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Shale oil rig

International regulations on the fuels used in shipping could tighten the oil market and push prices up to $90 per barrel in the next two years.

The International Maritime Organization (IMO) has new rules coming into effect at the start of 2020 requiring shipowners to dramatically lower the concentration of sulfur used in their fuels.

Ships plying the world’s oceans tend to use heavy fuel oil, a bottom-of-the-barrel fuel that is especially dirty. The IMO regulations are targeting this fuel because of its high sulfur content. Current rules allow sulfur concentrations of 3.5 percent, but by 2020 ships must slash that to just 0.5 percent. “Effectively, bunker fuel is the last refuge for sulphur, which has been driven out of most other oil products,” the IEA wrote earlier this year in its Oil 2018 report.

Shipowners have several options to achieve this goal, and there probably won’t be a single approach. They could install scrubbers to remove sulfur from the fuel, switch to low-sulfur fuels, or switch to LNG. Scrubbers are thought to be costly, although some shipowners see the payback period as worth it. LNG is also an expensive route.

But a lot of shipowners will switch over to lower-sulfur fuels such as gasoil, a distillate similar to diesel. The IEA says that by 2020, demand for gasoil will shoot up to 1.74 million barrels per day (mb/d), an increase of over 1 mb/d relative to 2018. That will displace the heavy fuel oil that is currently widespread. The IEA says that high-sulfur fuel oil demand will crater from 3.2 mb/d in 2019 to just 1.3 mb/d in 2020.

MORE HERE

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Defying all odds, OPEC provisionally reached the much-hyped agreement to cut output in a bid to boost oil prices. According to an OPEC delegate quoted by Bloomberg News, the ministerial meeting in Vienna has just reached a deal to cut output by 1.2 million barrels per day to 32.5 million barrels per day.

MORE HERE

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PV Solar Could Have Some Serious Competition
The majority of the world’s energy demand is thermal and not electrical, which presents unique opportunities for the solar industry to capitalize on
http://oilprice.com/Alternative-Energy/Solar-Energy/PV-Solar-Could-Have-Some-Serious-Competition.html

The “Thin Green Line” Holding Back U.S. Energy Exports
The possible repeal of the U.S. crude oil export ban could provide the breakthrough the energy industry needs to increase energy exports to Asia from the West Coast
http://oilprice.com/Energy/Energy-General/The-Thin-Green-Line-Holding-Back-US-Energy-Exports.html

Are Big Oil’s Dividends Sustainable?
Big oil has been paying some extraordinary dividends lately. But how sustainable is this practice in the light of ‘lower-for-longer’ oil prices?
http://oilprice.com/Energy/Crude-Oil/Are-Big-Oils-Dividends-Sustainable.html

The Most Innovative Companies In Renewable Energy
Investors across the resource sector must constantly stay aware of which smaller companies are leading the next wave of innovations in a particular field
http://oilprice.com/Alternative-Energy/Renewable-Energy/The-Most-Innovative-Companies-In-Renewable-Energy.html

This Week In Energy: The Growing Threat From China
With three consecutive days of currency devaluations this week, China is once again making global markets anxious as one of the key drivers of demand growth appears to be faltering.
http://oilprice.com/Energy/Energy-General/This-Week-In-Energy-The-Growing-Threat-From-China.html

A September To Remember?
Economists appear to have reached a consensus about when the Fed will finally begin to raise short-term interest rates in the United States
https://oilprice.com/Energy/Energy-General/A-September-To-Remember.html

One Of The Hottest Commodities In Coming Years
What happens when a place that produces 68% of the world’s platinum supply sees a critical decline in its mine output?
http://oilprice.com/Finance/investing-and-trading-reports/One-Of-The-Hottest-Commodities-In-Coming-Years.html

Can New $500 Million Stock Issue Solve Tesla’s Problems?
Tesla’s free cash flow has not been positive over the last two years, a dilution shares by a new equity offering was to be expected…
http://oilprice.com/Latest-Energy-News/World-News/Can-New-500-Million-Stock-Issue-Solve-Teslas-Problems.html

What A Nuclear Restart Means For Japanese Oil Demand
As Japan finally begins a nuclear restart in the hopes of ending its increased energy import dependence, this can only mean more bad news for the oil markets
http://oilprice.com/Latest-Energy-News/World-News/What-A-Nuclear-Restart-Means-For-Japanese-Oil-Demand.html

