High fuel costs threaten Minnesota economy

Jamal Cotton knew his business model was broken when diesel at around $4.90 a gallon in South St. Paul last week was relatively good news.

"It's just getting tougher and tougher," said Cotton, who'd stopped at Stockmen's Truck Stop on his way from St. Paul to Kentucky with a load of steel pipe. "I foot the bill myself as a small business."

Cotton paid $6.15 a gallon on the Pennsylvania Turnpike recently, while the average U.S. diesel price last week was $5.25, up 44% since mid-January.

For independent truck-owner operators like Cotton, the economic damage from soaring oil and motor fuel prices is immediate and harsh. For everyday drivers, prices at the pump are jarring, though not yet necessarily a budget buster.

But steep motor fuel prices — for consumers and businesses — pose a larger threat to the U.S. economy if they persist and climb even higher.

At least a portion of fuel price increases ultimately get passed down from shippers and transportation companies to store shelves. And consumers could reduce spending to compensate for higher gas prices.

"The challenge with energy is that it is pervasive throughout the economy," said Tendayi Kapfidze, chief economist at Minneapolis-based U.S. Bank. "When prices are volatile, they can upset the delicate balance the economy is in."

U.S. unemployment is low, wages have been growing and consumers' savings-to-debt ratios are comparably healthy. "Consumers have a relatively strong balance sheet, even relative to pre-COVID," Kapfidze said. Generally, "consumers have a lot of capacity to spend."

Inflation, however, is running hot, biting into purchasing power. In February, the U.S. Consumer Price Index (CPI) rose 7.9% over a year earlier, a 40-year high. Energy costs rose 26% year-over-year, including a 38% increase in gasoline prices.

The Federal Reserve last week began the intricate task of taming inflation without strangling growth — a particularly tall order in a turbulent energy market. The Fed voted to raise its benchmark rate for the first time since 2018, signaling several more rate hikes to come.

Motor fuels make up only 4% of the CPI. But price increases for gasoline and food are particularly salient to consumers since both are frequent purchases.

"Buying motor fuel is a highly visible form of consumption, so it can affect consumer confidence — and that confidence can affect how consumers behave in other areas of the economy," Kapfidze said.

The benchmark U.S. crude price started 2022 around $75 a barrel and shot to $124 earlier this month before settling around $105 on Friday. Gas prices followed, hitting a nine-year high in Minnesota and averaging $3.93 a gallon Friday, up from $2.78 a year ago, according to AAA. Nationally, the average price stood at $4.27.

Today's gas prices don't approach the inflation-adjusted $5-plus per gallon seen in Minnesota in 2008 and for a very brief period in 2013. The same goes for diesel prices, although diesel, unlike gasoline, is now at a nominal price peak in Minnesota and across the country.

At Stockmen's Thursday, Cotton ponied up $180 for three-quarters of a tank to power a Ford F-450 with a 24,000-pound capacity trailer in tow. He owns the truck, just as he does the big rig getting repaired in his hometown of Cleveland.

As an independent owner-operator, the 36-year old Cotton books freight from a variety of customers across the country. Like most owner-operators, he's at the mercy of high fuel prices. Shippers and brokers aren't receptive to requests to share fuel cost hikes, he said.

"They'll say, 'Yeah, diesel is at an all-time high, but we can just find another trucker,'" Cotton said. He's cutting costs — buying fewer restaurant meals on the road, for instance — and trying to book more hauls to compensate for rising diesel costs. "It's less profit and more work."

Independent drivers who have long-term contracts with a trucking line can usually negotiate fuel surcharges. And drivers employed directly by carriers aren't personally on the line for rising diesel costs, said John Hausladen, head of the Minnesota Trucking Association.

Carriers often toll shippers with fuel surcharges, but when costs jump as dramatically as they have recently, "it is very hard for the trucking industry to be made whole," Hausladen said. Even if shippers cover a trucking fuel surcharge, that cost is likely to be baked into their finished goods. Someone has to pay.

Fuel surcharges are increasing or surfacing across several industries. Ride services Uber and Lyft last week added such charges. St. Paul-based Ecolab, a global cleaning products giant, instituted an 8 to 12% temporary energy surcharge on all goods last week.

Airlines have begun increasing fuel surcharges on international flights. As for domestic flights, high fuel costs will put more upward pressure on ticket costs; seat supply is increasingly tight as people become more comfortable to travel after a steep drop in COVID-19 cases.

"Airlines have a lot of demand for leisure travel — it is as strong as it has ever been," said Bob Mann, an airline-industry consultant.

Like the airline business, the hotel industry was hit hard by COVID-induced travel cutbacks and is now experiencing a healthy increase in demand. "We are seeing it in advanced booking for the summer," said Robert Kisabeth, chief operating officer for Willmar-based TPI Hospitality, owner of 34 hotels in Minnesota.

Kisabeth keeps a close watch on gasoline prices, which can erase consumers' vacation plans if they get too high. At $4 a gallon, he's not worried.

"As long as we don't cross the five-dollar mark, we are in good shape," he said.

The current oil price shock has prompted speculation of the return of stagflation — high inflation coupled with slow growth — that haunted the 1970s.

But Louis Johnston, an economics professor at the College of St. Benedict and St. John's University, noted that the U.S. economy has changed greatly since then. In 1970, gross domestic product was a 50-50 mix of goods and services; today, services account for at least two-thirds.

The number of oil barrels needed to produce $1 of GDP has fallen by 60%, he said. "I am really frustrated with using the '70s as a template."

But gasoline costs can fundamentally change consumer behavior over the long run, Johnston said.

The gasoline price shocks of the 1970s ushered in an era of smaller cars. Then, after oil prices retreated and gasoline prices remained relatively low for years, the sale of trucks and sport utility vehicles soared.

"People reacted to [lower gas prices] not by banking their savings, but by buying larger vehicles," Johnston said. Sustained higher gasoline prices could likewise shift consumers toward electric vehicles or gas-electric hybrids.

Glenn Marston Jr. of Stillwater bought a hybrid in 2012 and switched to a full electric vehicle in 2016.

"I am old enough to remember gas lines in 1979 and [the gas price] shock of 2005 to 2008. I remember how that impacted my family, and as soon as I was able to get an EV, I got one," he said. "I am now free of oil prices impacting my ability to travel."

Ian Stade of Minneapolis switched to an electric-gas hybrid in 2017, and like Marston, the move was both because of both climate change and fuel savings.

"Fuel costs in the U.S. are cyclical, and it seems Americans have short memories about that," he said.