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Oil Prices and the Business Cycle

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With oil trading around a record high of $40 per barrel, is another recession far behind? Since World War II, oil prices have spiked before nearly every U.S. recession, including the most recent one. Many economists suggest that oil costs alone are too small relative to output to explain such a severe business cycle response to energy price spikes. They contend that imperfections in the adjustment process or some other mechanism must interact with oil prices to leverage such shocks into full-blown economic downturns. A prime suspect is monetary policy. Indeed, an increase in the real federal funds rate—the observed funds rate minus the inflation rate—also has preceded nearly every recession.

Suggested citation: "Oil Prices and the Business Cycle," Federal Reserve Bank of Cleveland, Economic Trends, no. 04-06, pp. 08, 06.01.2004.

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