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Yesterday, the Federal Reserve released their financial FOMC meeting statement for 2014. The primary focal point by the financial markets has been answering the question of WHEN the Federal Reserve will begin tightening monetary policy by hiking interest rates. Yesterday, did not answer that question as Tim Duy summed up well:

Policymakers were apparently concerned that removal of ‘considerable time’ by itself would prove to be disruptive. Instead, they opted to both remove it and retain it:

 

‘Based on its current assessment, the Committee judges that it can be patient in beginning to normalize the stance of monetary policy. The Committee sees this guidance as consistent with its previous statement that it likely will be appropriate to maintain the 0 to 1/4 percent target range for the federal funds rate for a considerable time following the end of its asset purchase program in October, especially if projected inflation continues to run below the Committee’s 2 percent longer-run goal, and provided that longer-term inflation expectations remain well anchored.’

 

If you thought they would drop “considerable time,” they did. If you thought they would retain “considerable time,” they did. Everyone’s a winner with this statement.

As I have written in the past, the Fed has lost its focus of managing for price stability and “real” full-employment by trying to appease WallStreet and keeping its member banks “fat and happy.”  

(I say “real” full-employment because it is hard to suggest that the U.S. is anywhere near full-employment levels when only 46.5% of working-age individuals, those between the ages of 16-54, are employed full or part-time. Read here)

There are two important points to be made about yesterday’s FOMC statement.

First, when the Federal Reserve has begun hiking interest rates in the past, GDP was averaging between 4% and 5% annual growth rates. The Fed historically has raised interest rates “slow” a rapidly growing economy and abate rising inflationary pressures. Now, however, the Fed is discussing raising interest rates in an economy that is barely growing above 2% with deflationary pressures and falling interest rates.  As shown in the table below of the FOMC projections, estimates for future GDP growth remains at very sluggish levels.

FOMC-Projections-GDP-121814

My guess is that the Fed realizes that the economy, now over six years into the current expansion, is closer to the next recession than not. Therefore, the Fed likely feels compelled to raise interest rates regardless of near term market or economic consequences in order to have some capability of lowering rates to offset the next recessionary drag. Ironically, it will likely be the Fed’s actions that trigger the next economic slowdown.

Secondly, it is important to remember that the Federal Reserve CAN NOT tell the truth. In a liquidity driven world where the financial markets parse and hang on every word uttered by the heads of Central Banks worldwide, can you imagine what would happen to the financial markets if Janet Yellen stated:

“Despite many years of supporting the financial markets in hopes of a resurgence of economic growth, it is committee’s assessment that Keynesian economic theory is flawed. While our monetary interventions have inflated asset prices as desired, it has only served to widen the “wealth gap” while having little effect on the real economy. It is the conclusion of the committee that our policies have failed to achieve realistic economic objectives and has potentially imperiled the financial markets with a third ‘asset bubble’ in the last 15 years.”

The ensuing collapse in the financial markets would immediately create a recessionary environment. Financial markets would crumble as credit markets froze as economic activity plunged. This is why there is such great emphasis focused on the Federal Reserve statement and the guidance they provide. It is also why the FOMC has repeatedly stated that following the end of the current large scale asset purchase programs (LSAP or QE) that they would continue to focus on the use of “forward guidance” as a policy tool.

The ability to “move” markets with words, rather than actions, has become the trademark of the European Central Bank (ECB) over the last couple of years. It is ultimately the hope that the Federal Reserve can pull off the same trick as they begin to extract liquidity and accommodation from the financial markets as the economic recovery takes hold.  The problem for the Federal Reserve is that they are still looking for that elusive economic recovery to take hold after more than six years. Unfortunately for the Fed, economic recovery cycles do not last forever, and the clock is ticking.

 

Retail Sales Not What They Seem

I have been extremely vocal about the fact that shifting consumption from gasoline sales to retail sales does not create economic growth. It is just a “shift” in where the same dollars are spent.

However, there has been much “hoopla” over the recent retail sales report for November that saw retail sales jump for the month by 0.7%. While on the surface this appears to be a strong retail sales report, a quick look below the surface quickly destroys that claim.

First, as shown below, the “seasonal adjustment” to the retail sales report was the fourth largest in the history of the report. Of particular note, in the last two years, the seasonal adjustment were negative. The three previous record level adjustments were made immediately following the last two recessions.

