High Energy Prices Are Good – Fast Rising Prices Are Deadly

May 23, 2008

March driving down for 1st time since 1979: government

In a sign that Americans are curbing their driving in the face of record-high gasoline prices, data released on Friday showed highway miles driven in March fell 4.3 percent from a year earlier, the first March decline since the last major oil shock in the late 1970s.

Assuming that the data is correct, I find this is good news.

It is often argued that oil consumption is inelastic, i.e. does not change much when the price changes. While this may be right for the short term, a planed trip will not be postponed because of a few cent higher gas prices, the long term is different.

Record-high oil prices above $135 a barrel are pushing average pump prices closer to the crucial $4 a gallon level. Pump prices in seven U.S. states, including California, Illinois and New York, already average above $4 a gallon.

Why is $4 a gallon "crucial"? The price here is $9 per gallon. It was $8 the last time I filled up, which is some two month ago. The tank is still half full.

Crude oil prices — which comprise more than 70 percent of the cost of gasoline — have jumped about 30 percent since the start of 2008, driven by worries about tight stocks of refined products in the near term and mounting global demand over the longer term.

Not a word about speculation. The 30% increase this year can NOT be explained by demand or supply constrains. This jump is the consequence of negative real interest rates the Fed is inducing to prop up Wall Street banks and of unlimited financial speculation in the commodity markets:

Wall Street banks, hedge funds and other investors have been boosting spending on commodities such as oil for several years. Global investment in commodities rose by more than a fifth in the first quarter to $400 billion, Citigroup Inc. said April 7.

In the last year, non-commercial market participants have raised bets on rising prices, known as long positions, by 37 percent to 263,378 contracts, the Commodity Futures Trading Commission said May 16.

Last weeks jump in crude-oil prices to $135/barrel was a classic ‘short squeeze’ that had absolutely nothing to do with real oil:

The rush to buy back contracts may be linked to the record number of short positions that had been built up in recent weeks by small-sized speculators, which the CFTC refers to as "non- reportable” traders because their holdings are small. Those investors held 123,194 futures contracts betting oil futures would fall in the week ended May 6, an all-time high, and 47 percent more than the number of bets they’d placed on rising prices.

There are several things wrong with future markets.

It is a good idea if a farmer wants to ‘fix’ the price for the wheat he plants today and wants to sell next year. It is fine that a mill wants to ‘fix’ the price and amount of wheat it plans to buy next year. If the farmer and the mill can agree on next years price today, both will have more security in doing their business.

Commodity future contracts and their exchanges were invented to handle the above situation. Initially they were restricted to real market participants who were buying and selling the physical products.

But today everybody can speculate with such contracts and settle them in money instead of taking delivery of, or deliver the actual physical product. There is absolutely no reason to allow such non-physical market participants.

Additionally these speculations are highly leveraged:

When you enter into a futures or option contract through an individual account, you are required to make a payment referred to as a "margin payment" or "performance bond." This payment is small relative to the value of your market position, providing you with the ability to "leverage" your funds. Because trading commodity futures and option contracts is leveraged, small changes in price, which occur frequently, can result in large gains or losses in a short period of time.

This speculation by ‘non-commercial market participants’, and a good chunk of the high oil prices, could easily be reigned in if the U.S. Commodity Futures Trading Commission (CFTC) would increase the mandatory margin requirement.

The commission is chartered by Congress and there is no reason why Congress could not legislate such. Indeed two weeks ago Democrats in the Senate started to push for this, but the proposed bill mixes up too many controversial issues. Higher margin requirements are a no-brainer and could be enact alone.

High and rising energy prices are good as they change long term behavior and will lead to less consumption. Fast rising energy prices are bad because they do not leave enough time to adopt. One can not build a new light railway or cultivate a new fruit within a few month.

The gravest problem, literally, is the fast increase in food prices which is directly connected to energy via fertilizer prices and the crime of Ethanol production. Many people will die because of these increases.

Currently energy prices are rising much too fast. This is a result of cheap money and leveraged financial speculation.

But cheap money is a conscious policy of the U.S. Federal Reserve to bail out the banks and the leveraged use of this money in speculation is conscious policy of the CFTC and the U.S. Congress.

The deadly consequences of such policies were foreseeable.

Posted by b on May 23, 2008 at 17:55 UTC | Permalink

Comments

You have to wonder at what price per gallon of gas will the US actually begin serious work to reduce our dependence on OPEC.
$7 a gallon?

