There has been a spate of proposals to regulate the oil futures market by the current administration. The goal is to rein in price fluctuations, which is a worrisome trend.
The perception, perpetuated by the talking heads of financial television, is that over speculation has been the root cause of massive oil fluctuations. Actually, the facts bear out that nothing could be farther rom the truth.
1. The oil-futures market is tiny compared with the physical oil market: less than 3% of the world’s oil consumption over the next year is accounted for in the open interest.
2. The U.S. government cannot possibly regulate the global market. Oil is an international commodity, traded by Americans and non-Americans alike on both American exchanges and exchanges overseas.
3. With the proposed regulation, foreign oil suppliers will have a greater futures market share. The oil market will become more susceptible to manipulation by these suppliers.
4. Another common misconception is that speculators only buy and hold assets. More accurately, speculators try to benefit from fluctuations in prices. In other words, speculators cannot profit from sustained high prices; they can only profit from changing prices. Speculators do not drive prices up then wait…they take profit.
5. While speculators affect the market in both directions, commercial participants tend to put upward pressure on prices, and it the big banks using stimulus money who tend buy and hold contracts. Banks like Citigroup, through its Phibro commodities-trading subsidiary, and Goldman Sachs, through its own energy-trading desk.
The current administration needs to refrain from controlling the wrong participants, which would push the price for oil out of American hands and into the foreign dominated oil producers.
Strict position monitoring, that is, making sure no entity controls more than 20% of the open interest is a great idea…but stifling the futures market moves some measure of price control out of our hands and into the hands of oil producers.
I don’t doubt there is some price manipulation in the oil market, but we need not cede complete control to foreign entities, especially those hostile to our plight.
Paul Krugman’s Comments
In his blog today, Krugman says:
“Like Brad, I’m not too happy with the policy justifications we’re getting from the administration. It’s perfectly clear that the stimulus was too small; I think they know that too. But they’ve made a political judgment that (a) they can’t push another round through and (b) the thing to do right now is defend the policy they already have.”
I am an avid reader of Krugman, and even though I tend toward Republican leanings, I have found the Republican fiscal policy of late, well, let’s just say it is misguided. Of course, the drum beatings from the likes of Hannity and Limbaugh (the de-facto leader of the Republican part, God help us) are that Obama is spending the country into oblivion.
And we have spent a lot of money, not much of which has really made its way into the economy yet. I am not sure who to blame for that, but the general consensus is that the second half of this year this money should trickle into the economy. Even Nouriel Roubini, who is not known for his cheery prognostications, was more upbeat in his Friday postings that usual. So the Republican party finds itself in a difficult position here, trying to use the old methods (think: tax cuts) to remedy a situation that is entirely different from other situations where this strategy worked. And who really benefits from tax cuts? Ummm…I think you know the answer.
Krugman stated in the early discussions on the Obama stimulus package that he felt the amount of the package was too small to do the job, and he has consistently maintained that position. Now he laments that the political environment is not conducive to upping the ante on future stimulus packages and we find ourselves mired in a longer recession than we care to endure.
Sometimes economics is just plain at odds with society, and sometimes economics is just plain “in left field with no mitt.” But on this one, I think I will side with Krugman, he had it right from the start.