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Report on oil speculation

by Divorced one like Bush

Anyone else see this report?

The report by Masters Capital Management said investors poured $60 billion into oil futures markets during the first five months of the year as oil prices soared from $95 a barrel in January to $145 a barrel by July.

Since then, these investors have withdrawn $39 billion from those markets as prices have retreated dramatically, the report said. Oil traded at about $102 a barrel Wednesday on the New York Mercantile Exchange

WSJ notes there is a second report to be out probably by tomorrow from Commodity Futures Trading Commission.
Of course, there has to be an ulterior motive:

Critics said Mr. Masters is trying to buoy his own investing portfolio, which is laden with transportation-related stocks, and lawmakers are trying to show they are addressing high gas prices.

Or maybe not:

European Central Bank President Jean-Claude Trichet last week told attendees at a Frankfurt conference that speculation had contributed to the oil-price shock that has hindered global growth. The two presidential nominees, among others, have attacked the trend.

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Daniel Davies’s Three Laws Summarized

Via the sainted and gorgeous Bess Levin at Dealbreaker the erudite Felix Salmon at Portfolio.com, Michael Giberson at Knowledge Problem summarizes why even a Bush Administration initiative that might have had an upside falls victim to Daniel Davies’s Three Laws:

In response to disruptions caused by Hurricane Gustav, the DOE has indicated a willingness to release reserves from the SPR. Unfortunately, due to a continuing power outage – also caused by Hurricane Gustav – the DOE is unable to pump oil from storage.

Disruptions serious enough to be “economically threatening,” whatever that means, are very rare events – the U.S. has only released oil in such circumstances a few times in the SPR’s 35-year history. Power outages are also rare events. If the two kinds of events were uncorrelated, then simultaneous power outages and economically-threatening disruptions in oil supplies would unlikely in the extreme. But the two kinds of events are not uncorrelated, obviously.

As Platts reports, the SPR does have backup generators on site, but the generators produce insufficient power to permit pumping from storage. Any release of oil from the SPR will have to wait for power to be restored to the area. [emphases mine, but see the original’s as well]

So those past seven years of adding to the Reserve can be added to the list of abject failures when the time came for them to actually perform.

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On Cornucopian Views of Oil Supplies

Meeting projected (latent) demands for oil and other liquid hydrocarbon fuels over the next couple of decades — taking global production and consumption to the vicinity of 113 million barrels/day in 2030, from the current ~85-86 million b/d — will require bringing online the equivalent of a new Persian Gulf’s worth of new oil production, plus whatever it takes to replace the output from declining fields. The periodic political fantasy of making the U.S. self-sufficient at roughly current consumption levels would take “only” something on the order of a Saudi Arabia’s worth of purely domestic production.

If you find that daunting, then you’re not in the part of the conservative commentariat that’s out there saying that those Saudi Arabias could be us were we only to exploit some hitherto off-limits and/or uneconomical sources with the gusto of the ‘drill here and drill now’ set.

Last week, reader sammy pointed us to a couple of op-eds from the Investor’s Business Daily, one on prospective fossil fuel supplies in the Arctic, and another on shale oil. Even In Liberal Madison, we have right-wing gadflies and one of them, Rick Berg, sounds similar notes in our alt-weekly. The argument, in a nutshell, is that shale oil and new (mostly) offshore fields can provide ample oil for the foreseeable future if only access to it were unfettered. The implication, courtesy of Daniel Henninger in the W$J, is that we shouldn’t overreact and abandon our carbon economy which “run[s] like a Swiss watch (transportation, distribution, production, commuting)” for the uncertainty of low-carbon energy sources. No less of a light than Larry Kudlow says that the mere threat of new U.S. drilling has been working its magic on the oil markets, so maybe that panic-dumping of SUVs on the used-car market was hasty. And last Friday’s Weekend Journal had Todd Buchholz damning the hippies and their stupid Priuses whose fuel-saving features pay for themselves in much less than the life of the car, double-underscored by Stephen Moore.

It’s enough to make a suspicious liberal think there’s an organized campaign on to try to save the status quo, and some people may even be falling for it. But should they? Perhaps needless to say (you didn’t think this was going to be a “credit where due” post to Kudlow?), there are big problems with the pitch. Warning: Long post after the jump.