Posted by: mlhm5 | May 23 2008 18:01 utc | 1

Energy prices, rising like a porn star’s resume, may be a last hoo-haw, preceded by all those hurrahs we provide.
Personal belief, after the earthquakes under ice and coasts under sudden water, of which I’m sure and no one here and yon has tried to refute even after $1,000 offer for invalidation, is that more will die from directed disease, controlling hunger, roundups, lack of energy.
But a Tesla-based system of electrical transmission (our current system is entirely Tesla) and generation from the atmosphere will arrive, save day and enforce privileges of the lords, masters of many weapons.
Oil may never be officially announced as non-peaked, even after us “useless eaters” weaned, (why let retail know how much wholesale exists?), but at this point I take the abiotic oil claims seriously. Oil fields under Gulf of Mexico refilling from below is a pretty picture, never stressed.
Beyond such, and that internet/email/cell phone connections will continue, (automatic info preserved indefinitely for high priced contracts to scan with high priced machines pays for a lot of lunches and disappearances), I have no idea of how our masters will proceed. More porn or less? Mutatis mutandis,alcohol, fake drug war, herb healing halted, living wages rather than dying tips?
But tippy-top tends cruel, lets just hope they keep it on the down low.
Little Red Riding Hood, best known through Grimms’ folklore collecting but originating in early 16th c. in south of France (earliest written extant version), decades in which hundreds of werewolves were burnt, usual crime killing and dismembering children, is a warning that anyone, even your Grandmother, little sexy missy, might mean harm, at great pleasure to themselves. But Lords are above all that, or the educational system would tell us.

Posted by: plushtown | May 23 2008 18:31 utc | 2

I don’t expect to see the price of gasoline falling back a whole lot in our future.
42 Gallons = 1 Barrel.
1 Barrel costs $135.00
Now do the math. Don’t forget to allow for gasoline taxes, shipping, refining, etc.
Of course, other by-products are sold from the Barrel that makes gasoline, but still, at $135 per Barrel, gasoline prices will probably have to rise much more yet just to break even with the raw cost of a barrel of oil.

Posted by: Rick | May 23 2008 20:02 utc | 3

b, I’m guessing that you drive some kind of sensible European car that gets sensible European gas mileage. Virtually no-one here is doing that. The way of life that $4 a gallon is menacing is one that exists more or less entirely because of cheap gasoline. There are thousands of people in my part of Vermont alone who are driving around in cars and trucks that get less than 10mpg. Some of those can’t afford a better ride, some undoubtedly think it’s their God-given right as an American to own a carburetor that gurgles as the gas runs through it like water out of a bathtub, and thousands more, the richer ones, are buying brand-new SUVs that proudly state their 15mpg fuel ‘economy’ on the dealer spec sheets. Plenty of us are trapped in this downward spiral – no money for the next tank of heating oil, let alone a fancy foreign car – but plenty more are just riding the wave of delusion. And that’s the scary thing. I see a shiny new SUV drive past me and I see a page of this culture’s suicide note.

Posted by: Tantalus | May 23 2008 21:59 utc | 4

There is no doubt that the largest chunk of cost for fuel in many countries is what the oil companies always call ‘tax’ but is really a charge on using petrol. That is costs for roads, construction and maintenance, repair to a degraded environment, subsidies to public transport to attract the commuters who refuse to see what is in front of them, that one person one car one trip is unsustainable. And a host of other mitigations for the ‘small inconveniences’ that result from living in a society where the number of vehicles exceeds the population.
Already in this part of the world industry is putting pressure on government (it is election year here too) to drop new environmental safeguards due to be implemented. They won that of course and now the fuel companies and their surrogates are pressuring government through the media. By calling these charges on fuel, taxes, rather than what they really are, the cost that a community incurs whenever a gallon of gas is sold, the fuel companies have most of the argument won before they start.
Somehow deliberate or not we have been caught in a squeeze play where government and industry all ‘own’ the environmental damage of the internal combustion engine, even begin to take steps to address it. Then serendipitously, the price of fuel rises so high that humans, always prepared to sacrifice long term survival for short term comfort, are tricked into demanding that the protections be lifted.
Expect much more of this. Any examination of the oil market during it’s steady cost increase shows a curve where prices rise steadily to a point where media commentary on the subject is active, which provokes a short spell of selling. The media then says “prices have dropped”; that “things are steady”, then prices begin to rise again. All this is a sign of a classic speculators market. The regular drops from the price peaks are a sign of so called “profit taking” when speculators read the media signals and sell at a profit, then they wait for the prices to drop a bit, but never back to the original level, the speculators buy in again and the process is repeated.
Business Week a fishwrap I normally eschew, has an excellent article on exactly how this is occurring despite the ‘fundamentals’ not supporting it. eg

