Oil at $111 a Barrel: We Are Being "Sovereignly Screwed"!

The price of oil has diverged from fundamentals in such a dramatic way that it is placing our economy at grave and immediate risk, not to speak of the consequences of the enormous, unprecedented transfer of wealth that is taking place.

There are no crude oil shortages. Commercial inventories of crude oil, even excluding our Strategic Petroleum Reserve are 9% higher than they were at the end of last year. Crude inventories increased in seven of the last eight weeks. This past week crude oil inventories jumped by 6.2 million barrels far more than the 1.7 million barrels forecast. Yet prices barely budged below their all time highs of $111/bbl. Gasoline inventories are at their highest levels in the past 18 months.

Geopolitical concerns, though always present and forever overplayed are no more problematic presently than they have been in years past. Supply and demand? Largely adequate supply and diminishing demand. Yet, the price for crude oil continues to escalate to ever higher highs.

Turn on the television or read the papers and the reasons are always the same. The falling dollar (rarely a mention that the price of oil has increased by over 120% over the past 15 months, far more than the dollars the 18% fall over the same period (see "A Short Tutorial on the High Price of Oil and the Falling Dollar," 10/19/07). The dollar weakness can be blamed for much, but hardly the massive and disproportionate increase in oil prices. In addition the economy is slowing markedly and gasoline consumption is being impacted appreciably by higher prices as well as the weakening economy -- Economics 101 prescription for lower oil prices which just isn't happening (today's overall turbulence excepted but still to levels that are historically steep highs).

To better understand what is happening we need a time warp moment. With a tongue in cheek heading -- "Oil Baron Longs for Past, Not Futures" -- Newsday reported on November 2, 1990 -- (yes, 1990. Leon Hess, erstwhile owner of the New York Jets, was Chairman and Founder of Hess Oil & Chemical now known as the Hess Corporation -HES-):

"Leon Hess, whose oil company made more than $200 million by trading oil futures during the Persian Gulf crises..."I'm an old man, but I'd bet my life that if the Merc (the NY Mercantile Exchange) was not in operation there would be ample oil and reasonable prices all over the world, without this volatility" Hess said at a hearing the Senate Committee on Government Affairs held on the role of futures markets in oil pricing."

Ah, but, we are told, hedge funds, speculators, individual investors and even conservative institutional investors such as the CalPERS (the California Public Employees Retirement System) given the risks of the stock market and the disastrous bond markdowns are pouring significant funds into commodities as an asset class. As quoted by Reuters, "the financial flows have been overwhelming the fundamentals of the oil market." The inflows are large and the aforementioned groups are forever cited as the source of liquidity flooding the commodity pits. Yes, but oil continues to go up, up, up while other commodities such as grains have occasional and significant retracements.

But wait, there is a conspicuous absence in virtually all these analyses. Let me explain. In an eye-opening article that surprisingly received little or no attention by our forever somnolent press on issues of oil pricing, London's Financial Times headlined "Brazil Sovereign fund to target currency" 12.10.07. According to the FT Brazil's finance minister Guido Mantega Brazil is to create a sovereign wealth fund with the primary aim of intervening in foreign exchange markets to counter the appreciation of the country's currency.

Now consider the following. The vast transfer of wealth to oil exporters, most especially members of the OPEC cartel are accumulating enormous currency surpluses, permitting them in their own manner, to create sovereign wealth funds, deep reservoirs of cash without oversight, without transparency, without regulatory constraints, without operational standards, without disclosure requirements including conflicts of interest, without being subject to due diligence. This staggering accumulation of wealth has resulted in the formation of such behemoths as the United Arab Emirates with its $875 billion fund, Kuwait $250 billion, Qatar, Libya, Algeria, (coincidentally or not, all members of OPEC) among others and then of course Saudi Arabia whose sovereign fund according to the FT is expected to dwarf that of the UAEs.

Now given the lesson learned from the candid Brazilians, it doesn't take an advanced degree in Rocket Science to begin to discern a relationship between these opaque pools of capital and the otherwise inexplicable price moves in the energy trading pits. Are there valid reasons that underlie high oil prices? One could certainly put forward reasons supportive of strong pricing. But nothing either in demand nor supply nor market dislocation that in any way could reasonably substantiate the exacerbated degree of current price increases other than concerted manipulation toward ever higher prices, pure and simple. If Brazil presumes they can control the value to the Real on world currency markets through their sovereign wealth fund, influencing the price of a commodity, even one as widely traded as oil, would be equally plausible.

