Wednesday, July 8, 2009

The ridiculous attack on oil speculators

With their article in today's WSJ, Gordon Brown and Nicolas Sarkozy launched an effort by major governments to do away with volatile oil prices. They think a handful of smart government types "should take the lead in establishing a common long-term view on what price range would be consistent with the fundamentals." This is the ultimate in hubris: to think that a select few bureacrats can know more about the oil market than the billions of people (aka "the market") who produce and consume the stuff.

One likely target along the way will be to limit the size of speculators' positions in oil futures. What these supposedly smart people ignore is the obvious fact that producers can be speculators too. If producers think prices are going up, they can simply shut down production and let the oil sit in the ground. Speculators are already limited in their ability to stockpile oil, because above-ground storage capacity can't come close to what is underground already. And of course if producers think prices are going down they can simply pump more, again overwhelming speculative activity in the futures markets.

Another thing that they ignore is the real cause of volatile oil prices: volatile monetary policy and volatile currencies. Governments should stick to their knitting and concentrate on giving us stable currencies. That would almost certainly reduce the volatility of not only oil prices but all prices.

If this lunacy—government meddling with markets—isn't arrested in its tracks, it will only end with government deciding to take over all production and exploration decisions by the world's oil producers. Heaven help us all if it comes to that.


ilene said...

Hi Scott,

Do you see a difference between speculation for economic purposes vs. price manipulation using excessive speculation as a means?

Colin said...

And of course if producers think prices are going down they can simply pump more, again overwhelming speculative activity in the futures markets.

In fairness, let's keep in mind that something like 85% of reserves are owned by governments, so market forces aren't at play as much as they should be.

Scott Grannis said...

Colin: Even though governments control a large portion of the world's oil, that doesn't mean the oil reserves are not managed. The Arabs have elaborate models with which they try to balance production against the net present value of their reserves. OPEC quotas never seem to work because they aren't always in the best interests of each member. No government can afford to ignore the market; there is a lot of money at stake.

Scott Grannis said...

Ilene: It's arguable whether speculators have the power to manipulate prices, especially in the oil market. But the larger truth is that speculators are essential to efficient markets. They provide liquidity to markets and their activity (buying low and selling high) tends to dampen price volatility.

Public Library said...

This goes along with the Feds belief they can micromanage the macro monetary environment in the US and by default the Globe.

We are transitioning into a new era of re-regulation at a time when governments are primarily responsible for the current disasters.

Good luck! Bonds, commodities, non$, and EMG.

MW said...

"Heaven help us all if it comes to that."

See Venezuela and Mexico for an idea of what will happen.