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That Slippery, Oily Slope?
Jeremy Warner of the Telegraph reports, The uncertainty over oil is a slippery slope:
The last time the oil price lost touch with gravity, which it threatens to again with the price of Brent crude now well north of $100 a barrel, it helped tip the world economy into the deepest recession since the 1930s.
Is history about to repeat itself? Much depends on developments in the Middle East, but things are once more looking perilous.
By adding to energy costs, the effect of high oil prices is to reduce the amount of money for spending on other things, thereby undermining aggregate demand in the wider economy. Eventually a tipping point is reached where confidence collapses. Given what happened as recently as 2008, you would expect OPEC to be acting quickly to prevent any further explosive increase in prices.
The wave of popular protest across North Africa and beyond has put that assumption in doubt. What happens to the world economy is not exactly a priority right now for the autocrats who dominate OPEC. Their focus is instead on survival.
The big producer, Saudi Arabia, looks particularly vulnerable to further contagion in the region.
With nervousness turning to panic among key producers, this is not an environment conducive to the sort of prompt decision-making necessary to prevent the oil price running out of control again.
If the latest instability in the Middle East wasn’t enough excitement for the Energy Institute’s traditionally lively annual conference in London this week, there’s also the unprecedented divergence in benchmark oil prices to ponder.
Go back to the origins of multinational oil in the 1950s and 1960s, and it was big oil companies such as Shell and BP that set the price, with the emphasis very much on the needs of consumer nations they serviced. By the 1970s, OPEC had usurped that role. As a consumer, you either paid up or went without.
The mid-1980s saw the adoption of a more market-related system, with OPEC turning the taps on and off in an attempt to keep prices in a supposedly mutually beneficial range.
Big producers such as Saudi Arabia still sell on their own terms, but they do so by reference to a small number of benchmark prices, supposedly established by arm’s length international trading in oil.
The extent to which these benchmarks are a true reflection of the balance of supply and demand in the world economy is a matter of conjecture. The suspicion is that they owe as much to manipulation, anomaly and speculation as underlying fundamentals.
Like stock and bond markets, oil has become “financialised”. These days, it appears as much the playground of hedge funds, hoarders and financial investors as genuine users and producers. When the oil price took flight three years ago, the Financial Services Authority (FSA) dismissed claims of undue speculative influence as largely nonsense, and on the basis of “the market is always right” dogma of the time, put the phenomenon down mainly to supply constraints against a backdrop of fast-growing demand.
Not for the first time, the FSA was being naive. Price discovery in oil is at best untransparant and inexact, and at worst subject to substantial distortion. The reason this is of such vital importance is because oil plays such a big role in economic activity. To allow oil markets to become subject to the same speculative excesses as sub-prime mortgages would be disastrous. Producer and consumer behaviour are crucially determined by what the price says; when the pricing signal is wrong, economic activity will be affected in highly undesirable ways.
An unduly elevated price will eventually destroy demand, which in turn will undermine sustainable investment in new capacity to meet future demand growth. These cycles are a major influence on the ups and downs of the broader business environment.
A study by Bassam Fattouh of the Oxford Institute for Energy Studies – An Anatomy of the Crude Oil Pricing System – finds the benchmarks that determine world energy prices to be wanting in a number of important respects.
One look at the difference between the two main benchmarks – Brent and West Texas Intermediate (WTI) – immediately tells you there’s something wrong. Historically, WTI has traded at a small premium to Brent, but over the past year, a near record discount of some $15 a barrel has opened up. This in part reflects ample supply in the US Midwest (WTI is an American benchmark) and an equally pronounced squeeze on supplies of Brent. Brent is a waterborne crude, while WTI is a landlocked American benchmark, so the difference might be attributed to the
US economy still being down in the dumps while Asia is booming.
But what do the now quite small quantities of oil still coming out of the North Sea have to do with Asia? The answer is virtually nothing, and yet Brent is used in some shape or form to determine prices for approximately 70pc of internationally traded oil. Markets with very low volumes of production are being used to price ones with very high production elsewhere in the world.
The traditional benchmarks might have more credibility if they were at least solidly grounded in the physically traded product, but they are not. In fact, oil markets are characterised by a complex structure of interlinked spot, physical forwards, futures, options and derivative markets, all of which feed into the benchmark price. The paper market is arguably as important in driving the price as the physical one.
Add to that the fact that no one really knows what’s going on in the world’s fastest growing oil market, China, and all the ingredients are there for a mispricing disaster.
The conclusion drawn by Mr Fattouh is that new benchmarks may be needed to reflect the emergence of Asia as the main source of growth in demand for oil. Perhaps unfortunately, we seem most unlikely to get one. As monopoly, state-owned suppliers that won’t auction their oil, the main OPEC producers are even less capable of generating credible price discovery benchmarks than Brent.