Retail-Sales-November-Adj-121814

Secondly, let’s take a look at the NON-seasonally adjusted data for some guidance using a simple 12-month moving average to smooth the data rather than a potentially corrupted, by the financial crisis, seasonal adjustment methodology.

Retail-Sales-NSA-12moAvg-121814

As suspected, there is little evidence to support that retail sales actually surged in November. While the seasonally adjusted data, which is rather volatile, the smoothed NSA data suggests a weaker retail, consumer, spending environment. This corresponds closely with the premise that I discussed recently in the weekly newsletter (subscribe for free E-delivery) that falling gasoline prices really have little impact on overall retail sales. To wit:

“While the argument that declines in energy and gasoline prices should lead to stronger consumption sounds logical, the data suggests that this is not the case.

 

Simply put, lower oil and gasoline prices may have a bigger detraction on the economy that the “savings” provided to the consumer

 

In any economy, nothing works in isolation. For every dollar increase that occurs in one part of the economy, there is a dollars’ worth of reduction somewhere else.

The data over the next couple of months will be interesting to watch.

 

Chart Of The Day

I have addressed previously the divergence the economic indicators such as the ISM surveys and actual industrial production. Today’s release of the Markit Service Sector activity shows a continued drop in services activity that belies recently released ISM Services surveys and retail sales data. Importantly, both cannot be right.

PMI-Sector-Services-121814

http://www.zerohedge.com/news/2014-12-18/3-things-worth-thinking-about

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The price of Brent crude oil dropped to below $97 a barrel on Sept. 15, its lowest in 26 months, depressed by both a continuing oil glut and lower demand. This follows the previous week’s drop of U.S. crude to a 16-month low.

Many factors on both the supply and demand sides have contributed to this slump, most recently word that growth in key sectors of China’s economy had cooled in August, particularly factory output, which was at its slowest pace during the month in almost six years. Further, this may indicate that China’s huge economy could be on the verge of an even larger slowdown.

https://oilprice.com/Energy/Oil-Prices/Low-Demand-Increased-Supply-Conspire-To-Push-Crude-Prices-Lower.html

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Much has been made about the role that hydraulic fracturing – or fracking — has played in revolutionizing the energy landscape, unlocking vast new reserves of oil trapped in shale rock. This “tight oil” is pouring into the global pool of oil supplies at a crucial time, preventing oil prices from spiking in an age of high demand and geopolitical turmoil.

But the world still relies overwhelmingly on conventional oil production from existing fields, many of which are in decline. The Middle East has dominated the world of oil for half a century and as the list below shows, it remains king. Here are the top five most important oil fields in the world.

more@ http://oilprice.com/Energy/Energy-General/Here-Are-The-Worlds-Five-Most-Important-Oil-Fields.html

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The US government is considering doing away with a four-decade-old law that bans the sale and export of American oil abroad. The decision follows a slew of US-led strategic wars and sanctions in the Middle East that have raised oil prices and demand.

The policy shift comes on the heels of the crisis in Ukraine, as the US may be taking advantage of an opportunity to disrupt Russian oil exports to Europe. The US produces 10 percent of global crude oil supply, but exports precisely zero barrels because of a ban Congress set in reaction to the 1973 Arab Oil Embargo.

Washington is seriously considering changing federal laws to let oil flow abroad, according to US Energy Department Secretary Ernest Moniz.

“The issue of crude oil exports is under consideration…A driver for this consideration is that the nature of the oil we’re producing may not be well matched to our current refinery capacity,” Moniz said on Tuesday at the end of an energy conference in Seoul, as reported by the Wall Street Journal.

Many Democrats in Congress oppose the idea, as lawmakers believe newfound oil wealth should be kept inside the US to keep domestic energy prices low.

More@ http://rt.com/business/158936-us-oil-ban-export/

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Despite proclamations that the “economy is improving” and that “unemployment is down,” one thing is evident and that is – for a number of reasons – food costs are soaring, and as they do, those most vulnerable, like the poor, the elderly and those earning the lowest wages, are being hurt the most.

“We are sure the weather is to blame but what happens when pent-up demand (from a frosty east coast emerging from its hibernation) bumps up against a drought-stricken west coast unable to plant to meet that demand? The spot price (not futures speculation-driven) of US Foodstuffs is the best performing asset in 2014 – up a staggering 19 percent,” notes Tyler Durden over at Zero Hedge.