1. Resources versus reserves

Accounts of extravagantly large unconventional oil amounts elide critical distinctions between measures of oil-in-the-ground and recoverable oil-in the ground. Both the IBD editorials and Berg’s op-ed cite the hundreds of billions or even trillions of barrels of oil in shale formations. IBD:

The quantity of oil to be found in this shale is almost unfathomable. The government conservatively puts it at 800 billion barrels. Other estimates say we have as much as 2 trillion barrels, though some of that wouldn’t be recoverable.

Berg:

Experts say the “Balkan Formation” [sic; he means “Bakken”] two miles below western North Dakota could yield between 270 and 500 billion barrels of crude oil. The famed North Slope of Alaska that Congress and President Clinton put off-limits in the 1990s has, by comparison, about 60 billion barrels of crude.

The large figures for oil shale both IBD and Berg refer to are estimates of the “resources” as opposed to “reserves” that actually can be produced using current technology. Particularly in the case of oil shale, the latter can be much smaller than the former depending on the formations’ geologies. The Bakken Shale is a case in point. The current USGS estimate of technically recoverable undiscovered oil from the Bakken formation has a range of 3 to 4.3 billion barrels; the state of North Dakota’s estimate is 2.1 billion recoverable barrels from a resource of 167 billion barrels. These are enormous increases from previous estimates, but aren’t going to make North Dakota the Saudi Arabia of the Plains. The existence of large oil shale resources isn’t news to the oil market, either. They’ve been known to be a large resource for the better part of the last century, and the last oil crisis brought about an oil shale boom and subsequent bust.

Likewise, IBD treats the recent estimate of recoverable oil and natural gas in the Arctic as if it were a sure thing as opposed to the result of a statistical analysis. Are they as deferential to the scientific consensus on anthropogenic global warming? Shockingly, they are not. The oil is treated as all but in the gas tank:

So by putting our Arctic resources into play, we would more than double our reserves overnight.

What’s more, there could be more oil up there — much more — according to Donald Gautier, who wrote the report.

[…]

This again puts the lie to the “peak” oil theorists, who have asserted repeatedly that the amount of oil we can use is in terminal decline and that it’s therefore futile to drill for more. It’s not.

The 90 billion barrel figure is a mean, so the true amount could be less, of course. The issue is not that the estimate is implausible, but rather that it’s an estimate that doesn’t even say “drill here.” Determining how much oil and gas the Arctic actually could supply (and where exactly it is) is a matter for future exploration, assuming it’s feasible to carry out. Feasibility of Arctic oil production is not a trivial matter, as an important caveat for USGS’s analysis (not mentioned by IBD) makes clear:

For the purposes of this study, the USGS did not consider economic factors such as the effects of permanent sea ice or oceanic water depth in its assessment of undiscovered oil and gas resources.

Neither factor is trivial when, according to the USGS study, 84% of the estimated resources would be found offshore. K Harris in comments has another telling quote and gloss:

Here, from a press piece reviewing the same data and also [quoting] Gautier… from Oppenheimer’s oil analysts. “We don’t have to go to the [Arctic] for new supply. Right now in the U. S. there are billions, trillions of cubic feet of natural gas and billions of barrels of oil.” The point to the quote is that while the data are getting more accurate, there is not really much surprise among experts at the amount of oil being found. They [k]new it was there, but also knew it was mostly not economical to extract. The Oppenheimer guy is pointing out that, at prices which make much of our Arctic reserves exploitable, it is now affordable to exploit resources in the lower 48.

An amusing irony is that if global warming were to turn out to be a myth after all, the resurgent Arctic sea ice would make the resource especially difficult to recover, whereas circumstances that made offshore Arctic oil not much more difficult than any other offshore oil production in extremely remote places would not inconceivably be associated with carbon prices that discouraged the production.

2. From reserves and resources to production

Another big part of the oil-price picture is the rate of (sustainable) production, as commenters noted in the previous thread. On this front, the IBD Arctic oil editorial just assumes a production rate:

Using a conservative estimate, let’s say we pump 3 million barrels a day after developing these Arctic resources. That would boost total U.S. crude output of 8 million barrels a day [sic — the ~8 million b/d figure includes crude oil and natural gas liquids] by 38%.

