Alan Reynolds - Scapegoating the Speculators

Alan Reynolds has written another interesting article on energy and pricing entitled "Scapegoating the Speculators." After the Democrats tried to claim that the price of oil had gone up greatly because the U.S. oil companies were responsible for manipulating the price and most of the public did not buy into their arguments, they and others, including John McCain, began focusing more and more on an explanation that the price of oil was higher due to speculators. Alan Reynolds offers some very interesting perspective on this claim.

But first before considering his argument further, why is this an important matter? If, as the Democrats are saying, speculators are driving up the cost of oil or even if they are not but are perceived to be doing so, then the Democrats can address the problem of high gas prices by passing a law to control the speculators. This gives them more power over the financial markets and will result in more campaign contributions from financial people who will want to get on their good side. What the Democrats and their occasional Republican ally (John McCain in part) will not then have to do is to allow U.S. oil companies to drill for more oil and gas. As environmentalist extremists and Global Warming Alarmists, these people do not want to allow more oil and gas to become available. They actually do want the price of oil and gas to go up even more, but they do not want to be seen as the responsible party for that price increase. This is all about perception in the eyes of the public. The Democrats do want to manipulate the supply of oil and gas to make the price go way up, but they do not always, especially with an election coming up, want to be perceived as having done so.

So, what does Reynolds say? Commodities speculators are just as happy to bet that oil prices will go down as to bet that they will go up. They are trying to anticipate the expected relationship of oil supply to oil demand. If next month's oil futures contract is for oil at a higher price, then producers may slow their sales on the spot market and try to wait a bit for the higher price. [This is usually a good thing, since it helps to level out prices by keeping supply and demand on a more even keel.] Refinery's are likely to buy more oil now rather than in the future if the future price is expected to be higher, thereby boosting the present price. But, if this combination of reactions to the higher future price occurs, then oil inventories will increase. At this time, U.S. oil inventories are modest, so this speculative boost to oil prices does not appear to be the case!

He notes that speculation that the price of oil would go up decreased after the price exceeded $100 per barrel. On 11 March, there were 113,307 long contracts (those expecting a future price increase) on the New York Mercantile Exchange. By 10 June, there were only 25,246 long contracts, meaning that there are nearly as many contracts going short (expecting a price decrease) as going long. Off the commodity exchange, one can bet on the future price of oil by investing in the US Oil Fund. Those betting short on this fund outnumber those betting long by a two to one ratio. These speculators are betting on the price of oil going down!

Reynolds says there is no mystery behind the rise in oil prices. There is booming demand for oil and products made from it in India, China, and the Middle East. The supply of oil from the U.S., Mexico, Venezuela, Nigeria, and Russia has fallen.

Back to my comments: U.S. oil production is falling because Congress and President Clinton have not allowed more exploration and drilling for oil in the U.S. Production continues to fall in Mexico because their nationalized oil company is run incompetently. Oil production in Venezuela is down because of the tyrannical reign and complete irrationality of Hugo Chavez. Nigeria's production is down due to internal unrest and sabotage. Russia's production is probably down because the oil companies there were taken over by ex-KGB thugs tied in with Putin.

Prices are always determined by supply and demand unless government sets the price. If government does set the price too low, then people stop producing and supplying that good or service. If we want to use oil at a reasonable price, then we have to allow the production of a goodly supply of oil. So, instead of wasting our time and money while we pay far too much for our gasoline, Congress needs to allow the exploration and production of oil on the federal lands in the contiguous 48 states, in Alaska, and in our coastal waters. This will increase supply and that will bring down the price of oil and its products, such as gasoline. Of course, with oil and gasoline as expensive as they are now, people will make greater efforts to conserve them as well. The magnitude of the world's demand increase is likely to run well ahead of conservation efforts alone, so both oil production increases and more efficient usage are the proper response.

Thomas Sowell's "Economics Too Complex?" Series

One of the most basic principles of life and also of politics is that wishing something does not make it real. Yes, wishing for something may well serve as an effective means to get us to act to achieve something, but short of the act to achieve it, that value will not materialize in simple response to our wish. Most people come to understand this in their personal life when they have matured past adolescence. Unfortunately, it seems that most people do not understand that the same principle applies to the realities that politics are supposed to deal with!

Many of my recent commentaries have made a point of examining issues as a matter of supply and demand, because in reality, this is how things are priced absent government interference, and ultimately, in various perverted ways even with government interference. If government says that only the graduates of accredited medical schools can perform the duties of doctors and then government acts to limit the number of medical internships which then prevents medical schools from training more doctors, then there will be a shortage of doctors as the population grows and ages. This is what has happened over the last 20 or so years. The shortage of doctors means that doctors can charge more for their services, or if Medicare says they cannot, then they may work fewer hours or retire early. Patients will have less time to discuss their symptoms with the doctor and he will have less time to treat them, to consider interactions between the several drugs a patient might be on, or to review how effective a given treatment was. These issues are not dominated by a desire on the part of doctors to serve patients badly. They were not due to government bureaucrats thinking that it would be good to have a shortage of doctors. There is probably little intentional evil being done here, but there is evil afoot nonetheless. There is the evil of not thinking through important issues in a rational way and then taking foolish actions with the government's monopoly on force while not understanding very understandable issues. It is a shirking of responsibility for thinking, usually in favor of the emotional appeal of nonsense. The real problem here and in a very great many political issues is one of the supply of limited resources and the demand for those limited resources. Unfortunately, politics is usually ruled by politicians pandering to and often encouraging people only to decide issues upon emotional criteria, while ignoring entirely, or at least largely, the basic issues of supply and demand.

Thomas Sowell has just written a series of three commentaries on whether economics is too complex for people to understand or is it that they simply prefer the emotional appeal of thinking only in terms of heroes and villains? In Part 1, he talks about the price of oil to illustrate the preference for false emotional ideas of heroes and villains rather than a critical discussion of supply and demand.

In Part 2, he illustrates this with affordable housing as an issue, though he briefly alludes to restrictions on drilling oil put in place by politicians who are then the loudest in protesting higher prices for oil. He notes: "So long as politicians can get some people's votes by publicly feeling their pain when it comes to housing costs, and other people's votes by restricting the building of housing, they can have a winning coalition at election time, which is their bottom line." Then "So long as voters prefer heroes and villains to supply and demand, this game will continue to be played. It is not because supply and demand is too "complex" to understand, but because it is not emotionally satisfying."

In Part 3, Sowell writes about the tendency of government to object to large businesses selling goods and services for less than smaller local businesses may be able. He talks about San Francisco banning chain stores from some parts of the city. He talks about how the mistaken notion of "a living Constitution" has come to destroy property rights. This results in the economies of scale not being passed along to consumers who can then buy products for less. He mentions the bias against Wal-Mart and the Robinson-Patman Act of 1936, which was known as the anti-Sears, Roebuck law. He mentions the Standard Oil Company and Great Northern Railroad Trust break-ups, despite the fact that they provided ever lower prices. Over and over, Fair Trade laws were used to keep consumers from the enjoyment of lower prices. The reason was that it was more effective politically to indulge people's emotions against so-called villains than it would have been to rationally analyze the costs in terms of supply and demand. Sowell says: "Neither economics nor property rights are too "complex" to understand. But both get in the way of willful people who seek to deny other people the right to make their own decisions." Instead of personally refusing to use a chain store, the villain-destroying person assumes that they have the right to stop others from using their own freedom of choice on whether to shop at the chain store.

Without thinking issues through on the basis of supply and demand, it is very easy to identify the good guys as the villains and the villains as the heroes. A large fraction of the population makes a habit of doing just this.