In February, the site gave voice to a sort of prelude to the aforementioned scenario, in publishing a post by Michael Snyder of The Economic Collapse blog:

Did you know that the U.S. state that produces the most vegetables is going through the worst drought it has ever experienced and that the size of the total U.S. cattle herd is now the smallest that it has been since 1951? Just the other day, a CBS News article boldly declared that “food prices soar as incomes stand still,” but the truth is that this is only just the beginning. If the drought that has been devastating farmers and ranchers out west continues, we are going to see prices for meat, fruits and vegetables soar into the stratosphere.

A number of factors are leading to price increases

Sure, prices are up because California’s drought is limiting supply. Some have even said that commodities prices are being pushed upward by speculators on Wall Street; that may be happening to an extent.

But there are a number of other factors that the government doesn’t report as having much of an effect at all on food prices (and remember, the government doesn’t include “volatile” food and energy prices in its monthly inflation reports).

Speaking of energy, the price of a gallon of fuel, especially diesel fuel, has a lot to do with the prices you pay at the grocery store. Historically, food supplies were more much more local; transportation costs, therefore, were much reduced (and that was during the era of much cheaper fuel). Not anymore; the impact on prices that California’s drought is having demonstrates how vast the U.S. food supply chain has become. With it has come higher transport costs.

Kimberly Amadeo, a U.S. Economy Guide at About.com notes:

Food prices rise in response to high gas prices. That’s because transportation is a large cost of food you buy at the store. When you notice prices at the pump rising, expect to see the same thing happen in about six weeks at the grocery store. High gas prices are, themselves, usually caused by high oil prices. Here again, it usually takes about six weeks for increases in oil futures to translate to the pump.

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You can’t watch the mainstream media propaganda channels for more than ten minutes without a talking head breathlessly announcing that gas prices have dropped for the 24th day in a row and are now back to $3.55 a gallon. Wall Street oil analysts, who are paid hundreds of thousands of dollars per year to tell us why prices rose or fell after the fact, are paraded on CNBC to proclaim the huge consumer windfall from the drop in price. This is just another episode of a never ending reality show, designed to keep the average American sedated so they’ll continue to spend money they don’t have buying crap they don’t need. The brainless twits that pass for journalists in the corporate mainstream media never give the viewer or reader any historical context to judge the true impact of the price increase or decrease. The government agencies promoting the storyline of those in power extrapolate the current trend and ignore the basic facts of supply, demand, price and peak oil. The EIA is now predicting further drops in prices. Two months ago they predicted steadily rising prices through the summer. What would we do without these government drones guiding us?

CONTINUED HERE

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English: First four-dollar gasoline in Crozet,...

Image via Wikipedia

You don’t have to be a genius to know that gasoline costs around $3.50 per gallon in the US. 

What most Americans don’t know is that the only thing keeping the price above $2.00 is the fact that our oil companies are exporting our gasoline at bargain basement prices to their own foreign subsidiaries subsidized by high American prices.

You see, gasoline usage, around the world, has fallen dramatically.

Gas is a liquid.  Imagine a glass of water.  You fill it to the top, you add more, it overflows.

Same with gasoline.  Tank farms fill up, the rusty pickup truck in the driveway has gas in it, the BP station is full to capacity, everything that can hold gasoline except for your bath tub is filled to capacity.  Normally, this would crash prices.

Instead, America exports gas, dirt cheap and in huge volume, 480,000 barrels per day.  But this is an export you say, a good thing.  Is it now?

Hmmm.

Let’s look at some facts:

  • American refineries are the most expensive in the world with the highest wages
  • The gasoline exported was made from crude oil shipped halfway around the world
  • To gain market share, America would have to compete with refineries closer to oil supplies, refineries with cheap labor, most of which are owned by governments or government controlled corporations

This means America’s exports are subsidized.  By “subsidized,” we mean “fixed” or “rigged.”  I think it is safe to say we have known this for a very long time, I don’t expect anyone to have a heart attack reading this.

CONTINUED HERE

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Building of the New York Mercantile Exchange (...

Image via Wikipedia

It’s not ‘Libyan unrest.’ It’s corpora-terrorist greed.

22 Feb 2011 If political unrest in Libya spreads to other oil-rich countries and the ensuing chaos disrupts crude oil production, gas prices could hit $5 a gallon by peak summer driving season, industry analysts say. Oil prices soared to the highest level in more than two years as violence spread in Libya and Moammar Gadhafi’s grip weakened. Benchmark West Texas Intermediate for April delivery jumped $4.59, or 5% to $94.30 per barrel on the New York Mercantile Exchange.