The IBD editorial doesn’t say whose “conservative estimate” that might be, but I wouldn’t be surprised if it weren’t the editorial writer supposing that if we have 30 billion barrels of new oil reserves in Arctic Alaska and can make 5.2 million b/d out of the current 21 billion barrel reserves, then 3 million b/d must be “conservative.” The Great Gazoogle might have told them that the Trans-Alaska Pipeline’s capacity is 2.1 million barrels/day, which is an effective ceiling on near-term production from the Alaskan Arctic. (This isn’t a binding near-term constraint, though, as production from the existing fields that feed the pipeline is 20 years past peak and declining; a looming issue is meeting the pipeline’s minimum flow rate.) Natural gas resources in the Alaskan Arctic are stranded until a separate gas pipeline is built. The need for substantial oil and gas infrastructure development on top of exploration means that the new resources can not be made productive in the near term.

The EIA’s Annual Energy Outlook forecasts unconventional liquids production (including production from oil shales) to gradually ramp up to approximately 2 million b/d in 2030 in its baseline scenario, and 3 million b/d in the “high price” scenario. However, it’s inappropriate to add that production, or hypothetical future Arctic or OCS production, to the current U.S. liquids output, since some of it would offset declines in production from conventional sources — about 1 million b/d in the baseline, less in “high price” where the projected U.S. conventional production peak is later.

Moreover, oil shale roduction rates may be economically limited by the energy and water intensity of the production processes. Commenter Michael Cain recounted:

A couple of years ago, I had the opportunity to listen to Shell engineers talk about their in situ process at the Colorado School of Mines. One of the interesting back-of-the-envelope points that came out was that producing a million bbl/day using the process would require an amount of electricity just about equal to the current generating capacity in Colorado. Building that much generating capacity in that part of the country is problematic at best: water for cooling is in short supply; and the most readily available fuel is coal.

You can do the back-of-the-envelope calculation yourself. There’s about 5.8 million BTU, or 1,700 kWh, in a barrel of oil. So if you want to make a million barrels of oil at an EROEI of 4:1, then energy input is the equivalent of 250,000 barrels. The equivalent in electricity is 424,750 MWh, which requires 17.7 GW of ’round-the-clock generation capacity to produce in 24 hours. That is, indeed, more than the nameplate capacity of all of the electric generating units in Colorado as of 2005 (xls). I assume electricity isn’t the process’s only energy input, but Cain’s story does accurately report the order of magnitude of the energy-input problem for low-EROEI unconventional resources. EIA forecasts note that the carbon-intensity of oil shale and coal-to-liquids among other unconventional sources makes their prospects particularly sensitive to potential carbon emissions regulation.

In a sign that oil companies respond to the price mechanism, current drilling for oil (in locations where it’s currently allowed) actually has increased markedly from its cheap-oil trough, as measured by the number of crude oil rotary drilling rigs in operation. This is the drilling that can plausibly add to near-term domestic supplies.

The effect of this so far has been to stabilize if not slightly increase domestic crude oil production, which otherwise has been in a long decline. (In a sign that the Bush Administration was too lazy or distracted to convert its own domestic-drilling policies into reality, the rig counts bounced along at their trough into the second term; U.S. crude oil production [xls] remains a few hundred thousand b/d lower than when our oilmen-in-chief took office.) Drilling rig utilization rates are also very high, so that’s another near-term supply constraint.

3. More supply lowers prices, other things equal, but relative to what?

The reality-based view of expanded drilling is that it will have relatively small and distant effects on oil prices, simply reflecting that unexplored resources can’t be turned into reserves and then into large-scale production overnight. Particularly in evaluating stay-the-carbon-course commentary from the likes of Henninger, it’s worth considering the baseline scenarios against which the modest long-term effects of additional drilling would accrue. This brings us back to the long-range forecasts mentioned at the top of the post.

The EIA’s baseline scenario from its 2008 Annual Energy Outlook — published in June, but reporting analysis clearly developed much earlier — figures on an oil supply of 113.3 million b/d in 2030 at a light crude oil price of $70.45 in 2006 dollars. As an exercise, inflate that to 2030 dollars; e.g., if the Fed managed to produce 2% CPI inflation between now and then, that means that the nominal price of oil in 2030 would be approximately the same as it is now.

