It's become increasingly popular to blame "speculators" for the rise in oil prices. The article's author puts this as the second top cause of high prices in the "top-ten" list presented in this article. This displays gross ignorance of the nature of a free market in general, and the oil futures market, in particular -- and it should frighten us all.
We're now hearing calls to restrict "speculation" -- from both Left and some on Right, even though a large price movement of such a significant commodity isn't even remotely possible by private parties (even large companies) given the fungibility of oil in a world-wide market. Only government intervention (and not just the U.S. government) can significantly increase prices -- but only by distorting what a free market would otherwise demand.
"Speculation" is nothing more than investing in the future. Oil futures -- promises for future delivery based on a price agreed upon today -- are a means of reducing price volatility and risk. Ask the airlines -- many started buying futures in jet fuel in the last few years (way too late, in my opinion) as a means of guaranteeing a reliable source of fuel at a predictable price, for a time when, in their (correct) long-range judgment prices could increase dramatically. But whether they did or not -- the possession of large futures contracts in jet fuel (a derivative of oil) provided them stability in their planning -- the ability to project costs with some certainty down the road (or in the air).
This was how the futures market got started: farmers, seeking stability in the market for their crops against the uncertainty of flood, pestilence, drought, etc., bought and sold contracts on future delivery as a hedge against uncertainty.
Do people speculate on future prices to make a profit? Absolutely. That's the whole point: the futures market pushes prices in the direction that anticipates and highlights future supply and demand, thereby directing planning of production -- and opportunity for profit -- to meet that demand.
The futures market is the most sensitive barometer of future supply and demand -- expressed in the single most important metric: prices. It is a market where the most knowledgable people -- primarily, the producers themselves, banks, investment funds and wealthy investors -- make their best estimates of an almost incalculable number of variables.
Contrary to popular opinion, "speculators" (in scare quotes, because people who attack speculators are scared of them, much as children are afraid of bogeymen under their beds) cannot create or sustain major price movements, and certainly nothing like the rise in oil from a few dollars of barrel a few decades ago to the $140 a barrel recently. The common guy with a bent for financial roulette and no clue of the commodities business is not a dominant factor. Even a billionaire cannot significantly manipulate a commodities market -- ask the Hunt brothers. (Two wealthy Texans who tried to corner the much smaller silver market a few decades ago -- they went broke.)
A typical commodities market ranges in size from hundreds of billions of dollars to many trillions (oil). In a highly liquid market such as oil, the moment one person tries to move the price in any direction in contradiction to where it should be, another person will step in to try to stop him -- because if the price movement is unrealistic -- not reflective of the reality of the real supply and the real demand -- the price must eventually fall. (This is one reason the short-sellers -- who can be anybody at any given time -- are so important in a market economy: they reign in anyone trying to force up prices artificially.)
If it appears to investors that supply of a commodity (oil, food, metals, etc) will rise relative to demand (for supply can *only* be measured relative to demand), then prices fall, making a compelling case to producers that they are making too much, and profit margins will fall, so they should reduce production -- thereby allowing their capital (held in banks or other investments) to flow into other areas where it will be more productive (ie, offering a greater return on investment).
If the supply of a commodity falls relative to demand, then prices rise. This offers incentives to invest in more production of that commodity.
Now ask yourself: if the price of oil is going up in the futures market (the only market that matters in the context of the single biggest world commodity), and if oil futures are the most sensitive barometer of future supply/demand based on the most knowledgable people factoring in every cause they know of ...