Can one reasonably suggest that these massive holdings of capital would not seek to support the price of the primary resource which is the mainstay of their economies by underpinning the price of oil on commodity exchanges around the world? Remember, trading on these exchanges is largely opaque and barely regulated. Anonymity of buyer and seller is easily achieved, especially so in the commodity exchanges outside the U.S. and over electronic traded markets. The way the price of oil is now traded provides it perfect cover to those who have the means and the objective of gaming the system.

Circumstantial evidence, circumstantial presumption? Perhaps. But certainly the logic is inescapable and cries out for congressional hearings on the role of the futures markets and the sovereign wealth funds and their offshoots in determining oil pricing.

Of course, there are many in this oil addled administration who are content with oil prices as they are, given the riches being visited on colleagues, friends and supporters in the oil industry no matter the crocodile tears now, at long last, being shed at the current level of prices. The same is true for too many in Congress especially those from states closely related to the oil and energy industry.

To expect much from this administration and the Congress given its craven obeisance to the oil industry these past years is wishful thinking at best. What is needed is an entirely new approach that needs be defined, ideally in the upcoming presidential debates whereby each candidate defines clearly his policies toward energy, and its consumption.

Certainly a way needs be found to divorce oil pricing from the commodities futures pits or at the very least, that trading on those exchanges become transparent and represent freely functioning markets that are not riddled with conflicts of interest or purposeful manipulation.

Some further thoughts of what might be done in future posts.

Comments

[jbatch]

Raymond, Raymond, Raymond. You were doing so well for a while, pushing hybrids, acknowledging global warming and understanding the way to beat a cartel was to cut our demand, not whine about them being "unfair." That's what cartels do -- they band together to charge unfair prices. The only control we have over them is to make their commodity irrelevant as rapidly as possible.

There is 1 factor driving oil prices -- speculation, and 3 factors effecting speculation.
1) For more than 20 years we've used more oil than we've found -- so a peak in production is at hand; The last two years has seen production essentially static.
2) An exploding demand -- with TaTa industries producing a $2500 car, and China entering the automotive world, this will accelerate.
3) The prospect of a supply disruption -- a possibility when 70% of the export market is controlled by the mid-East.

These are all real, and all valid. Commodity markets are doing what they always do -- setting prices based on a variety of factors, not simply on supply/demand realtonships.

Are we getting screwed? You bet. Can we whine our way to a solution based on some quaint notion of fairness of how markets OUGHT to work?

Nope.

Let's get back to the task at hand -- solving this problem by what we control -- our demand.

Efficiency, efficiency, efficiency. flollowed by renewables. That's the answer, Ray. Remember?

[worldtraveller]

How do you control price by lowering demand if OPEC can so easily just maintain an imbalance by lowering supply... think it through...­..

[tommy slothrop]

Nobody said anything about controlling price. We can control expenses by consuming less, though.

I hope OPEC does lower suply. It would give us more incentive to quit using the stuff.

[Americanabroad]

Actually, OPEC cannot, and this was demonstrated in the beginning of the 80s. OPEC lost control of prices at that point, and they plummeted, in large part due to substantial increases in efficiency in the West, including the US.

In 1967, OPEC wanted to embargo oil, but it didn't work, because production was still regulated in Texas, and a percentage kept off the market. There was spare capacity, and when the spigot was turned on, a small increase in supply was enough to prevent the cartel from controlling the market.

In 1970, the US reached full capcity of production, and there was no reserve to turn on in 1973. Plus, the economies of OPEC were largely undeveloped, and a temporary loss of revenue caused no problem.

By 1980, Saudi Arabia and other OPEC countries had allocated revenues to public expenditures. They could not afford the loss of revenue. OPEC tried to maintain quotas, but members were greedy and produced over quota, crashing the cartel.

It doesn't take a swing of more than 5% of demand to supply to move OPEC from being in the driver's seat to crashing the cartel.

Of course now we have insatiable new demand from China, India, the rest of Asia and Esatern Europe as demand factors.

[jbatch]

It works like this Einstein -- if 30% of the price of oil is specualtive, then a commitment by the US -- which uses 25% of the world's oil -- to get off imported oil in 10-20 years makes the speculators drop out immediatley -- and oil goes "down" to $70 a barrel within a week of the announcement. Next we actually DO it -- and we can, BTW, with existing technology.

When the Aisan currency crisis depressed the global demand for oil by a bit more than 2% in 87, the price dropped from $30 per barrel to just over $12. And that was just a few per cent. Imagine what we could do by cutting deamnd by 25 -- or even juswt 10 per cent.

