June 27, 2008
Bubble, Bubble, Oil and Trouble
This Washington Post story nurtures the question: are the recent bubble-like oil price spikes driven by speculative runs on oil or are they driven by a fundamental growth in demand? The supply side, aka Saudi Arabia, claims the first choice and the demand side, aka America and industrialized states, claims the second. My semi-educated wild hunch is that the supply siders' 'explanation (high speculation) is closer to the truth. (UPDATE: Commenter Klaus notes a more recent Krugman column on the same subject arguing that economic fundamentals are primarily driving the price increase.)
I suspect the speculation angle is truer because the motives for speculative chasing of oil are very strong -- weak dollar, low interest-high liquidity joined to bad equity/land investment opportunity in the more advanced countries -- and the demand growth, aka China and India, while considerable and permanent has not been so radical, and I also sense there is consumer belt-tightening happening in the more industrialized countries. Further, steady solid growth doesn't contradict but often stimulates and reinforces more wild speculation. Consider the tech bubble, it was underpinned by genuine revolutionary development in information technology, aka the Internet.
Let's leave it to our Aqoul member and commentariat Sages to fill out and correct the picture.
Posted by Matthew Hogan at June 27, 2008 08:23 PM
Filed Under: Business, Private , EU Foreign Policy , Economic Development , Economic Policy , Foreign Policy & MENA , Gulf , MENA Region General , US Foreign Policy
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Is speculation playing a role in high oil prices? It’s not out of the question. Economists were right to scoff at Mr. Masters — buying a futures contract doesn’t directly reduce the supply of oil to consumers — but under some circumstances, speculation in the oil futures market can indirectly raise prices, encouraging producers and other players to hoard oil rather than making it available for use.
Whether that’s happening now is a subject of highly technical dispute. (Readers who want to wonk themselves out can go to my blog, krugman.blogs.nytimes.com, and follow the links.) Suffice it to say that some economists, myself included, make much of the fact that the usual telltale signs of a speculative price boom are missing. But other economists argue, in effect, that absence of evidence isn’t solid evidence of absence.
What about those who argue that speculative excess is the only way to explain the speed with which oil prices have risen? Well, I have two words for them: iron ore.
You see, iron ore isn’t traded on a global exchange; its price is set in direct deals between producers and consumers. So there’s no easy way to speculate on ore prices. Yet the price of iron ore, like that of oil, has surged over the past year. In particular, the price Chinese steel makers pay to Australian mines has just jumped 96 percent. This suggests that growing demand from emerging economies, not speculation, is the real story behind rising prices of raw materials, oil included.
Posted by: Klaus at June 27, 2008 10:10 PM
Not an expert on the topic, but it's too much of a mixed picture to really tell. Demand is growing, supply isn't catching up, but is the gradient enough to explain the rise? Even some of the wiser ones have just thrown up their hands. And those that really are sure probably won't say, simply because there is a lot of money to be made if they are right ;)
Posted by: M. at June 28, 2008 02:00 PM
I think you got it right with that last bit: speculation, but underpinned by a pretty sobering reality. We have inadequate exploration and mismanaged oil fields caused by state takeovers that throw out the companies with the knowhow to exploit the fields to the fullest and find new ones.
But the iron ore incident is telling: even without the special political circumstances that always seem to surround oil we're in for a few years of rising commodity prices, at least. I haven't investigated the iron ore situation as such, but one thing that seems to be true across the board in minerals exploration is that because of the long bear market in commodities that only ended a few years ago, geologists and other expert types are scarce on the ground. This will of course hinder the finding of new sources for this stuff.
The cycle will turn long-term bearish again once this situation has been solved and exploration budgets ramp up to meet the new demand. Not something that happens overnight.
I watch the oil services stocks for signs of froth in exploration, and I really haven't seen it yet. It's a strong bull market that's a bit ahead of itself, and therefore due for a correction. But the heads of shorts looking for that correction have been neatly and mercilessly sliced off so far.
Posted by: pantom at June 29, 2008 11:08 PM
The adage prevails as ever: the market will remain irrational longer than you will remain solvent.
Posted by: matthew hogan at June 29, 2008 11:34 PM
I don't really understand why it's so hard to accept that the growing global economy means increased competition and thus higher prices for natural resources. And since both oil extraction and use thereof has a great deal of inertia, markets are going to go up for while. I mean, what else are you going to run a car with? Add to that the falling global production of oil, and it makes sense to me. I just don't see the controversy.
Posted by: Klaus at June 30, 2008 06:36 AM
It's the steepness and speed of the rise not the rise, which was natural and permanent and to be expected.
Posted by: matthew hogan at June 30, 2008 09:59 AM
the threats towards and from Iran, from America & Israel to shut down Natanz, and from Iran about shutting down the straits of Hormuz; are these chest-beating or is America serious, as Hersh asserts, about starting a crisis in Iran? And is America (or are Americans) willing to pay the price, including oil at over $200 a barrel and $6+ a gallon at the pump? Hezbollah and other groups set loose to set the world on fire?
There is a price for everything: I think Israeli theorists, such as military historian Martin van Creveld and former Mossad chief Ephraim Halevi, have already argued that Israel can live with a nuclear Iran, that Israel is militarily impermeable and will persist, and that rational thinkers in Iran will prevail.
As for whether rational thinkers will prevail in the oil market, well... as a friend in investment told me: "There are three main factors at play in the stock market: greed, fear and ignorance."
Posted by: dawud at July 1, 2008 02:21 PM