Since actual production for the year-to-date has averaged 85.5 million barrels, someone has to come up with 27.8 million b/d of net new production. Again, that’s a little more than a Persian Gulf’s worth of production, which currently is 24-25 million b/d. The AEO’s “high price” scenario (which has looked optimistically low for much of the year-to-date) makes for less of a production challenge, but still calls for 97.7 million b/d of 2030 production, now with a light-crude price of $118.65/bbl in 2006 dollars. That inflates to the better part of $200 in nominal terms with low inflation.

Drilling advocates may well look at this and say ‘let’s get cracking.’ However, all the sources that Republicans have been eager to drill put together are no more than a small downpayment on the production needed to bring back real prices to levels of the AEO reference scenario that, don’t forget, were still incipient Armageddon for SUVs, big rigs, and airlines among other notable elements of the oil economy. What passes for the political discourse hasn’t been going out of its way to point out that what we might be buying via the drilling route is $9.95 gas instead of $10 the next time oil supplies prove to be a couple million b/d short. Meanwhile, lots of money will have been made and run off with, and the oil that might be more valuable to future generations in the ground can’t be unburnt.

Barry Ritholtz recently posted a picture that’s worth quite a few words on the recent paths of world output — a proxy for latent demand growth — and oil production. When, as has happened, supply plateaus and latent demand grows onward, prices need to rise to ‘destroy’ enough latent demand to equilibrate actual demand and supply. So what have we seen recently? In part, oil production stagnated since rising to its current plateau:

This would be no big deal in the face of a cyclical downturn, but this was not the case in ’05 (much as we might find fault with the expansion out of the 2001 recession). Having price-inelastic demands and supplies is a recipe for price volatility, and in this case there was a fair amount of demand to shed. The last Annual Energy Outlook figured on 2008 oil supply of 87.23 million b/d with a light crude price of $83.59 in 2006 dollars, or around $91 in current dollars. For the first five months of the year, oil supplies actually have been 85.5 million b/d [yet another .xls]. Prof. Hamilton has been telling the rest of the story.

There’s been a lot of demand destruction with $4 gas, plus the business cycle isn’t what it used to be, so there’s no reason why we couldn’t see $91 oil or lower in the near term. In that regard, I wouldn’t necessarily bet against sammy on near-term price increases.

But keeping on the EIA’s “high price” path involves keeping world oil production growth at 0.6% per year and of course holding world oil demand growth to 0.6% per year while (we hope) general economic growth is rather more robust. Even the more generous baseline from the Annual Energy Outlook involves reducing global demand growth 0.3% per year as compared to the last twenty years’ average while coming up, as we’ve seen, with vast new supplies. Can this happen? Sure it can, but knocking out decent chunks of demand growth over long periods of time and refusing to restructure the the more oil-intensive economies risks trouble. If 0.6% supply growth were to prove optimistic over the longer haul, then we’re likely to find that we wanted the economic restructuring Henninger considers “risky” yesterday.

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Petroleum Speculation Thread N+1

I wrote something about crude oil, inventories and contango below and there were 57 comments including one, from Aaron which refered to this post in the future indicative.

A lot of the discussion is Krugman pro and con (mostly con). I think I will review my take on his arguments here as an introduction.

I had intended to write another post to clarify a particularly hand waving part of my old post (that is to report on a relative clarification in my own thoughts). I don’t think this is the focus of interest, so I will put that after the jump.

Krugman argued that the sharp increase in the price of crude oil was caused by increased demand and the fact that suppliers were already pumping just about all that they could pump (hence an almost vertical supply curve). I assume he thinks that the sharp decline is due to decreased demand. He is convinced that speculation in oil futures has not had a large impact on the spot price.

My recollection of his argument is that it was based on 4 claims (modified in part to respond to things I just learned skimming the older thread).

1) Oil is consumed and storage costs are significant. This makes analogies to housing, Nasdaq and tulips inappropriate.

2) Certainly people speculate in oil futures. The question is whether this is currently moving the spot price far from where it would be without speculators.

3) Pricing rules can determine prices, but don’t shift supply and demand curves. If spot prices move up automatically following futures prices, one would expect supply to exceed consumption — that is growth of inventories.

4) When an almost vertical supply curve meets and almost vertical demand curve, supply and demand can cause prices to move quickly huge amounts back and forth.

OK back to my “model”. Just to recall, the model assumes that the oil companies have formed a cartel and that it has become more difficult for them to keep each other in line. The driving force is low expected excess capacity (to ship and refine oil by them or to pump it out of the ground for their suppliers) makes it hard to punish a company which sells petroleum products at a price lower than the secretly agreed markup on the price of oil.