LINK: If Libyan unrest spreads, gas could reach $5

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Building of the New York Mercantile Exchange (...

NYMEX

Crude and heating oil prices started 2011 off with a bang at the NYMEX this morning, shooting upwards out of the gate and touching record highs before paring gains later in the day. In the interim, the price of crude oil rose to $92.58 a barrel, its highest price since October of 2008. The morning’s gains were enough to add a full nickel to retail heating oil prices at 11 am Eastern Time, but some of that increase could recede by Tuesday morning.

CONTINUED HERE

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Oil prices under fourty dollars per barrel? It can’t be true. 

Yes it is true, oil prices are back to where they were more than four years ago. Time for a few thoughts on these past years and what led to apparently dissonant energy prices.

This is a crosspost from the European Tribune. 

Back in July, no one that I am aware of was forecasting a 100$ drop in oil prices during the following six months. Even Daniel Yergin, the Nemesis of modern day Peak Oil study, was at the time predicting higher prices. Back then a friend told me to go short on oil, because all price forecasts by CERA are wrong. If I were a trader, I would have probably followed that advice, but could never imagine what was to come.

One of my first dives into the Peak Oil world was with Kenneth Deffeyes’ book Beyond Oil. In it, the Princeton Professor explains how resources’ prices go through chaotic periods in face of scarce supply. Without knowing it, he derived an expression to explain movements like spot Natural Gas prices in the US after 2002, that was equivalent to Queueing Theory. This made immediate sense to me, after studying this theory in my formative years at the University.

Let me try to explain briefly what this theory is. Imagine a supermarket with a certain number of points-of-sale (POS), to which a certain number of costumers arrive per hour. Queueing Theory allows one to derive information like the average queue length at each POS and the average waiting time each costumer spends in the queue. This information is not only useful for supermarket managers but also in other fields like transport and tele-communications.

Queueing Theory shows also provides another important result: if the load on the system goes above a certain threshold, it becomes impossible to predict queue lengths or waiting times, and the system goes into chaos. Going back to the supermarket, imagine that for some reason the flow of costumers increases several-fold over its normal rhythm (e.g. Black Friday in the US). At first, lengthy queues form at each POS, waiting periods then go beyond costumers’ patience, and they simply start quitting the queue and leaving the supermarket without shopping. The dissatisfaction is such that costumers quit entering the supermarket altogether and the manager is eventually forced to close down some POS. But this is Black Friday, the avalanche of costumers eventually returns and it starts all over again. During this chaotic period a random sample of queue length at any given POS can result in any possible number and becomes effectively impossible to predict.

Substituting costumers by oil importers, POS by oil exporters and queue length by oil prices we have the international oil market.

This chaotic outcome with respect to commodities prices in face of scarce supply was studied by Ugo Bardi, who found interesting examples of it in the past. I first got to know his work soon after I read Kenneth Deffeyes’ book and was especially impressed with the pattern Ugo identified in whale oil prices after the peak in sperm whale catches in 1850. The Whaling Industry was possibly the largest of its time, on a global scale that in many ways can be compared with the modern day Oil Industry. To me a most fascinating aspect about Peak Whale Oil is that in the book Moby Dick, published right about that time, Herman Melville lays down quite clearly the reasons for a coming decline of the Industry: in his view Easy Sperm Whale was over.

With all this information I became convinced an increased volatility in oil prices would unfold, eventually leading to a series of “boom and bust” cycles, just like whale oil prices in the XIX century. Predictions of oil prices would become impossible, and I never attempted to forecast them.
Another important aspect to my understanding of this issue was presented by Carlos Cramez and Jean Laherrère in 2006 at the seminar that kicked off ASPO-Portugal. They showed a chart with oil prices in terms of the number of working hours required to buy the oil in the US and France, and concluded that to return to 1980’s levels, the last oil crisis, prices would have to reach something like 125$ per barrel (in 2006 dollars). This number stuck to my mind, and I assumed this would be about the level at which the “boom” would turn around into “bust”.

Oil prices as a function of working hours by the French minimum wage. For 2008 the oil price is taken as the July peak.

 

My mental model of oil prices evolving with scarce supply and expanding monetary mass.

 

Back in July with prices nighing on 150$, I was getting concerned that either my mental model was rubbish or that the fist turn was now overdue. I had the opportunity to write at that time that oil prices had become unbearable to many people in developed countries, protesters were dying in picket lines and less scrupulous people started stealing diesel from their neighbours. Something had to break and something broke.