- from vastly increased demand in China and India,
- limited refinery capacity in the U.S. (which restricts supply of end products),
- shortage in sources of oil (real or imagined, but how investors assess supply),
- laws against offshore drilling and drilling in ANWR (which restrict supply),
- cartel actions of OPEC (which restrict supply),
- environmental regulations that delay or block oil and coal leases and increase costs of production (which restrict supply),
- global warming mandates and anticipation of global warming mandates for reduced carbon consumption (such as the 45 trillion dollar Lieberman-Warner boondoggle, which increases costs, restricts supply and reduces demand),
- wars in Iraq (at a cost now of $500 billion dollars, which creates uncertainty in supply and demand),
- anticipated wars in Iran (increases uncertainty),
- obstacles to nuclear power (which increases demand for oil),
- government forced shutting-down or expensive retrofitting of coal-fired plants (which increases demand for oil),
- diversion of natural gas supplies to electric power generation (vastly increasing demand for gas, which comes from oil drilling), blocked hydroelectric power generation (increasing demand for oil),
- massive farm subsidies and diversion of corn to ethanol production (creating the illusion that oil exploration isn't necessary, reducing oil supply as well as increasing taxes, reducing discretionary spending, and thereby reducing demand for oil),
- forced subsidies and mandates for uneconomic energy sources like other "biofuels" or hydrogen (creating the illusion oil isn't necessary, and increasing taxes and cost of energy -- it would take many trillions of dollars simply to create a distribution system for hydrogen, much less the storage systems),
- reduced demand because of recession (at least, currently),
- increased corporate tax rates (to fund a multiplicity of ineffective government energy programs, among others),
- fuel tax increases (or decreases), inability to build pipelines to deliver oil to market (increasing fuel costs, while decreasing demand),
- U.N. mandated scrapping of all older single-hull supertankers (almost complete now, I think, but a factor in the past, increasing oil cost as delivered to the refinery),
- insurrection and piracy in Nigeria (reducing available supplies, increasing cost of production there),
- political graft, corruption and interference in Saudi Arabia, Iran, Iraq, Kuwait, Libya, Oman, Yemen, Sudan, Venezuela, Russia, China and the U.S. (increasing costs and reducing supply across the board);
- and official U.S. foreign policy over the last 70 years or so that actively encouraged the foreign nationalization of oil fields that were discovered, developed and paid for by private companies (increasing costs and uncertainty about the reliability of supplies).
Given all that, what do dramatically rising oil prices in the futures market mean?
Oil futures prices represent the most sensitive estimates of the most knowledgable people of the trend -- projected out days, weeks and years -- in future supply and demand of oil around the world. If prices have tripled, that means the supply is falling (and will fall even more) relative to demand -- for the multitude of reasons listed above, and many more.
You will note that true free market causes are a very small part of that list. You will note that almost all the causes of greatest uncertainty are government created -- and uncertainty is another critical factor in market pricing: it creates volatility and wild fluctuations.
The fact that oil has tripled in price per barrel over the last year and we're now paying $4/gallon of gas is totally, completely a product (if such a word applies) of government intervention in the market for oil -- ie, the U.S. government, and every other tin-pot government on the planet. It has virtually nothing to do with producers seeking "windfall profits" or the "greedy" actions of "speculators" (who are actually stabilizing the system by forcing us to anticipate reduced future supply).
The fact that oil is now at $140 per barrel, and looks to increase even more -- probably a lot more -- should send shivers through your pocketbook and frighten the hell out of you -- that is, frighten anyone from the desire for more government intervention to "save" them. Not because "speculators" are out to destroy you -- but because they are giving you a window into the future, via the crystal ball of the futures market.
What is it telling you?
Let me repeat: the most knowledgable people who know the oil business believe there is going to be a much greater shortage of supply relative to the demand in our future -- and as I said, the futures market is a sensitive barometer: not just because speculators can leverage their money ($1 invested can buy a contract worth 20 times as much because you essentially can borrow against the value of the commodity you own), but because of the law of supply and demand -- even small reductions in supply relative to demand (or increases in demand relative to supply) cause major price movements. A 5% drop in supply relative to demand can double the price if people *must* have the commodity. (Verify this by looking at the large increase in oil price relative to the small changes in supply versus demand in the last year.)