In a model, this would make them impose low inventories of crude oil and gasoline on each other and make them lower the markup increasing the price of crude and reducing the price of refined products including gasoline compared to what it would be if they could precommit to their cartel.

The really shaky part is I then claim that low inventories make them bid against each other more fiercely in the spot market so that all of the benefit from their reduced markups goes to oil exporters (and maybe then some). This is shaky, because I have forgotten the little I knew about the mechanisms of the the oil spot market and it probably isn’t the mechanism which I would need for the argument to make sense and … lots of stuff.

So I have a new way of putting it. Each Oil company can’t hold large inventories as that would give them an incentive to break their cartel (dumping the gasoline before the other companies can retaliate and benefiting from the increase in the price of crude oil). I will just assume that large inventories of crude oil are needed to keep refineries working at full capacity. If the refiners can’t hold as much crude in inventory, their suppliers will hold more. Now the price of crude includes the cost of holding that inventory essentially the oil exporters are supplying oil *and* storage. The price is higher than the price of just oil.

Now I do *not* believe that this model has anything to do with the real world. I do not think the OIL majors are colluding and I don’t think they would act like agents in game theory if they were. I don’t think their markups or storage costs are anything like large enough to fit the huge shifts in price. In fact, I agree with Krugman.

My old post was an exercise in economic theory. Fortunately commenters used it as an invitation to talk about the real world.

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Oil prices VS Storms

By: Divorced one like Bush

Being that there is a lot of “authoritative” talking going on about the cause of the up’s and down’s of oil and one cause being suggested is the anticipation of storms, I thought looking at the history of storms and oil price would help toward answering the hypothesis of oil prices rising in anticipation of storm damage.

Using the daily price of WTI Cushing/Oklahoma oil I charted the relationship of price to the storm dates. I use 6 price points. A. 2 Monday’s before, B. Friday before, C. Monday before, D. Day of Storm, E. Friday after, F. 1 week after day of storm. Any number in parenthesize is the price for the next open trading day. When the storm fell on a week end, I counted 1 week after and used the next Monday.

Chart after the fold.


I do not do correlation calculations. But, I think this chart shows that there is no significant speculation in pricing based on Gulf storms. There are 4 times that the price 1 wk post storm is lower than 2 Monday’s prior to the storm. They are in order: Dolly 7/23/08 down $22.95, Dennis 7/10/05 down $2.66, Rita down 2.58 9/24/05 and Opal 10/4/95 down $0.10. Of these 4, Rita has the highest pre-storm climb of $3.92 or 6%. Dolly only showed a 2% climb pre-storm but there has been a 16% drop since her high 2 weeks before she hit.

The interesting string is the 4 storms of 2005. Katrina and Rita are the only storms that show some possibility of a storm pricing effect within this series. Katrina with an almost $2.00 (3%) rise in 2 wks and then a decline of $4.50 until the price jumped $4.30 in 1 week before Rita. However, the next trading day after Rita, the price was down $1.23 and 1 week later it was within $0.93 of the 2 weeks prior to tropical storm Cindy of 7/5/05 ( 2.5 months time between the two). As to this year, the price is just plain going down since the peak 2 weeks before hurricane Dolly which is 1 month of downward trend before the republicans started filling hot air balloons.

It appears that if there is a storm pricing effect, it is a recent phenomenon and of a rather small and short lived event. Being a new event in oil pricing, I would suggest that what effect there is, is purely emotional and related to the emotional climate we are living in. Gun shy? We only have fear to fear? Or, maybe it is an herd mentality learned that a storm is a good excuse to make a quick dollar. That would be herd mentality market manipulation. Oh no, did I just ruin it for everyone?

Guess we are going to have to find someone talking with more authority than what we have had so far regarding the cause oil pricing.

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Maybe I Should Line Up For A Prius After All

When we moved to our “new” house, which is located in car-based suburbia à la 1930 about a mile from the end of the nearest — now vanished — streetcar line, I figured proximity to the University of Wisconsin campus (1-1/2 miles) and my office (3 miles) wouldn’t hurt us, given that we had to pay a near-peak price for the house. Hedge or speculation? Both. (See also Stephen Karlson‘s rollicking read for the Pigou Club.)