But I would expect something more in the line with the price turn that took place in the second half of 2006 and could never imagine so much in such a short time: more than 100$ in six months.

As anyone knows, oil prices are in fact being pulled down by the Credit Freeze. It is perhaps worth to take a look back to the events that lead to to this point, and oil’s important role in these events:

  • 1999: Glass-Steagall Act is fully repealed; 
  • 2001: September the 11th, NATO goes to war; 
  • 2002: Interest rates are now at historic lows, monetary mass starts expanding fast to finance the war (eventually reaching as low as 1% in the US); 
  • 2003: Half of NATO invades Iraq; 
  • 2004: OPEC’s spare capacity dries up; 
  • 2005: Oil prices go above 60$, interest rates are inverted towards ascent; 
  • 2006: US interest rates reach 5.25%; households are confronted with increasing daily prices and increasing mortgages simultaneously; 
  • 2007: The US housing market bubble pops; 
  • 2008: Bear Stearns and the Lehman Brothers collapse, panic leads to a halt of the fractional reserve system, Central Banks are effectively unable to put their monetary policy at work;

 

Interest rates set by the European Central Bank, the US Federal Reserve and the Bank of England.

The most important thing to take home here is that the Fed started the rate hike in 2004/2005 because it misunderstood the oil price rise as a consequence of its poor monetary policy. But instead crude oil production had reached a plateau that remained up to the second half of 2008. In fact, the underlying physical economy stopped growing soon after the invasion of Iraq.

With this interest rate hike, millions of American families slowly became unable to honour their debt compromises, squeezed between mortgages and consumer prices, both rising. This lead to a sharp decline in home prices (demand collapsed, supply sky-rocketed) that were the physical collateral for much of the paper currency created during the low interest rates years. Losing this collateral, banks had to devalue or even write off asset after asset on their balance sheets. These problems started to affect an increasing number of banks and financial institutions to the point of breaking trust among them. The rest is history.

In Europe, events unfolded in similar ways, although the interest rate swings were of smaller magnitude. Here the rate set by the ECB never dipped below 2% and never went above 4.25%. The problem was that many European banks had acquired financial instruments backed by assets in the US housing market; within days of the spectacular collapse of Lehman Brothers, several institutions here started showing serious difficulties. In spite of the reversal in monetary policy by the ECB, the inter-banking lending rate, Euribor, was perilously going up, menacing to squeeze households.

Governments are scrambling to invert the Credit Freeze and get their economies back on track. Luckily the ease seems to be coming first to Europe: the action by the ECB rapidly reducing interest rates and by state governments in providing credit and guarantees to ailing banks (or in some cases simply nationalizing them) has apparently restored confidence, as the collapsing Euribor rates show. Households in Europe are now facing declining consumer prices, with the fall in commodities’ prices, and declining mortgages. This will bring some ease to European families and eventually pave the way for a turn around in Demand and avoid a serious expansion of unemployment. A major difficulty remaining is that an economic turn in Europe also depends on a turn in aggregate Demand of its main trading partners – especially the US.

In the US, things are not as simple. Not only were the interest rates swings much wider, but more importantly, the crisis is coinciding with the beginning of the transition between two governments (from two different parties). Interest rates have been brought down to the floor again and consumer prices are falling (also a consequence of a turn of the dollar exchange rates with other major paper currencies), but it came too late to avoid unemployment expanding. Restoring the confidence in the banking market seems a harder task, and similar to Europe, easing households from their obligations doesn’t guarantee an immediate pick up in aggregate Demand.

All these actions by Governments and Central Banks, that translate into a rapid expansion of money supply, don’t go without consequences. But that will be an issue for another time.

__________________

The Credit Freeze impacted the oil market in two different ways:

a) It decreased Demand, by crippling industrial activity–this is especially the case in the US where unemployment is already reaching significant numbers; in Europe several states entered Recession in the third quarter. At this moment there isn’t enough data yet to evaluate how much Demand contracted; only in following months, as institutions like the IEA or the EIA produce their regular reports, it will be known.

b) Companies hedging their business in the futures market were forced to liquidate their positions in order to meet near term obligations, leading to a collapse of the number of transactions in the market.