Of course, these musings may soon be largely irrelevant. It may be true that whatever the regime, the oil will keep flowing, but with Pandora’s Box now well and truly opened across great swathes of the Middle East, there’s no knowing where it will end. Short-term supply, future pricing, ownership and preferred trading partners – all these things are again up in the air.
Back in 2005, I attended a conference on commodities in London and was amazed at how much money pensions were shoving into so-called "commodity indexes" (even if they were made up of 76% oil futures). It's ridiculous to think that there is no speculation going on in oil markets. Go back to read Michael Masters' excellent testimony to the Committee on Homeland Security and Governmental Affairs. It's all happening again except this time we also have geopolitical eruptions spurring on further speculation.
The price of oil makes me nervous for one simple reason: if it shoots up, it can easily destabilize the fragile recovery taking place right now. And here is something else to ponder: higher oil price increases deflationary pressures:
...while jumps in the oil price cause inflation to rise at the headline level, it also has an adverse impact on economic activity, reducing demand which naturally serves as a deflationary force. This happens in a number of ways as higher fuel costs hamper a firm's production, which in turn forces it to lay off workers while also reducing wage pressures.
Analysts at UBS believe a $10 hike in the oil price would push up European inflation by 0.2% over one year and 0.1% over two years. They do not believe further oil prices would necessarily translate into significant inflation because of the countering deflationary forces.
According to the investment bank's simulations a jump in oil prices pushes up the energy component of the inflation index but depresses core inflation, which excludes volatile food and energy prices.
Analysis from the bank shows that a 10% increase in crude reduces core inflation by 0.1% a year after with the deflationary effects of oil shocks seem to take longer to disappear with projected core inflation still well below the non-shock level. This is because the shock is estimated to reduce economic activity for more than two years. In a extreme case scenario where the price of oil rises by as much as $50 core inflation subsequently drops by 0.25%.
For this reason UBS does not expect European central banks to be knee-jerked into action if the oil prices continue to rise amid the Middle East tensions.
'An eventual oil shock would hit the EU economy in an environment of low inflation expectations and wage deflation,' UBS says. 'For this reason we think the ECB would not be too worried about second-round effects, and would therefore not be forced to hike rates earlier.'
So while the oil shock may not result in central bankers becoming overly hawkish it could in fact have an opposite deflationary impact and reduce the need for an aggressive tightening campaign on rates.
Whether this could drag the global economy back into recession remains to be seen.
I'm not so sure the ECB (aka the Bundesbank) really cares about anything else except for what's going on in Germany. It wouldn't surprise me if they do start hiking rates, killing the periphery economies and adding further fuel to deflationary forces. I hope I'm wrong but they never cease to amaze me.
As for the global economy, it still runs on oil. If oil prices shoot up, expect more riots, more instability, and more volatility in financial markets. The way things are going, we might be back to a time where everything is correlated to oil. This unstable environment is great for arms manufacturers, but it will wreak havoc on the global economy. Hedge accordingly.
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Wake up.
And if our leaders would only do the same....
Pray tell, when was that?
"Pray tell, when was that?"
Get the sand out of your eyes. You've already been told.
Get your head out of your ass... I asked a simple question.
You've been told several times, clown.
Flak
Peak Oil is a Marketing Program for Big Oil.
Answer: Club of Rome and it's disciple Jimmy Carter.
Now don't be letting that schincter muscle be rubbin' yer neck.
I off to catch a flight,,, deal with you later tonight
Go back to the oildrum where you can read soothing BS. You're getting your ass kicked here.
Certainly not by you... try posting a fact
+1
Here is the truth regarding the global warming fraud, the peak oil fraud and the green energy "bubble".