I started commuting to work by bike in the fall of 2005, just in time to see the Katrina gas price spike; now my human-powered local travel project has reached the point where my bike is accumulating miles faster than my car. So I’ve figured that I just don’t drive enough to recover the hybrid price premium. (*)

Of course, that’s assuming $4-ish gas. One of the oil supply mysteries is what the Saudis really can do, and BW got hold of some documents that suggest it’s not that much more than they’re doing now:

[T]the detailed document, obtained from a person with access to Saudi oil officials, suggests that Saudi Aramco will be limited to sustained production of just 12 million barrels a day in 2010, and will be able to maintain that volume only for short, temporary periods such as emergencies. Then it will scale back to a sustainable production level of about 10.4 million barrels a day, according to the data. BusinessWeek obtained a field-by-field breakdown of estimated Saudi oil production from 2009 through 2013.

H/T Balloon Juice and others.

This isn’t exactly a shock, but still, wheeeeee! The market’s late reaction to the Saudis seems to reflect this sort of assessment of their excess capacity, but if BW’s source is right, sign me on with the rest of the blogiverse in not expecting big longer-term price declines.

(*) If you drive a more typical American amount, which is to say a lot, hybrids will usually pay for themselves well within their batteries’ lifetimes, say 3-5 years depending on how you account for the hybrid premium. The exceptions from the current market are the GM mild hybrids (recently discussed a bit in the comments), which have most of the cost of more economical hybrids without much fuel economy improvement over the comparable four-cylinder models. I wonder if someone looked at cup holders in German cars and decided to do those hybrids in the worst possible way to learn those hippy tree-hugger suckers.

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How dry I am…

By: Divorced one like Bush
No body knows, how dry I am. I went home, I rang the bell, my wife came out and gave me hell.

Juan posted a link to this paper: OPEC Pricing Power, The Need for a New Perspective

Besides the issue of how oil is priced, and the relationship of the futures market (yes, it is related to the real thingy) there are some numbers presented as to future expected oil production via IEA.

In an exercise which focuses on Middle East and North Africa (MENA) oil and gas resources, the IEA (2005) projects in the reference scenario a rise in MENA oil production from the 2004 level of 29 mbd to 33 mbd in 2010 and 50 mbd in 2030. In this scenario, Saudi Arabia will remain the largest supplier increasing its output from 10.4 mbd in 2004 to 11.9 mbd in 2010 and over 18 mbd in 2030.

MENA was projected to pump 50,000,000 barrels per day in just 22 years from now.

From this paper: Analysis of Crude Oil Production in the Arctic National Wildlife Refuge May 2008

In the low and high ANWR oil resource cases, additional oil production resulting from the opening of ANWR peaks in 2028 at 510,000 and 1.45 million barrels per day, respectively.
Between 2018 and 2030, cumulative additional oil production is 2.6 billion barrels for the mean oil resource case, while the low and high resource cases project a cumulative additional oil production of 1.9 and 4.3 billion barrels, respectively.

So, let us apply some Angry Bear thinking. At the pumping rate in 2030 of MENA, under the best of realizations of ANWR (4.3 billion barrels of oil waiting for our binge), MENA could pump it dry in 86 days! Three months. A lousy 3 months.

But you say: Hey bartender, Hey man, looka here
In 2003 they say we have 59,090,000,000 barrels of oil in the lower 48 and off shore. With ANWR’s best reality, that gives us a total of 63,390,000,000 barrels of oil. Billions and billions of barrels.

A draw one, draw two, draw three four glasses of beer… at 50,000,000 barrels a day we can drink for 1267.8 days. That is 3.47 years. That’s it. No more home brew. At our rate of use, 20,687,000 barrels/day, we’re dry in 8.4 years. That’s only about 2/3rds of the amount of time I keep a vehicle. I won’t be able to wear out my car!

Still not convinced that drilling is not much of an answer? Then consider that in 2005 the US drank 7,500,000,000 gallons of beer. There are 42 gallons in a barrel of oil. That means the US drank in that year 1,785,471,428.6 OBB (oil barrels of beer). Thus, at the rate we drink beer, we could hit the bottom of the barrel in 35.5 years. If EIA’s highend is correct, we can drink ANWR beer for 2.4 year. If not, then we’re going to be jonesing in just over 1 year.