And as Jim Bear points outm OPEC countries can't cut back too much -- they have internalized their income and they have "mortgages" of various kinds within their own countries -- Dubai and Saudi Arabia, for example, pay out enormous sums in oil welfare to theri citizens ($60,000 per year in Dubai). When the price of oil fell in 87-89, the House of Saud almost got toppled, so they can only cut production by so much.

So, I suggest you think it through -- and also, why don't you do a little research, before you bloviate.

[Mormondude]

So you sell 1 barrel of oil for $25 and then use that $25 to buy a futures contract for $50. You lose money on the contract, but this pushes the price of oil up. So you sell the next barrel of oil for $30 and use that money to buy a futures contract for $50. You lose (less) money on the contract, but it pushes the price higher. The next barrel sells for $35. Then $40. Then $75. Then $100. Then $110.

Considering that OPEC can re-buy every drop of oil they are selling at market prices using the same money we're paying them for it, there really is no way for the price to drop if they choose not to allow it to do so.

What are Obama and Hillary planning to do about this? Nothing. Their 'solution' is to punish Americans for high oil prices by raising their taxes further coupled with plowing the money into research that will take decades to bear out, if ever.

ANWR? Off limits, of course. California? Off limits, of course. Heck, we can't even burn our own coal because that would offend liberal sensibilities. We must pay an arm and a leg for natural gas from OPEC.

[Americanabroad]

Liberal sensibilities? Baloney!

Go to Appalachia and see the consequnces of strip mining. The lakes and rivers killed from toxic chemicals leaching from coal tailings. Go to a cancer ward and watch people die from lung cancer, or people die from emphesyma. Burning fossil fuels causes far more deaths from lung diseases than smoking.

See my post above. You want a quick fix? There isn't one. We realized this temporaily in the 70s, then lost our minds under Reagan.

We as a nation have behaved mindlessly and irresponsibly for over three decades. If we had acted in the 70s and 80s, and I don't mean ANWAR but alternatives and conservation, we wouldn't be up shit's creek now. But we didn't and we are. It's time to face it. We need to grow up, take responsibility, and act for the long term, and not just ask ourselves how we gratify ourselves until the next time American Idol comes on.

[kirotahoe]

the best way to secure a band of law breakers is to become the law makers. this is why bush and cheney will go down as the two thieves who brought down the american economy to enrich themselves and their cohorts. they have stolen our future to swell their coffers. that's why they should be prosecuted even if they are out of office.

[LeftRight]

What I love is the fact that I'm being told by people who claim to understand it all, is that the RECORD PROFITS! of oil companies are not unusual. If you look at the whole supply/demand situation we have with oil, the supply is either higher than normal, or at least at the same, while the demand is either the same, or LOWER. With the oil companies supposedly making the same profit margins, they should be making either less, or maybe slightly more than they did before, but they are making more PROFIT! than ANY COMPANY IN HISTORY!!!!! Tell me that this isn't profiteering!

[swift goat pet for truth]

But Exxon pays a whopping 13% Federal Tax on its profits!

It that not enough for you?

It is enough for our elected officials, especially Bush and Cheney.
They are such great guys! I sure would like to go out and have a beer with them! You know, that's the BEST criteria for electing government officials. And they are Christian, too!!!

[LeftRight]

I'm sure that they're not even paying THAT low figure! With every little way that they've got, that we don't, they're probably averaging 0%

[SamThornton]

What we see playing out here is another chapter in a 400-year quest by Western powers to control ownership and access to natural resources that lie outside their borders. By and large the West has been successful in imposing its will by force of arms on other countries that have desired resources.

$100 a barrel oil is an indicator that this long successful strategy of military conquest may be beginning to crack. The intransigence seen in the Iraqi Parliment against sweetheart deals with Western oil companies is one component of the pushback; suicide car bombs are another. Our victims have finally decided they won't be victims any more.

In this context, the failure of President Bush's invasion of Iraq is not so much a failure against a hated ideology as it is a failure to achieve a dominant base in the Middle East from which to control the price and availability of oil in the region. Resource rich countries appear to have woken up and found ways to effectively push back against this program of military domination.

If the Western strategy of resource acquisition by force of arms truly is beginning to fail, then we obviously need a Plan B.

[FrictionSoul]

You have too many assumptions in paragraph 3. Control the price? I think everybody and their cousin knew the price would go up and planned accordingly.

A good plan B in my mind would be to regulate oil futures. It's obvious that OPEC - of which the US is a member - is taking advantage of the US oil futures to game the system. Just watch: they'll game it up and then find creative ways to undermine the stupid US investors such as CalPers for millions in losses.

