed to$3.75, I think, pretty likely. The one thing I will say that has struck me is how quickly the events in the Middle East and the run-up in oil prices have translated through in the form of higher gasoline prices.

6:40Ed Elson:I mean, you know, there's this old adage, prices rise like a rocket, fall like a feather. But this time, it was a rocket on steroids. I mean, I was very surprised at how quickly it all translated through. And maybe that's because of the nature of why prices are up. It goes to the conflict and the war, and the energy companies are, you know, taking that in and pushing prices through very, very quickly. But yeah, they're up pretty meaningfully. And obviously for the American consumer, this is a real hardship, particularly if you're lower middle income, because you have to make a tough choice in many cases.

7:14Ed Elson:Do I fill my gasoline tank? Or if I put my hard-earned money in my gasoline tank, what else can I spend my money on? Or do I not pay my credit card bill on time? That kind of thing. And so we're going to start to see more of that as we go forward here.

7:28Mark Zandi:Let's say the price of gas increased to$4, increased above$4, maybe even like$4.50. What happens then? Like, how bad is that for the overall economy? What kind of impact does that have on overall inflation? And what does that mean, say, for the Fed, who has a mandate to keep prices down, or at least keep inflation down as much as they can?

7:57Ed Elson:Yeah, if we're closing in on$4 for a gallon and regular on leaded, That means that oil prices that are$100, that's kind of a good benchmark. That would mean that if that were sustained for a year, that would cost – just the run-up in gasoline prices by itself would cost the American consumer about$200 billion annually. That kind of gives you an order of magnitude. food. That doesn't include the effects on other prices like diesel, which affects food prices. And every package you get from Amazon at your doorstep will be higher in cost because of the higher diesel price. It doesn't account for the higher jet fuel prices and the impact that has on airline tickets.

8:42Ed Elson:But just gasoline, that kind of gives you an order of magnitude, a couple hundred billion. And if you do the arithmetic per household, this is the back of the envelope calculation, So I might not have it exactly right. But that would that would probably add about a thousand dollars to the typical household spill, you know, in a year, you know, not next week, not next quarter, but over a period of a year, about a thousand bucks. So, you know, that's not a big deal for folks that are doing well, the kind of the top part of the income distribution. But if you're in the middle or the lower parts of the distribution, that's real money.

9:14Ed Elson:And you've got to make some tough choices if that if that's the situation. So that feels at this point like an outside downside scenario. It wouldn't be my baseline, but that kind of gives you order of magnitude.

9:26Mark Zandi:Yeah. And considering the fact that the affordability crisis is already top of mind, I mean, add this on top. It seems that there are a ton of implications there, including in politics, which I'm sure everyone is aware of. So what is, just as we wrap here, what is your base case at this point? It sounds like you don't think it's going to be hitting those prices over a year. What would you have to predict in terms of probability? What do you think the next year will look like?

9:58Ed Elson:Well, in fact, Ed, I do that for a living, so I have to predict. And obviously— Talking to the right guy. Yeah, yeah, yeah. Given the uncertainty, the way to approach this is through different scenarios. So I think the way you ask the questions make a lot of sense. But, you know, my kind of working assumption here is that the president is going to find a way to stand down if, you know, if this continues for very much longer. Because, as you point out, the political implications of this are pretty significant. I mean, there's nothing that resonates more with the American people than the cost of a gallon or a regular unleaded.

10:29Ed Elson:They're focused on that like a laser beam when they think about their own financial situation and how they're going to vote. So I just don't think the president is going to push this for very long. Now, you know, one scenario is that things are now spiraling out of his control. That's something we need to be worried about. But if I think if he stands down in the next week or two or three, then, you know, oil prices will start to come back in. We get back down to 60 bucks. Gasoline goes back down to three dollars a gallon. And we go on, you know, to the next thing that, you know, the president decides he wants to do.

11:00Ed Elson:But that would be my baseline, just because that is kind of the way the president seems to have been operating here in his first year as president. You know, he's very focused on the stock market. He's focused on mortgage rates. He's focused on gasoline prices. He's focused on bond yields. All those things are screaming, bring this thing to an end as fast as possible. And so that would be my baseline scenario. But again, we should consider all the scenarios here because this could take on a life of its own and outside the control of anyone, including the president of the United States.

11:38Mark Zandi:All right. Mark Zandy, chief economist at Moody's Analytics. Mark, always appreciate it. Thank you very much.

11:44Ed Elson:Thanks, Ed.

11:47Mark Zandi:After the break, a look at Oracle's earnings. And for even more markets insights, you can subscribe to my weekly newsletter, Simply Put, at simplyput.profgmedia.com.

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14:02Mark Zandi:We're back with Profit Markets. Oracle just proved that the AI spending boom is far from over. The company reported earnings Tuesday night that beat analyst expectations by a large margin. Cloud revenue increased 44 % year over year, and cloud infrastructure revenue increased 84%. Oracle also revealed a backlog of over$550 billion in remaining performance obligations, an increase of 325 % from this time last year. Meanwhile, CapEx was about$4 billion higher than expected, and the company now has more than$100 billion in debt. The stock closed up 9 % yesterday. Here to unpack these Oracle earnings with us, we're speaking with Jackson Ada, analyst at KeyBank Capital Markets.

14:53Mark Zandi:Jackson, thank you for joining us. Let's dig into these Oracle earnings here. Pretty good. They said it was their best quarter in over 15 years. What do you make of it?

15:06Jackson Ader:Yeah, thanks for having me, Ad. I think that it was a good quarter. Best quarter in 15 years, not so sure about that. I think maybe a couple of quarters ago when they first announced that gigantic OpenAI, the$300 billion plus contract that sent the stock up to over$300 in the wake of that, that probably would rank a little higher in my book. But no, it was a solid quarter. And I think what was important is that they showed upside to numbers in period, in the quarter, actually produced some upside to revenue and also produced some upside to the future numbers, that remaining performance obligation number that you mentioned.

15:48Mark Zandi:It sounds like the reason that is a big deal for Oracle is that they were saying beforehand, we're going to make money later. and you're saying that this quarter they said, no, no, we're making money right now, which perhaps puts to rest some of the AI bubble fears or what does that mean?

16:04Jackson Ader:Yeah, I think it just, what it really does is show that the company can also execute on delivering some of that capacity in the near term. So if we think about software companies and the business of software, remaining performance obligation and its revenue and it's matriculation from backlogged into revenue. For most software, it's just the passage of time. You sign a three-year deal and after three years, the revenue gets recognized. But in this case, remaining performance obligation is dependent on delivering real estate assets, like hard assets that need to be placed into, you know, plugged in and placed into production.

16:55Jackson Ader:That's just, it's just really different from a traditional software company. And so I think it, it was really nice and, and kind of showed some investors that it's like, all right, it's one thing to sign these gigantic contracts. It's another thing to deliver. I think, you know, it was 400 megawatts of capacity in a single quarter. We say, okay, that's great. We can start to see the path from remaining performance obligation off the income statement into revenue on the income statement.

17:25Mark Zandi:The big concern in that incredible quarter that they reported a few quarters ago, I mean, first it was, oh my gosh, we have all of this money in the pipeline, remaining performance obligations, hooray. But then we start to learn that, I mean, most of it is OpenAI. And then there start to be concerns about, does OpenAI even have the money to pay for this? And look at how many other contracts they're signing up for. And are they going to pay Oracle first? Are they going to pay Microsoft first? Who are they going to pay? Those were the questions, the concerns. Did we learn that OpenAI is indeed paying Oracle right now?