Speculating About Oil

Gasoline prices have reached absurd levels. In my town – which is not exactly the most expensive market – the price today was $3.83 per gallon. This is kind of odd since we are not yet in the summer travel season and the global economy, while improving, is not exactly on fire. So what is driving it? As with all thing, the Left has their ready-made answer: eeeeevil speculators. But Ezra Klein has put up a great piece demonstrating why he’s one of the few liberals I take seriously, pointing that speculation is sometimes a good thing:

In essence, says energy analyst Stephen Schork, a lot of oil speculation works like insurance. Countries and companies that need oil are willing to pay a “risk premium” now in order to ensure that they’ll have oil at a reasonable price in the future, even if shortages erupt. Schork adds that oil speculators are typically piggybacking on fundamentals — like the fact that global supplies are tight.

Exactly. I’m reminded of the bitching after the last stock market bubble about evil short sellers. Short sellers are critical to the proper functioning of a market, injecting skepticism and concern about popular investments, keeping a lid on prices. In the case of the dotcom bubble and the real estate bubble, they were the only thing keeping the train from going completely off the tracks.

Speculation may not be as noble a pursuit as building expensive inflammable electric cars that no one wants or blowing hundred of millions on solar tech. But it is a critical part of functioning markets. And speculation, as Ezra notes, goes both ways.

By contrast, in the natural gas market, speculators are actually pushing prices down to decade-low levels. “That’s because the fundamentals in that market are the polar opposite,” Schork says.

You don’t hear anyone bitching about that because natural gas prices are irrelevant the belief that we are somehow entitled to cheap oil and if we aren’t getting it, it’s because of some evil Republican plot.

Or a Democratic one. Cato, perhaps feeling the need to tweak the Kochs in their legal fight, defends Obama from the charge that he is responsible for oil prices:

despite the popular perception of President Obama as anti-oil, domestic oil production is increasing for the first time since the Johnson administration. Alas, little of this has to do with the president. Prices increased from $22 in 2002 to just under $100 a barrel average in 2008 and supply has responded. President Obama is no more responsible for production increases than other presidents were responsible for production declines.

The liberals who loved to blame Bush for every oil price spike have been eerily silent on Obama’s culpability. But while I’d love to blame him, US production is up by a couple of million barrels a day. This is not his doing, of course: it’s the long slow response to the last price spike. While Obama has done everything he can to stand in the way, even he cannot control the market forces that are demanding and getting more oil.

And in the end, it is those market forces that are making my eyes pop out of my head at the pump, not some conspiracy. There’s no one factor driving this: it’s a mixture. World demand is up — not a lot, but enough. US demand is up. North Sea production is down. The oil we are getting is increasingly expensive to pull out off the ground — almost all the low-hanging fruit has been burned. Arab Spring spooked the markets, especially when Libya briefly halted production. Iran’s threat to close the Strait of Hormuz is that latest wrinkle, but that’s just another factor.

Some solutions have been proposed, but their impact would be minimal. Oil costs what it costs. More drilling won’t pay off for years and, because of the expense of future sites, won’t be that cheap. We should do it, but let’s not pretend it will drop oil to $16 a barrel. Better fuel efficiency standards and more cars running on electricity or gas might help in the long run, but efficiency is usually just matched by increased demand. Opening the Strategic Petroleum Reserve would help a little, but not much. And frankly I don’t think this has risen to the “break SPR glass in case of emergency” level yet. Cracking down on speculating, even if it were possible, would do nothing. It might even make the prices shocks worse.

In the end, we have to do what we always do: ride it out. We really don’t need a grand plan for remaking the Universe. Americans are already responding as they have in the past: driving less, driving smaller cars and conserving. Just today, te WSJ noted that the non-hybrid version of the Volt — the 40 mpg Cruze — is selling way better than the Volt itself, proving once again that consumers aren’t nearly as stupid as politicians.

But no President, Congressman or Senator is going to come out and say: “The oil market is tightening; deal with it.” Much easier to blame shadowy speculators and rapacious oil interests. I’d say it’s an election year but, with this crowd, it’s always an election year.

(Unrelated Note: You know, I am continually amazed at the tags tagaroo comes up with for my posts. “Crack spread” is one of its recommendations. I don’t even want to know what that means.)

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  1. FPrefect89

    Here’s some light reading for you Hal. Some of the stuff I ran across while doing a report on oil and gas prices

    Paul Krugman defending Speculation

    Transportation Issues

    Unfortunately, the PDF file on one of the major drivers, the value of the US Dollar I cannot find on a free page. It is usually the one thing that people tend to forget, when the value of the dollar drops, everything costs more.

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  2. AlexInCT

    The liberals who loved to blame Bush for every oil price spike have been eerily silent on Obama’s culpability. But while I’d love to blame him, US production is up by a couple of million barrels a day. This is not his doing, of course: it’s the long slow response to the last price spike. While Obama has done everything he can to stand in the way, even he cannot control the market forces that are demanding and getting more oil.

    Stand in the way of what? Domestic production? More fossil fuel production of any kind in the US? The Excel pipeline? Seriously, Obama has tried to keep either supply up or the cost of these and their derivatives down about as hard as a practicing alcoholic tries to pace his drinking when he has been forced to be dry for way too long. As we have found out with the whole Buffet angle to the Excel pipeline refusal, or his commitment and support to some companies that prefer there be as little energy production as possible in the US though, his motives aren’t as pure as they are portrayed by the watermelons. granted, presidents don’t really have much power to regulate the market or stop the risk factors that drive up prices, but they do have the power to regulate supply on that whole supply & demand curve, and Obama’s efforts have been to drastically undermine supply.

    Two decades ago they told us we should not be drilling in the US because it would be 10 years for that to even get to market in numbers big enough to affect price. A decade later we had a crisis and where given the same idiotic excuse to keep us from doing our own production, but we are hearing the same nonsense about their being no quick solution. I am willing to bet that 10 years from now, when whatever efforts were put in place now would become viable the soonest according to the detractors of more drilling, we will again be screaming for relief and they will tell us again that we should do nothing because it is going to take a decade for anything substantial to happen anyway. The moral of this story is that if we had started drilling at any one of these crisis points instead of just dismissing the effort because it lacked immediate effects, we would be better off. Even if we ended up exporting most if not all of the oil we pulled out of the ground. And anyone arguing otherwise is lying.

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  3. hist_ed

    I am not going to link ’cause I don’t want to spend the time to look it up right now, but I just read (sometime in the last week or so) that all increases in US production over the last few years have been on private or state owned land. Production from federally owned or controlled land (and sea) has dropped significantly.

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  4. davidst

    This is a most excellent and accurate post. While I’m sure some speculation is unnecessary and “unethical”, trying to stop it would probably do more harm than good. If there is any unnecessary speculation, it’s only exacerbating underlying fundamentals.

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