Think about those causes for oil price increases -- almost all are the result of government intervention. You might think the dominant cause is a decline in the supply of oil. No. Absolutely not. Contrary to popular opinion, proven reserves of oil are larger than they were 30 years ago (the last crisis in 1980 during the time of Jimmy Carter trumpeted a 10 year supply before we were out, dry, running on empty), and even in the absence of any new exploration today's supply will last us at least 15 years at present demand. (1980 reserves/consumption were 645 billion barrels / 64 billion barrels, and in 2007, 1.3 trillion barrels / 85.7 billion barrels. See http://www.eia.doe.gov/oiaf/ieo/oil.html, especially figures 33, 36 and 38.)
[Note, 7/7/08: the original link disappeared two weeks after posting this, when the 2008 DOE energy report was released. The new report highlights are all that is available right now, and don't show the excellent graphs in the full 2007 energy report. After much searching, I found a hidden link for it at http://www.eia.doe.gov/oiaf/aeo/pdf/overview.pdf]
Despite what you may have heard or read, proven reserves / demand continues to increase. New methods of recovery continue to increase the output of old fields, and new fields are discovered in places never before anticipated. Old fields have even been found to be replenishing themselves in unknown ways at surprisingly high rates (in the Gulf). (There is currently a sort of renaissance in the theory of where oil comes from: old theories based on the conversion of fossilized plants -- ie, the source of the term "fossil fuels" -- are being proven wrong time and again as oil is found in places fossilized plants should never have existed.)
And technology is unleashing new sources. For instance, and not included in those figures above, Colorado potentially has enough shale oil to replace the entire world supply of conventional oil, at only $50 per barrel (once inconceivably expensive!), using processes such as Shell has developed -- but not as long as they are on a leash that requires dozens of government permits (something like 70) and 7 years to complete -- with unlimited future potential litigation costs from frivolous lawsuits against the "impact" they might have on the environment.
What's in our future? Look around you: think like a futures trader. The future is more government intervention in every direction you turn: Obama, McCain (who cast the deciding vote against ANWR drilling), the Saudis, the Iranians, Chinese, Russians, Venezuelans, the U.S. Congress, and a gamut of pundits on the Left and the Right (though not all on the Right, almost all on the Left) now asking us to kill the messenger -- the "speculators" -- as those same pundits call for more and more government invention to halt the speculation (and as, I bet, many of them are secretly hedging their own bets on the futures market -- they aren't the complete fools they sometimes appear to be).
This is like (as Ayn Rand eloquently stated in her book "Capitalism, the Unknown Ideal") putting a penny in the fuse box: kill the speculation -- prevent those who know from anticipating future supply and demand -- and you lose your means of preventing a catastrophic short circuit.
Make no mistake: even in the presence of massive government intervention and disruption of the oil market (and surely, no market is more disrupted by governments) speculators in the free market, in simply pursuing their self-interest to make a buck, perform an invaluable function by stabilizing these oil markets as much as possible against all the do-gooding (and not-so do-gooding) interference, trying to calm the chaos created by the politicos -- telling us (in effect): look ahead; DANGER; plan ahead for what the future portends.
In the absence of a futures market -- in the absence of speculators -- what we're experiencing today will be vastly worse. $4 a gallon gas to drive your car 30 minutes to work? Soon you might not be able to afford to drive a moped to the corner grocery. Or heat your house in winter. Or buy groceries. If Obama is elected and super-majorities of Democrats in both houses get their way, if all the government intervention on our horizon comes to pass -- including behind-the-scenes manipulators, such as AlGore and his ilk -- and if the Republicans continue the last 8 years of fiddling while Rome burns biofuels under a wind turbine and eats corncakes -- we are going to see something much worse than today's $4 gas.
What the "speculators" (ie, anyone buying and selling futures) are telling us -- as they bid the price of oil up to $140 and beyond -- is this: they see no solution to our problems in sight. They are predicting a massive deficit of supply versus demand. They believe the Democrats (even if they, themselves, are Democrat) will continue to block any new oil drilling, any new refineries, any new technologies for producing more oil and delivering it efficiently to market, and will continue to promote and pass new legislation to attack imaginary bogeymen like global warming and "greedy speculators". They believe the Republicans (even if the investors, themselves, are Republican) have neither the will nor the ability to stop the Democrats from doing it. They believe either presidential candidate will make the problem worse.