This whole oil futures market seems so very similar to the housing bubble and sub-prime mortgage mess that we're in the middle of.

[swift goat pet for truth]

A good plan B would be to spend R&D money to develop alternate energy sources.

[LeftRight]

US is NOT a member of OPEC. US has NEVER been a member of OPEC!

Also, OPEC is not the only ones gaming the futures market, Exxon-Mobil, Texaco, BP, etc... are all gaming the system too!

[mainmonkey]

Wake up and smell the peak.
http://en.wikipedia.org/wiki/Peak_oil

[speakingtruth2power]

Bush says that he knows how to speak for Us and went there to tell the Saudi Royals

to lower their prices. Then we see him holding hands and swapping spit with them!!!!

The economic troubles we are facing have not come about through W's incompetence.

We're witnessing the Shock Doctrine as implemented in Iraq, the tsunami and Katrina.

The Dollars fall will bring about the Amero and democracy's collapse will bring fascism.

Welcome to the virtual reality of GHWB's goal, the NORTE AMERICAN FASCIST UNION.

[jpopphan]

Want a solution that will stabilize the price of oil, increase the availability and affordability of fuel and will leave the prospectors and speculators totally out of the loop?

NATIONALIZE THE DAMN THING!!!!!

We need a state-owned, nationalized energy agency that would be responsibile for the acquisition and distribution of oil, gasoline, natural gas, etc. AND at the same time use proceeds from gasoline and natural gas sales to consumers to fund research into renewable and alternative energy souces, which would also be managed and distributed by the nationalized company.

A nationalized, state-owned company could negotiate directly with oil-producing countries instead of buying oil on the open market. Offer oil producers a fixed price for their oil, one that won't vary every other day or skyrocket because some trader somewhere has a pantload over what Iran's Deputy Assistant's assistant pencil sharpener might have said on Al Jazeera that morning.

Of course, I am just a "stupid liberal" and so no one wants to listen to me. But perhaps when gasoline is $5.00 per gallon in Middle America there would be more room for discussion. Regardless, we need to make changes in how we acquire and distribute energy resources.

[Sundialsvc4]

Raymond, let's not overlook the most obvious cause of them all: "military.­"

We are, right now, the aggressor nation. We pre-emptively invaded a country and have waged war against them for six years with no end in sight. But even as we are bombing targets in Iraq we are buying oil. That's a critical weakness. A -military- weakness.

We are also importing far more than we produce, from other hostile nations, and we have no "plan B." That's another critical weakness. A military weakness.

Finally, we are manipulating our own currency ... which is the only thing we actually have in trade ... to pay for this war, and we're continuing to demand that oil must be denominated only in Dollars. For us it is necessary; for any other country (and for that matter, for American businesses) it is insane.

The United States of America is about to find out the hard way that you cannot be a bully on the world stage from a position of weakness. You must be stronger than everyone else and that means self sufficiency. Your currency must be "good as gold." Otherwise, you can expect that the other nations on this planet -will- take action against you, and that they are perfectly capable of doing so without firing a shot. They can, and they will, drop your house-of-cards into the gutter that you made, and buy up what's left because -they- have real gold.

You're being "screwed," all right, but the fact is you've "screwed" yourself. An aggressive posture that would bring this planet into World War III must be countered. And we're seeing it happen.

[tommy slothrop]

To those who are gaming the system and raising the price of oil: My heartfelt thanks. Keep up the good work.

I look forward to the day when you have raised the price ot oil to $300/barrel. Something has got to stop this depravity that we in the US describe as "the economy." The only alternative is never-ending oil wars.

[mainmonkey]

agree - the only good thing about the price going up - and it is no small thing - is that it will force the U.S. to get off the deadly stuff.
It's going to run out anyway. - get ready for $200 a barrel by years end

[LeftRight]

Nah, OPEC recognizes that we won't be able to pay that. I estimate that it'll go up to around $120-130, then drop back to $110-115. It'll stay there for the rest of the year.

[ForRichardorPoorer]

as of 3/17/08

crude down over $4.50 a barrel, unleaded down 14 cents: down because of economic fears. not because of supply / demand /dollar fears. what gives. Thats what we were have been told. Nothing has changed; except that the economy is going down the tubes. they lied again and again and again. Greed.....­..

[Nutcase]

You say, "The way the price of oil is now traded provides it perfect cover to those who have the means and the objective of gaming the system." You state it as though it were something novel. Gaming the system has been a staple of the stock and commodity markets for generations.