” On May 13, the price of a barrel of oil briefly hit a record of $126.98 on the New York Mercantile Exchange The reason was ostensibly that Iran was cutting oil production. But there is no gas shortage.. . . ”
“. . . Lehman Brothers (LEH) investment bank had said that this current oil pricing boom was quickly coming to an end. Michael Waldron, the bank’s chief oil strategist, was quoted in Britain’s Daily Telegraph on Apr. 24 as saying: “[Oil supply] is outpacing demand growth.” Waldron added, “Inventories have been building since the beginning of the year. The Saudi Khursaniya field has just opened, with 500,000 barrels a day of production, and the new Khurais field will start next year with a further 1.2 million b/d [barrels a day].” . . .”
“. . . MasterCard’s (MA) May 7 gasoline report showed that gas demand has fallen by 5.8%, while the government suggested that gasoline consumption might have fallen by slightly over 6%.
We do know that refineries in the U.S. again cut back their utilization to 85%. That’s down from 89% a year ago, in a season when production is normally 95%, only because they’re trying to draw down gasoline inventories to bid gasoline prices up. Yet despite the reduced refinery runs, the EIA said, the U.S. managed to put another 800,000 barrels of gasoline in stock. . .”
“. . . Chinese consumption is expected to rise this year by only 400,000 b/d—hardly the “surging oil demand” usually blamed on China in the media. Last year China imported 3.2 million barrels per day, and its estimated usage was around 7 million b/d total. The U.S., by contrast, consumes around 20.7 million b/d. . . ”

We get the picture
I see some real long term dangers in the speculation beyond the obvious ones. Every new price plateau contains several billion reasons for prices to stay high. Some of the most powerful people in the economy have compelling reasons for keeping prices up. ie they’ll lose their shirts if prices drop. Even worse high interest rates combined with the fact that most players will be borrowing to play the game, means that not only do prices ‘have’ to stay high, they also ‘have’ to keep increasing so these speculators can meet the vig.
We know that these high prices will a/make the rich richer, b/force governments to reduce amelioration of oil’s environmental damage and c/ prevent the push against bio-fuels development which has been demonstrated to starve the poor. The only thing we don’t know is what we can do to stop these assholes in their tracks and hang them from the nearest lamp post.

Posted by: Debs is dead | May 23 2008 22:34 utc | 5

By the time the fall elections come around, those of us in the US will be living in a completely different country. The change in the way we spend our days is going to be so abrupt, so routine shattering, that I don’t think we the American public are going to be able to handle it. Even those of us who see it coming can’t really imegine just how bad it’s going to be.

Posted by: mikefromtexas | May 23 2008 23:39 utc | 6

Several people here on MoA have mentioned a “Maker-Taker” restriction on energy and
commodities, only producers and processors be allowed to trade in energy and food
commodities, only those who can physically take delivery. No passive alpha chasers,
no carry-trade derivative hedge funds, this bleedout is massive the way they’re
underwriting the banks and brokers with, ultimately, our SSTF and 401k’s.
Congress could pass a “Maker-Taker” law in a New York second, but there’s the rub.
Producers are making money hand over fist, pumping it right back into Fed taxes and
bribes. The only reason the American stock markets have any yield at all is Big Oil
and Big AgraPharm. This is the end-game of monopoly. This is Ancient Rome.
Congress, the Executive and Justice no longer represent the People. None of them.
Our Fed Bank (*private charter*), and Federal Government, are corrupted as hell.
Now is the time for all brave wo(men) to come to the aid of their countrywo(men),
and toss all the crooks out of power, every single encumbent, voted out of office.
Otherwise, hey, I been there when the natives gets ugly. Head, meet guillotine.