The "speculators" are looking into their crystal ball of knowledge and trying to look into the future to make money and achieve their self-interest -- not guessing, not hoping, not divining mystically, but observing, analyzing, judging, evaluating -- and then putting their money where their brains are. They're betting a *lot* of money on those judgments -- literally, trillions.
If you accept those judgments (apart from any other political ideals these people may hold) as being honestly driven -- and I think on the whole, you have to, because someone willing to bet so much money on it has some confidence in his judgments -- what do today's high oil prices on the futures market tell you?
To be scared. The future we face from the devils and fools who want vastly increased government interference in the energy markets could be taking us down the road towards global depression in the very near future, and possibly worse. (What does the competition for a desperately needed commodity and very insufficient supply breed?) The only solution is to get government everywhere out of the business of "energy policy" and let a truly free market operate to produce more oil -- whereever it can be found.
June 16, 2008
Top 10 reasons to blame Democrats for soaring gasoline prices
By William Tate
This started out as an attempt to create a light and humorous, Letterman-esque Top 10 list. But the items on the list, and the drain Americans are seeing in their pocketbooks because of Democrats' actions (sometimes inaction) are just too tragic for that.
10) ANWR If Bill Clinton had signed into law the Republican Congress's 1995 bill to allow drilling of ANWR instead of vetoing it, ANWR could be producing a million barrels of (non-Opec) oil a day--5% of the nation's consumption. Although speaking in another context, even Democrat Senator Charles Schumer, no proponent of ANWR drilling, admits that "one million barrels per day," would cause the price of gasoline to fall "50 cents a gallon almost immediately," according to a recent George Will column.
9) Coastal Drilling (i.e., not in my backyard) Democrats have consistently fought efforts to drill off the U.S. coast, as evidenced by Florida Rep. Debbie Wasserman Schultz's protestation against a failed 2005 bill: "Not only does this legislation dismantle the bi-partisan ban on offshore drilling, but it provides a financial incentive for states to do so."
A financial incentive? With the Chinese now slant drilling for oil just 50 miles off the Florida coast, wouldn't that have been a good thing?
8) Insistence on alternative fuels One of the first acts of the new Democrat-controlled congress in 2007 was an energy bill that "calls for a huge increase in the use of ethanol as a motor fuel and requires new appliance efficiency standards." By focusing on alternative fuels such as ethanol, and not more drilling, Democrats have added to the cost of food, worsening starvation problems around the word and increasing inflationary pressures in the U.S., including prices at the pump.
7) Nuclear power Even the French, who sometimes seem to lack the backbone to stand up for anything other than soft cheese, faced down their environmentalists over the need for nuclear power. France now generates 79% of its electricity from nuclear plants, mitigating the need for imported oil. The French have so much cheap energy that France has become the world's largest exporter of electric power. They have plans in place to build more reactors, including an experimental fusion reactor.
The last nuclear reactor built in the United States, according to the US Dept of Energy, was the "River Bend" plant in Louisiana. Its construction began in March of 1977.
Need I say more?
6) Coal "The liquid hydrocarbon fuel available from American coal reserves exceeds the crude oil reserves of the entire world," writes Dr. Arthur Robinson in an article on humanevents.com. The U.S. has approximately one-fourth of the world's known, proven coal reserves. Coal would be a proven, and increasingly clean, source of electric power and--at current prices--a liquified fuel that would reduce our dependence on foreign oil. Yet Dems and their enviro friends have fought, and continue to fight, both coal-mining and coal plants.
5) Refinery capacity "High oil prices are still being propped up by a shortage of refinery capacity and there is little sign of the bottleneck easing until 2010," according to Peak Oil News. And, while voters in South Dakota have approved zoning for what could become the first new oil refinery in the United States in 30 years, the Dems' environmentalist constituency vows to oppose it, just like environmentalists opposed the floodgates that could have saved New Orleans from Hurricane Katrina.