Supply and demand is nothing more than cute little imagery created for the gullible. I argued this as a graduate student in international economics. Before considering the evidence, the professors were among the gullible. I was met initially with scorn or at least a patronizing attitude. They either came to accept that the concept of supply and demand was rarely utile or at the least that they could not rationally defend it.

The real problem is the unfettered influence, indeed control, that corporations exert over the economy and the government. How long has it been since someone has spoken, sans derision or irony, of government of, by and for the people in the present tense?

Am I off base? Every move that the government is making to "rescue the economy" is directed at helping the very ones who put us in the present situation. Each of the moves also has the side effect of making the situation, short-term and long, worse for John Q. Citizen.

Je pense, donc je suis populiste.

[Paul]

Put a tax on imported oil so that the price at the pump is $6 to $8/gal. The key is to have the price consistantly high. This will accomplish two things:

1. End the idea that a vehicle that gets less than 40 mpg is a good thing

2. Allow us to develop a decent mass transit system so you don't even need to buy a car.

We would be doing Michigan a favor - look at where they are after 100 years of building automobiles.

We would be doing ourselves a favor - we won't need a huge military to safeguard middle east oil for the commodity markets.

High gas prices and mass transit are the way forward.

[mainmonkey]

Don't worry - oil prices are headed up - forever.
http://en.wikipedia.org/wiki/Peak_oil

[jpopphan]

Public transport may be a good solution for those who live in urban areas, but it just won't work for those who don't live in a big city.

Fuel must be made more affordable, not more expensive. I get the impression that you're counting on "market forces" to pressure auto manufacturers to make more fuel-efficient cars and for consumers to use less gasoline. It won't work; they don't care - and many, many people still rely on their own automobiles for transportation and would still buy gas at $10.00 per gallon because they don't have a workable alternative.

If automobile manufacturers truly cared about what customers want in their cars, we'd have high-efficient cars already. If they cared about the environment they would have started rolling out hybrid cars targeted towards the middle and lower class instead of cranking out expensive hybrid SUVs and luxury cars.

We all want to save money, and many of us want to save the environment too. I bought a new car year before last but wasn't able to afford an extra $10,000.00 for a hybrid model - and had I had a real, affordable choice I would have bought one in a heartbeat. I am driving less and using less gas, but still find it hard to keep up with the constantly rising prices.

[Paul]

Why can't we develop mass tramsit for rural areas? Look at what was accomplished in the past: rail service throughout the country, rural electrification, a national highway system and the airlines network.


Still think we can't do it? OK, what is wrong with moving back to the cities and rebuilding them. The cities were abandoned in the last half of the 20th century - now its the suburbs turn.

Basing our transportation needs on current housing patterns is a mistake of historic proportions.

[Cha]

If you don't mind the US economy absolutely collapsing overnight, sure, go right ahead. I for one can barely afford $3/gal gas. There is no conceivable way in hell I could afford $6/gal. I might as well pitch a tent and call the bank to come get my house. My family isn't the only one in the country facing the same dilemna. Most people in this country can barely afford groceries let alone pay huge amounts for gas to get to and from the job that buys those groceries and that gas.

[ljmck]

Maybe we should write our congressional representatives and at least demand that oil subsidies be ended.

Let the oil barons apply for a grant if they need funds to develop a new processing plant--and they should be able to show that they've worked with the local community and a properly functioning (in the future) EPA to ensure minimal environmental destruction.

There must be a way to be active in stopping this continued robbery. Help!

[jpopphan]

Not only should subsidies be ended, but also we need to make sure that royalties for oil extracted from public lands are paid.

NATIONALIZE! NATIONALIZE!! NATIONALIZE!!! That is the ONLY real solution to the problem.

[Mormondude]

And yet nary a word is said about the massive agriculture subsidies.

Not only are we handing massive corporations like ADM and ConAgra free money, we're paying them NOT to grow food.

How much worse would it be if we were actually paying oil companies NOT to pump oil? Gas is expensive, no doubt, but food is skyrocketing in price now as well. And we are the primary suppliers of our own food, unlike oil, so why do we allow this to happen?

I would guess that high food prices hurt the poor much more than high oil prices do. So why the disconnect libs?

[jonsmom]

It will be obvious in my post that I do not understand economics. But I do understand greed and corruption. This administration has wanted to drill in the Arctic from day one. So far environmentalists and people with common sense have been able to stall their attack on this wilderness. Now they are making us pay for wanting to protect the environment. By squeezing us with ever higher gas prices, they hope to finally have people rise up and beg oil companies to drill in the Arctic National Refuge. People will thank the administration for polluting the ANR in order to bring lower gasoline prices (until we forget once again their deception). This is manipulation on the basest and most despicable level.