Now that oil Demand has retracted, bringing prices down with it, the opposite phenomenon occurs: Supply destruction. Current prices are too low for the development of many oil reserves, especially those on the fringe of technology. The perfect example is the sub-salt layer reservoirs identified in the Santos Basin off Brasil. A recent study by Deloitte pointed 90 $/barrel as the break even for production from these fields. An optimistic figure possibly, given that as indicated by Brazilian scientists last year, the technology for doing is so is yet to be developed.

With time, new projects needed to offset aging fields won’t be there, either because of lack of exploratory activity or lack of financing. Even healthy fields can become unprofitable and be mothballed or abandoned. Supply will go down to the point it can’t fulfill Demand any more at low prices, the cycle will be closed and a new “boom” phase will unfold.

It would be interesting to know when this new cycle will start. That’s all but easy, made even more difficult by unpredictable monetary policy shifts. Looking at the present futures market, presenting a heavy contango pattern, it doesn’t seem like an oil price rise is imminent. Likely, only when the futures market moves toward backwardation will the environment be propitious for a new price rally.

The impossibility of predicting long/mid term oil prices is a serious problem for governments and businesses planing ahead. But this is all part of the game: the destructive process of dependence on scarce resources. If a steady increase in prices was the outcome (as some believed), business would be able to plan ahead, for instance hedging on the futures market. Instead, these unpredictable price swings are very disruptive. Taking the example of an airline company, if it plans for a high oil price and prices go down, it will likely loose competitiveness. On the other hand, if it plans for a low price and it happens to go higher, the company will lose profits and eventually have financial difficulties. If Queueing Theory applies fully to the oil market, prices are effectively impossible to predict in the long term, guaranteeing losses to all airline companies.

Probably these “boom-and-bust” cycles will henceforth perpetuate until at least one of two things happens:

a) A “bust” phase permanently erases an important part of Demand;

b) A “boom” phase eventually takes place supported mainly by alternative energies;

I’m hoping for b).

The Oil Drum reporting.
Finally there was another piece to add to this puzzle: paper currency supply has been growing by two digit percentages every year. So these fluctuations would possibly occur within a band of ever higher numbers but without never surpassing the 1980s record oil price in terms of working hours. The following is a graphic rendition of this mental model for the long term evolution of oil prices.
Jean updated this graph recently and was kind enough to mail it to me, showing that by July, prices were very close to the level that had caused pain previously. When oil prices fell after that, they did so in dollar terms, but not so much against the euro, thus the 2008 barrel price in working hours will be below the 1979 – 1985 period but will likely surpass the 1974 – 1978 period.

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America’s Economic Myths


Daily Article by | Posted on 9/10/2008

“The Olympian gods”
Nicolas-André Monsiau (1754–1837)

Mainstream economists and so-called experts have filled the minds of most Americans with many economic myths that are constantly reinforced by the media and repeated on the streets. These myths are erroneous at best, sometimes based on half truths. The majority of them are just false. We read and hear them every day: “inflation” is caused by rising oil prices; consumption is the most important element for economic growth; low interest rates are helpful to the economy; government expenditures help “stimulate” the economy; there is an energy “crisis,” and many others. We will examine the most common ones and proceed to explain the reality behind these myths.

Inflation and Energy Myths

Inflation — or, rather, the general rise in prices[1] —and the increase in energy prices are issues that have always created numerous economic myths.The following are some of the most common ones.

Myth # 1: “Dependence on Foreign Oil”

This myth basically suggests that the problem with oil prices is due to America’s “dependence” on foreign oil. One of the worst economic myths, it plays on economic nationalism and on xenophobic feelings that are sometimes pervasive in the United States.

The high price of oil has nothing to do with its origin; the price of oil is determined in international markets. Even if the United States were to produce 100% of the oil it consumes, the price would be the same if the worldwide supply and demand of oil were to remain the same. Oil is a commodity, so the price of a barrel produced in the United States is basically the same as the price of a barrel of oil produced in any other country, but the costs of labor, land, and regulatory compliance are usually higher in the United States than in third-world countries. Lowering these costs would help increase supply. Increasing supply, whether in the United States or elsewhere, will push prices lower.

Importing a product does not mean you “depend” on it. This is like saying that when we “import” food from our local supermarket we “depend” on that supermarket. The opposite is usually true; exporters depend on us, since we are the customers. Also, importing a product usually means buying at lower prices, whereas producing in the United States often means consuming at higher prices. This point is proven when we see the cheap imports we can purchase from China and the higher prices of many of these same products manufactured in the United States. The amazing thing is that the protectionists claim, on the one hand, that America should be “protected” from cheap imports, but when it comes to oil, they say we should be “protected” from “expensive imported” oil.