4) Reduced competition With consolidation in the oil industry, has come reduced competition. Remember, most of the major oil company mergers -- Shell-Texaco, BP-Amoco, Exxon-Mobil, BP-ARCO, and Chevron-Texaco -- happened on Clinton's watch. The number of oil refiners dropped from 28 to 19 companies during Clinton's two terms.
3) The Global Warming Myth At a Group of 8 meeting this week, host and Japanese Economy, Trade and Industry Minister Akira Amari "described the issues of climate change and energy as two sides of the same coin and proposed united solutions ... to address both issues simultaneously". As a result of Global Warming hysteria, the Al Gore-negotiated Kyoto Protocol created a worldwide market in carbon-emissions trading. Both 2005 --the year that trading was initiated--and this year --when the trading expanded dramatically -- saw substantial and unexpected price spikes in the cost of oil, leading us to reason Number...
2) Speculation "Given the unchanged equilibrium in global oil supply and demand over recent months amid the explosive rise in oil futures prices ... it is more likely that as much as 60% of the today oil price is pure speculation," writes F. William Engdahl, an Associate of the Centre for Research on Globalization. According to a June 2006 US Senate Permanent Subcommittee on Investigations report, US energy futures historically "were traded exclusively on regulated exchanges within the United States... The trading of energy commodities by large firms on OTC electronic exchanges was exempted from (federal) oversight by a provision inserted at the behest of Enron and other large energy traders into the Commodity Futures Modernization Act of 2000." The bill was signed into law by Bill Clinton, in one of his last acts in office.
1) Defeat of President Bush's 2001 energy package According to the BBC, "Key points of Bush('s 2001) plan were to:
-Promote new oil and gas drilling
-Build new nuclear plants
-Improve electricity grid and build new pipelines -$10bn in tax breaks to promote energy efficiency and alternative fuels
A New York Times article, dated May 18, 2001, explained:
"President Bush began an intensive effort today to sell his plan for developing new sources of energy to Congress and the American people, arguing that the country had a future of 'energy abundance if it could break free of the traditional antagonism between energy producers and environmental advocates.
Mr. Bush's plea for a new dialogue came as his administration published the report of an energy task force containing scores of specific proposals... for finding new sources of power and encouraging a range of new energy technologies." [The Bush plan] "mentions about a dozen areas including land-use restrictions in the Rockies, lease stipulations on offshore areas attractive to oil companies, the vetting of locations for nuclear plants, environmental reviews to upgrade power plants and refineries that could be streamlined or eliminated to help industry find more oil and gas and produce more electricity and gasoline."
The article went on to quote some rather prescient words from the President, "this great country could face a darker future, a future that is, unfortunately, being previewed in rising prices at the gas pump and rolling blackouts in the great state of California" if his plan was not adopted in 2001.
The Times account continued:
"Mr. Bush talked not only of blackouts but of blackmail, raising the specter of a future in which the United States is increasingly vulnerable to foreign oil suppliers...Mr. Bush was praised by many groups for laying out a long-term energy policy. His report contained 105 initiatives..."
Just as President Bush's predictions have been born out, the article quoted from that most sage of Democrats, former President Jimmy Carter:
"World supplies are adequate and reasonably stable, price fluctuations are cyclical, reserves are plentiful," he (Carter) argued. Mr. Carter said "exaggerated claims seem designed to promote some long-frustrated ambitions of the oil industry at the expense of environmental quality."
But, as a later Times article notes, "the president's ambitious policy quickly became a casualty of energy politics and, notably, harsh criticism from Democrats enraged by the way the White House had created the plan."
In other words, Democrats refused the President's plea to "break free of the traditional antagonism between energy producers and environmental advocates."
Remember that the next time you pull up to the pump ... or the voter's booth.
William Tate is a former award-winning journalist and the author of the new ovel, A Time Like This (www.atimelikethis.us/)