What are the big drivers of oil prices? As Paul Krugman lays it out here, it's not the speculators. Sure they may be contributing, but the big drivers are the obvious ones: reduced supply, increased demand. Increased demand from rapidly developing countries in Asia are a big part of it, but lets not forget that US demand is increasing, albeit at a slower rate than when gas prices were in the $2 range. If you want to see how big an impact conservation in the US would have take a look at this chart (source: CIA World Factbook, 14 June, 2007 via Nationmaster)
Even so, the rapid rise in oil prices, is at a rate greater than would be justified by the simple supply/demand fundamentals. A big chunk of the increase in price can be directly attributed to the bungling and malfeasance of the Bush administration on the international stage. They did this in several ways that effectively reduced available oil reserves. First, they essentially took Iraqi oil off the market. Next they rattled sabers toward Tehran. The constant threat of war or increased sanctions made even Russian investors leery of risking capital in improving Iranian oil fields. Iran's oil extraction industry is decades out of date due to international isolation. The same effect is felt in a number of other countries, primarily in the Middle East, where US bellicosity has increased the political risk price. For a great analysis of the role of political risk in asset pricing see this paper (pdf): Weiner, Robert J. and Click, Reid W., "Political Risk and Real-Asset Values: M&A Evidence" (January 2007). By getting so deeply in trouble in Iraq and screwing up totally in Afghanistan and Pakistan, the Saudis (who may or may not have the petroleum reserves that they claim) know that we need them more than they need us. That makes it hard to ask them to pump more oil and increase supply, thus reducing their profit per barrel of oil.
Another big influence on oil prices is the decline in value of the US dollar. Oil is traded in dollars. If the dollar goes down, the price of oil goes up. The Chinese are loving pointing this out (after we have given them so much grief about not floating their currency). The weak dollar, too, can be attributed to Bush administration policy. Had the US had a good regulatory regime in place, we might have avoided the mortgage-backed securities mess that triggered the current recession (yes, I called it). If we had not followed free-trade theology to its logical extreme, we might still have some jobs in the US that involve making things--perhaps even for export. If we had a culture of saving supported by the tax code (currently you are rewarded for speculating in the market, but punished for saving at the bank), we might have a lower current accounts deficit. But mostly, if we didn't have to borrow so much money to pay for the war in Iraq, the dollar would be worth a lot more. Ironically, what we knew all along is finally being confirmed (just before the Bush junta loses power-- see Dustin's post from June 22).
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1 comment:
There are a few other consideration as well.
As for oil consumption, if I am not mistaken, the US military consumes up to 20% of the US share of oil consumption. That is probably enough at the margins to contribute to the heightened demand as well.
Who does a weak dollar and the high oil prices benefit? Oil firms who want to drill in the US. Its almost as if the dream scenario is emerging for the oil giants, and why would anyone think anything else would've happened given the last 8 years. Record profits and perfectly safe and willing places to invest those profits, and make great returns.
As Mike Davis pointed out in the "living on the ice shelf" article, its ultimately members of the Carlyle group and other military hardware contractors that benefit as well, as the petrodollars are reinvested in arms manufactured by US firms.
With all due respect to Krugman, who by the way better get better at boxing Bill O'Reilley or I'm looking for a new champion on YouTube, the simple supply-demand argument underestimates the role of oil speculation. It seems like a reasonable assumption that oil futures contracts play a decisive role in driving up prices significantly, just as it does for all commodity investments (gold, copper, corn, rice, etc.). Here are a few reasons why.
The NYMEX volume of oil traded has tripled since 2004. A number of institutional investors are exposing themselves to commodities since other areas of the economy are growing much more slowly.
Also, while we like to bash the market interfering OPEC (while oddly not questioning our own cartel- the Federal Reserve), their Secretary General al Badri argues that the paper market for oil is 15 times the material market for oil.
Finally, where can I find this $4 gas everyone is talking about. Out here in CA, I've been paying $4.55!
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