"Governments, investors and even the World Bank are rushing for the exits in the Great Escape from the green energy bubble. Solar energy appears to be the worst affected sector so far. Dow Jones reports on a startling U-turn by Britain’s ultra-green government has caught investors off guard and shock waves across the markets will likely precipitate the further rush from green energy projects to shale gas. The UK’s Department of Energy and Climate Change made the shock announcement as it revealed a comprehensive review of its Feed-in Tariff (FIT) program. Indications from data provider, Prequin are that over $1bn in earmarked funds may be lost as Britain now promises it will only hold tariffs until April 2012. Green Investors Feeling Betrayed by European Governments Britain’s decision is another nail in the coffin for Europe’s tottering green energy market. Last year the first of several crushing body blows was dealt to environmentalist dreams when the Spanish government retrospectively cut the value of its tariffs in its own U-turning energy review. The devastated Spanish Solar Photovoltaic Industry Association, with mass bankruptcies on the cards, is accusing their government of utter betrayal is yet to carry out a threat to sue over the ruling. As the green house of cards collapses Netherlands-based investment manager DIF and BNP Paribas and venture capitalists such as Future Capital Partners are rumored to be extremely fearful of further repercussions coming at a time when European public opinion is bored and fatigued after two decades of endless global warming hype. UK Energy Minister Charles Hendry made the starkly ominous admission, “one third of Britons think the science on climate change has been exaggerated.” Not helping the green cause has been a succession of brutally cold Northern hemispheric winters which an increasing number of scientists fear may be the harbinger of the onset of a mini-ice age. Abundance of Shale Gas Deflates Green Energy Bubble Causing green lobbyists and environmentally focused investors to cry bitter into their carrot juice comes the news that China is making its move to become pre-eminent in shale gas investment. Peter Foster in the Financial Post (February 11, 2011) reports that energy company Encana is to get a proposed $5.4-billion investment by PetroChina in its shale gas operations. The move he says “confirms the soaring importance of a resource that 10 years ago was hardly on the commercial map.” The market obviously liked the news of the Chinese investment as Encana shares jumped 4.5% to close at $32.02. Savvy shale gas investors are also looking most eagerly at Canada where the discovery that Quebec has considerable shale gas potential has dealt another blow to the idea that the world’s energy resources are anywhere near a so-called “peak.” A strident Quebec Oil and Gas Association has hired former Parti Quebecois premier Lucien Bouchard to help lobby for provincial development to exploit the unexpected huge find. With so many known large deposits of shale gas in countries such as Poland, Germany, France and the U.K. economic strategists are finally waking up to the fact that this monumental new resources could help free Europe from the threat of disruptions from its main natural gas supplier, Russia. Andrew Orlowski reporting for ‘The Register’ (February 10, 2011) reveals Holland has also joined the rush away from green by becoming the first country to abandon the EU-wide target of producing 20 per cent of its domestic power from renewables. The Dutch are now putting their long-term faith in nuclear. Netherland’s only nuclear reactor, the Borssele plant, scheduled for closure by 2003 is now planned to operate at least until 2034. World Bank Joins Rush Away from the Green White Elephant Top line international bankers also appear to be abandoning ‘big green’ according to a report by climate scientist Roger Pielke Jr. who highlights two recent research papers published by influential thinkers inside the World Bank. Economics papers by Robert Mendelsohn and Gokay Saher (here in PDF) and Medelsohn, Kerry Emanuel and Shun Chonabayashi (here in PDF) chop the legs from under the pro-green Stern Review (2007) and affirm that no human impact may be inferred on global climate. With economists plainly joining an increasing number of scientists in global warming skepticism its little wonder there’s now a mass flight away from ‘renewables;’ such that both investors and governments are compelled to follow suit in the clearest indication yet that green energy won’t live up to its promises. The key to long-term economic success now appears to be safely premised once again on solid market innovation, not ideologically driven government subsidies; such subsidized ventures have a long and notorious history as lame duck enterprises. It seems Green renewables' has become the latest of these white elephants."
What a complete retard. Cut and paste junk. Don't be fooled by the junk science being funded by religious organizations. You really can not do anything with folks like this. < sarcasm on > Yes, oil will last forever and ever and humans can continue to use more and more energy. We can make hundreds of billions of people and be just fine. There are NO thermodynamic laws or physical laws or biochemical cycles that must continue to turn in order for life exist < sarcasm off >
All the same, I think I will hedge accordingly. It has made me money so far.
I still chuckle about your take down of Zero Gvt on matters agricultural... Well done.
Well you proved that you can cut and paste...
Here is a question for you and that Zero Gvt twit:
Identify the following
Sum(i=0 to infinity) ( x^i/i! )
I am fairly sure that both of you will fail...
You cannot deal with the facts I've raised, so it's time for math problems instead? Too weird.
I lend zero credence to the crap you posted. Whereas you cannot even recognize the exponential function, let alone comprehend the implications.
.
> Sum(i=0 to infinity) ( x^i/i! )
That is e^x
What is (1/3)+(1/7)+(1/8)+(1/15)+(1/24)+(1/26)+(1/31)+..., where each denominator is one less than a power?
What is (5^1.25/2) * (2/sqrt(5)) * (3/sqrt(10)) * (5/sqrt(25)) * (7/sqrt(50)) * (11/sqrt(120)) * ..., where each radicand is the square of the corresponding prime number in the numerator, but rounded to the nearest multiple of 5?
Come on guys.
Princeton Doctoral Thesis:
2 + 2 = 5
Thank you Dr. Bernanke. You may sit down now.
I'll take a stab at that.
A: What is the Taylor series?
Ah but for what? Please don't spoil the fun, BR and ZG are in over their heads and I intend to twist the knife, mixed metaphorically speaking....
lol, sorry, i'll shut up now. I promised myself I'd stop posting on ZH for a bit unless it was math related. I'm an addict, what can I say?
BR, ZG, can we get an answer? You're starting to attract a crowd!
You would have enjoyed the discussion of Mersenne primes and captcha questions a while back (Apologies if you were there to enjoy)
I've probably solved more PDEs than those two have had hot lunches between them...
Is that you, Gail?