11-25-07 by dugan
Way back in autumn of 2004, Hurricane Ivan hit the Gulf of Mexico and U.S. crude oil prices briefly topped $50 a barrel as offshore drilling platforms were rattled. Even then, a few experts called the price spike absurd.
"It is speculation, pure speculation," said one well-regarded oil analyst, Fadel Gheit of Oppenheimer and Co. "It is a bubble like the internet bubble. It is not justified by supply or demand."
Nearly $50 a barrel later, with crude oil circling the $100 mark and threatening to tip the world into recession, what has changed? The dollar is weak, world oil consumption is up somewhat and a Turkish tank may be parked on the border of Iraq, but the fundamental answer is still “speculation.” At least there’s more company in that opinion.
OPEC leaders and even oil company CEOs are pointing at unregulated energy trading markets, an international wild West of speculative gambling. These markets were generated by the “Enron loophole.” a provision inserted at the behest of Enron and other large energy traders, without debate, into the Commodity Futures Modernization Act of 2000.
At the time, Enron argued that deregulation would make energy markets more “efficient” at setting a logical price and protecting producers and consumers from wild swings. Deregulation actually made markets more speculative and subject to manipulation, as Californians learned in their electricity crisis of 2000-2001. Congressional investigators also found that energy trading by a single hedge fund, Amaranth LLC, led to high prices and extreme price volatility in the U.S. natural gas market in 2006.
The growing torrent of paper trades by giant hedge funds, corporate traders and individual gamblers has little to do with real energy. Barrels of oil are traded over and over, though no hedge fund manager intends to take delivery of a tanker full of oil or a pipeline load of natural gas. Yet each paper trade has a transaction cost, aside from the trading momentum that pushes high prices even higher.
The result is energy prices that are right up with the sub-prime crash as reason for economic worry.
Americans ought to be asking why their government is AWOL.
During a Senate hearing on oil prices last year, the Senate subcommittee on investigations heard testimony that excessive speculation in energy markets accounts for perhaps $20 of a then-$70-per-barrel oil price. Energy analyst Marc Cooper of the Consumers Federation of America has estimated that speculative trades would drop by half if all trades simply had to be reported to regulators, which alone would drop oil and natural gas prices.
Yet mild energy trading oversight bills that Sen. Dianne Feinstein of California and Sen. Carl Levin of New York have submitted since 2002 still languish, blocked by energy lobbying.
Here’s how oil companies fit into the picture. When speculators drive up the paper price of oil, the companies get to raise the price for all of their own production, most of which is not sold into the speculative markets. Producers also prime the markets with some of their own oil and are around to buy it back when the paper flurry ends, so they’re far from helpless bystanders. Yes, oil prices can go down as well as up. But that doesn’t make $100 oil any less crazy.
There is no shortage of oil on the world market today. The expenses of finding oil, pulling it out of the ground and transporting it have not increased notably since 2004, and even then oil companies were making record yearly profits.
If Congress and the Bush administration don’t act now to regulate energy markets, they are throwing ordinary consumers and the national economy to the speculative wolves. Regulation is not big-government evil. It is only a balancing of the power of money against the good of the citizenry.
Fadel Gheit, who saw what was happening in 2004, apparently agrees. Asked Tuesday what was happening in oil markets, he said:
“It’s a farce. The speculators have seized control and it’s basically a free-for-all, a global gambling hall, and it won’t shut down unless and until responsible governments step in.”