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The Price of Gas will soon be $1.50, right?

This will teach them, right?

H.R. 6377 directs CFTC to use all its authority, including its emergency powers, immediately to curb the role of excessive speculation in the energy and swaps futures markets and take other corrective actions as necessary to eliminate any market disturbance that prevents energy markets from accurately reflecting the forces of supply and demand.

And what long-term supply (h/t Mark Thoma) is that?

As has been noted elsewhere, regulation at the CFTC isn’t in itself a bad idea. Indeed, it’s long overdue. But I’ll go back to Krugman and the FT:

The case for such a policy is based on a flawed concept of how these markets work. Those pushing for restrictions argue that an artificially high demand for essential commodities such as oil and corn has been created by the institutions’ purchase of long positions in futures contracts….

Now, if it were true that pension funds, insurance companies, evil hedge fund managers etc, were all buying large quantities of physical products such as silos of grain and storage tanks of oil, then the peasants with the torches, and their leaders, would have a point. But the investors aren’t buying physical product. [Nonsense about Lieberman being a Democrat omitted; italics mine]

So, if this bill passes the Senate and is ultimately enacted, the CFTC either will prevent some people from buying futures (by some miracle, unless they’re going to do this only for crude contracts, which would mean Lieberman is even stupider than I think he is) or, more likely, change some requirements in the booking, reporting, and buying of such contracts which will make it more difficult for outright speculators.

Now, don’t get me wrong: I fully expect to be paying $1.50 for gasoline in a couple of months: but that will be C$1.50/litre. The odds of those of you staying in the States being able to pay that per gallon—well, I wouldn’t take them. Even if I were “speculating.”

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Speculation, Again

Rick Newman of Useless News and World Report busts some myths. And gets to the heart of the “speculators” issue:

Many companies, for instance, want to lock in the price they’re going to pay down the road for petroleum products and other supplies they need to run their businesses. So they make agreements with suppliers on a price they’ll pay next year, or the year after, when they actually take possession of the oil. Buying and selling such “futures contracts” makes these companies speculators by definition, since they’re placing a bet on the future price of oil.

Companies doing this kind of hedging include gasoline refiners, airlines, shipping companies, and others that spend a lot on fuel or petroleum. Often they use investment banks or other intermediaries to arrange the deals. They might be gambling, but this kind of speculation actually helps companies run their businesses more smoothly, and if they guess right on future prices, it may give them a competitive advantage against other companies that don’t plan as prudently.

It’s not “gambling” that gave Southwest a competitive advantage, or nearly put Delta out of business yet again. When your largest non-fixed expense is a known quantity (how much fuel you’ll need next year, given any expansin/contraction plans), hedging in the futures market isn’t just an adventure, it’s a job.

And note that the competitive advantage isn’t just against “other companies.” A speculator who guesses wrong doesn’t stay in the market too long. Nor, not to be blunt about it, does s/he ever take delivery of the asset: they sell the contract for a gain or loss.

This is why an increase in volume in the futures market (as noted in Mr. Master’s testimony; h/t divorced one like Bush in comments here) isn’t necessarily a sign in itself of speculation. It may be a sign of corporate risk management (finally) doing its job. After all, it’s not as if the oil price trend isn’t clear.

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U.S. Energy Policy Could Be Worse (No, Really!)

by Tom Bozzo

It could be China’s, for one. The FT reminds us that there are income and substitution effects:

Even though GM does not officially sell Hummers in China, a booming grey market has developed. In Beijing alone, more than 15 car dealers are selling the tank-like vehicles to China’s army of new car-buyers.

Hummers have become particularly popular among the wealthy urbanites who like to spend their holidays on long driving treks across the country.

The trend is abetted by the government, since like a moderately terrifying portion of the developing world, China subsidizes motor fuel at retail:

With demand for oil growing at 8 per cent a year, mostly met by imports, the country is the biggest contributor to the annual increase in oil consumption. Yet its petrol and diesel prices are as much as 40 per cent below US levels – themselves low by European standards.

Since China still has legions of the dirt-poor, and only the relatively well-to-do can afford cars (even if many of the new auto market participants aren’t rich by Western standards), this is a major case of upward redistribution.

Meanwhile, for a cross-cultural brand presence (or is that penetration?) laugh:

Beijing Auto has a military-style SUV called the Trojan.

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