Posted by: Perry Trebuchet | May 24 2008 1:11 utc | 7

The traders got the wrong lesson from DotCom-Bubble and Real-Estate-Bubble: First they believed the stocks in questions were sure winners, and when they learned this was not so, they believe they are sure loosers and move on to the next hot thing – currently this seems to be oil and other resources. (Expect the prices to go up for a few more years, before taking a big dive)
What they do not see is: What the bubbles have in common is the players in the market.
And yes: You can make good money using the Internet, but this does not mean any startup without businessplan will make tons of cash.
Yes, real estate will always have value, and it will increase as the number of people rises and the available land does not. But now we see the limit for this.
Yes, commodities are the base for todays widespread if rather uneven allocated welfare – but people will (have to) learn to do without oil if they cannot affort it any longer, and riot rather than starve if food prices raise beyond what can be afforded.
As always since Neoliberalism took over, Governments are loath to consider any corrective action – other than tighten internal security. This may be the last bubble before the big change – and I cannot say if what follows will be better or even worse.

Posted by: No So Ana | May 24 2008 7:46 utc | 8

Considering energy prices alone is only part of the picture: one has to consider the cost of transportation overall. Not just the fuel, but the vehicles that use it. You hinted at the notion in that Americans tend to drive cars with lower gas mileage.
Europeans tend to drive more economical cars not only because the price if gasoline is nearly double that of the US, but also because of the physical restrictions on their size for parking and getting through those windy, narrow strets and roadways: a lot of these “old Europe” town were built before automotive access became the determining factor in urban planning.

Posted by: ralphieboy | May 24 2008 10:45 utc | 9

The informed commentary on this site is a delight, thanks to you all.
I think that high energy prices are good, in the context of a petro-economy, but that super cheap energy prices are the only sustainable future. Let me explain; after the initial investment phase for renewable energy, with printed solar panels leading the way with their cheaper than coal initial investment, energy costs will gradually fall (barring gouging) every year thereafter, because output will be continuous and upkeep and replacement will be relatively inexpensive. The result of this, combined with the anti-monopolism effects of a more distributed energy grid, will be steadily falling energy costs. I think that this is the real reason that we never moved in the renewable direction back in the 70’s, when it would have been most logical to do so; TPTB calculated that virtually free energy would make the serf’s uppity, by eliminating one of the major barriers to small scale production and enterprise. The fact that virtually free energy has the potential to enrich the world tremendously, and that is bound to benefit the elite as well, was either missed in their blindness, or judged not compensatory to the loss of their precious control.

Posted by: Li | May 24 2008 16:10 utc | 10

Engdahl @ ATimes evaluates the dimensions of oil speculation, who benefits, and (here’s a surprise) Bush bloc contribution to disregulated speculation:

… [A]t a conservative calculation, at least 60% of that price[$130 a barrel] comes from unregulated futures speculation by hedge funds, banks and financial groups using the London ICE Futures and New York Nymex futures exchanges and uncontrolled inter-bank or over-the-counter trading to avoid scrutiny…
Through a convenient regulation exception granted by the George W Bush administration in January 2006, the ICE Futures trading of US energy futures is not regulated by the Commodities Futures Trading Commission (CFTC), even though the ICE Futures US oil contracts are traded in ICE affiliates in the US. And at Enron’s request, the CFTC exempted the over-the-counter oil futures trades in 2000.

Posted by: small coke | May 25 2008 1:39 utc | 11

Bearing Witness!
Most Dangerous War in History for Journalists
All in all, I think it was worth it! Madeleine Albright, SecState Clinton Administration, Term Two
Hillary is a Republican cross-dresser in a natty pants suit, and
McCain is Bush’s bitter old grandfather: A Slow Motion Armageddon.
By any calculus, America is going the way of the Soviet Union.

Posted by: Putin Glee | May 25 2008 2:04 utc | 12

The major investors, pension funds, sovereign funds, the small as well, have slowly, since when, 03?, partly switched from investing in stocks, bonds, housing, and such like, as profits slow and diminish, boom and exuberance are over, and went to what everyone needs and wants and so will always pay for – energy: oil, fossil fuels generally, and food.
The stock market represents a small biz. compared to commodities and the now dying, deflated, debt bubble. (I think?) So, yes, the rise in gas prices and food prices do represent a sort of ‘speculation’ – people, institutions, putting their money where they think they can get returns. Very basic reasoning here on my part.
On economic boards, you see on one page, that the rising prices of oil are due to supply/demand crunches caused by refinery problems, OPEC manipulations, are temporary, etc. and the next poster says he bought oil futures and sold all his stock in blue chip companies. Comical and telling. Most (?) of the economic pundits, peak oilers, and various Gvmt. types, for their own various reasons, deny the impact of finance and either turn to Nature, or in various ways minimize the role of investment … to make it dirty they call it speculation…

Posted by: Tangerine | May 26 2008 18:14 utc | 13

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