Most, if not all, of the higher price of oil can be explained by the expansion of the money supply or the debasement of the dollar. The foreign producers are not at fault; our national central bank is the culprit.

Myth # 2: “Inflation is caused by rising oil prices.”

False. If the money supply were to remain constant, then an increase in the price of one good, such as oil, would cause a decrease in the price of other goods. If more money is spent on oil, then less money will be available to spend on other goods. This will in turn cause a drop in the demand for other goods, which will subsequently cause a drop in the prices of these goods. The reality is that inflation is always a monetary matter, caused by the increase in the money supply due to the interest-rate-easing policies of central banks.

Myth # 3: “Current inflation is being caused by the increased demand of millions of new consumers in China and India.”

At first this myth might seem true. Millions of new Asian consumers have entered the market, thus, there is higher demand for most goods, which would apparently cause higher prices. What is being overlooked is that these new consumers are also new producers. In general, most people produce far more than they consume, because most workers have to produce more than what they earn in wages (if not, they lose their jobs). While it is true that demand has risen due to these new consumers, supply has increased even more, due to their increased production. This can clearly be seen by the frequent drop in prices of most goods being manufactured in China. On the other hand, the only way these new workers can increase their consumption beyond what they produce is through credit. Thus we return to the real culprit behind inflation: credit expansion due to central banks’ intervention in the financial markets.

Consumption Myths

These myths were injected into the mainstream mainly by Keynesian economists or demand-siders who were trying to influence public policy.

Myth # 4: “Consumption is the most important element of the economy.”

Consumption is indeed important in a free economy: particularly the freedom of consumers to buy their goods in unhampered markets. However, key to long-term economic growth is investment (savings), which is the opposite of consumption. Public policies that promote consumption — such as low interest rates — do so at the expense of savings. Less savings means less investments; an economy that does not save or invest will consume all of its resources and eventually end up bankrupt.

Myth # 5: “Excess consumption is a feature of the free-market capitalist system.”

False. Excess consumption is mostly caused by central bank’s artificially low interest rates, which promote lower savings and higher consumption than would naturally occur. Currently, the real interest rates of savings accounts are negative. Thus it makes no economic sense to save. Since these same policies cause price increases, it makes sense to consume as much as you can immediately, before prices rise. Therefore we see that excess consumption is being caused by government policies and not by the capitalist free-market system.

Myth # 6: “Federal Reserve interest-rate policy can help the economy.”

It is baffling how most Americans — including many of those who fought so hard against central planning in the 20th century — believe that the financial markets and the economy benefit from the central manipulation and influence conducted by the Federal Reserve.

To maintain a target of low interest rates, the Fed must add liquidity to the money supply by creating money without obtaining additional reserves. This is the infamous creation of money “out of thin air,” which so many have criticized. Many believe that this artificial injection of liquidity creates economic stimuli and promotes growth. However, even though it creates an apparent bonanza, these monetary injections must eventually be “paid back.” This payback happens by means of higher prices, the so-called inflation.

Low interest rates also create a huge dislocation between the market’s natural interest rate and the interest rate that the Fed sets. Supply and demand of money — mainly supply of savings and other deposits and demand for credit — is what should set interest rates in a normal unhampered market. Risk, too, should play a role in setting market interest rates.

When the Fed artificially lowers interest rates, it does so below the market rate, which would be established at the intersection of the aggregate supply and aggregate demand of money. A rate below the market rate creates a higher demand for credit; thus people and companies get into debt beyond normal levels. On the other hand, low savings-account rates push people to withdraw money, lowering the market supply of funds. These dislocations are at the root of the eventual credit crisis, which follows the boom period that was caused by artificially low interest rates.

With today’s risky financial crisis, most people would demand a premium to deposit their money in a bank. Further, the current liquidity crunch should mean a lower market supply of money. Both forces should be pushing interest rates up. If the market were unimpeded (that is, if there were no intervention from the Fed), interest rates would be higher, not lower.

These and many other absurd economic myths have plagued the minds of mainstream Americans. Despite a supposed return of pro-free-market forces to both of the main political parties in the 1980s and ’90s, new interventionist myths seem to surface almost every day. Free-market advocates and economists must continue to struggle against these harmful economic myths.

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