Tuesday, March 22, 2011

Gasoline prices and drilling activity

As a public service, I post this chart which shows the average price of regular gasoline in the country, as compiled by the AAA. Gas is getting expensive once again, but I don't think it poses a serious threat to the economy. More likely, high energy prices will act to slow the economy's growth somewhat. Meanwhile, the forces of supply and demand are coming to the rescue, albeit slowly and with a lag. As the next chart (Baker Hughes' total world oil and gas rig count) shows, higher oil prices are having the predictable effect of incentivizing increased oil and gas drilling activity. Higher prices will bring more supplies on line and reduce demand on the margin; that's the way markets work.


Benjamin Cole said...

I agree with this post very much--in fact, I am optimistic in general on all things energy.

New supplies, shale gas and possibly shale oil, ongoing gains in solar and batteries--I see a cleaner and more-prosperous future ahead.

My own guess is that oil cannot be sustained above $100 a barrel as new supplies, substitution and conservation will drive prices back down.

What is really amazing is that you can buy mathanol today for $1.28 a gallon, and we have incredible epic global and domestic gobs of natural gas (from which methanol is derived).

Cars can run on methanol, as did Indy 500 cars for generations.
It is actually a safer fuel than gasoline. You can also run cars on CNG or liquified petroleum gas (LPG or propane).

Stupidly, the USA has gone down the subsidized ethanol path, which is really just another rural subsidy in drag program. Obama seems as clueless as Bush in this regard, coming up with nothing, yet not going back to free-market solutions either.

Still, the private-sector is making incredible progress every year in all matters energy.

狂猪 said...

I agree higher prices will lead to more production. However, there is a significant lag. Furthermore, the level of instability in the middle east is increasing.

As such, I think the key issue is how long will oil stay at a elevated level? How much longer before sustained high oil price do real damage to the economy. My rough gut feeling is 3 to 6 months. Historical, there is strong relationship between oil price spikes and the subsequent recessions that follow.

The current situation in Libya is really the worse possible outcome with respect to the world economy. Had the west not intervene, Gaddafi will over run the rebel in a month. Had the west commit themselves to over throwing Gaddafi, Gaddafi could be out of Libya in a week.

Unfortunately, we got the current situation. The west lagged the political will to do things right. As a result, the rebel and Gaddafi is stuck in potentially long quagmire. The world economy is caught in the middle.

Down the road, there is one strong positive for the world economy from the mess in middle east today. Popular unrest is very expensive. For example, The Saudis just spent $40bn to placate it's citizens. Other countries in the middle east are also spending heavily to address the unrest in one way or in another. This included Gaddafi. When a government spends a lot of money, it will want to make that money back. For the middle east, the best way is to sell oil; especially when the price is high. This can help a lot if the middle east quiets down before real damage is done to the global economy.

A side note, my preferred outcome is for Gaddafi to go.

Bill said...

Scott: How much of the increase in gas prices is a function of supply and demand and how much is a function of the Fed and profligate Democrats hammering the value of the dollar (see your earlier post on the declining dollar)?

Scott Grannis said...

Bill: as with all commodities I think supply/demand and easy money (i.e,, weak dollar) both play an important role, but I don't know how to quantify it. Commodities are up against all currencies and the world economy is growing at a decent pace.

piefarmer said...

You make a great analysis of prices driving more supply of oil. But what about gasoline? Some of the gas price variable depends on the refining capacity, which is currently limited by regulations.

Scott Grannis said...

Say what you will, and you make a good point, but in my experience the correlation between gasoline prices and oil has always been extremely high.

Lori said...

Does not OPEC need these latest perceived supply problems in the Mid East/No Africa?

Do they not need it desperately? As Brazil and elsewhere are about to come online this year with massive piles of goo and gas.

Public Library said...

When nothing has changed, we should not expect a different outcome. 2008 was a sample of what is to come, not a 100yr flood.

John said...

I agree with Pub. We have had POOR leadership re energy olicy for years.

Stephen Schork writes frequently on oil markets and is quoted by CNN as saying that oil speculators hold six times the amount of oil that can be stored at the WTI trading hub at Cushing, Oklahoma. It is also reported that speculators hold twice as many long contracts as they held at the peak of the oil market in 2008.

Oil is a crowded trade.

It also occurs to me that President Obama could burst this speculative bubble in an instant by endorsing natural gas as a bridge fuel to the future. This country has huge reserves and the technology to significantly reduce our reliance on foreign oil.

I say again we have had poor leadership re a national energy policy for many years. I point the finger at both political parties.

Paul said...


"I point the finger at both political parties."

I disagree, generally speaking. Respectfully, we have one party that says, "drill, baby drill!" We have another sitting on drilling permits and wasting hundreds of billions on "green jobs."

Benjamin Cole said...

From NYT--
In the latest bad news on the housing market, the Commerce Department reported that sales of new single-family homes fell to the lowest level on record in February. Home sales fell 17 percent to an annualized rate of 250,000, well below the 700,000 rate that economists consider healthy. On Monday the National Association of Realtors said weak sales of existing homes and a high number of foreclosures pushed the prices of existing homes down to their lowest level in nearly 9 years."

How does one fear inflation when home sales and prices are falling?

Lori said...

With rates at zero, cannot banks can sit with foreclosed homes on their books with close to zero costs?

Benjamin Cole said...


I think banks would dearly love to unload their REO, but where are the buyers?

If real estate deflation is feared, buyers do not buy--leading to more deflation.

Outside of real estate, I don't think policy-makers know how grim is the situation. We may be doing a Japan, with serious and long-term ramifications for demand.

Bernanke just has to show nerves of steel now, and not dither like the Bank of Japan.

Bill said...


Just curious if you're investing in cash and gold given your belief that we're headed for another financial meltdown. Although as one investment advisor commented recently, if you think it's that bad, you should probably invest in a pistol.

John said...


"I disagree, generally speaking. Respectfully, we have one party that says, "drill, baby drill!" We have another sitting on drilling permits and wasting hundreds of billions on "green jobs."

Look at Scott's second chart. If somebody's sitting on permit applications, why have the number of active rigs recently nearly doubled?

Oil companies don't want cheap oil. If prices drop, so will drilling activity.

Benjamin Cole said...


Hmmm. Even the Tea Party is getting tied into knots trying to not take a stand on ethanol, which is nothing more than a government welfare program for corn farmers. And the former R-Party Guv of Florida, Jeb Bush, bragged about making Florida off-limits for oil drilling. He prevailed on this, btw.

Drill, baby, drill, but not off the coast of Palm Beach.

Are the Dems any better? I think not, I agree with you.

No one in office seems to understands the price signal, or free markets.