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Occam's Oil
Submitted by Jeffrey Snider via Alhambra Partners,
As my colleague Joe Calhoun continually reminds us, everything that happens has happened before. The ongoing “struggle” to define what is driving crude oil prices lower is perhaps another instance of a past “cycle” being reborn. With oil prices now heading much closer to the $40’s than the $60’s, consistent commentary is increasingly swept aside.
The move in crude these past six months is now nothing short of astounding. At about $52 current prices (which will probably move in either direction significantly by the time this is posted) the collapse from the recent peak now equals only past, significant global recessions under the oil regime that began in the mid-1980’s.
That comparison includes the 1997-98 Asian “flu” episode where the mainstream convention was also totally convinced of only massive oversupply defining price action. This was incorporated even into the International Energy Agency’s (IEA) estimates of oil inventories, as described shortly thereafter by certain incredulous oil observers:
Fourteen months have passed since the International Energy Agency’s oil analysts alerted the world to the mystery of the “missing barrels.” This new term referred to the discrepancy between the “well-documented” imbalance between supply and demand for oil and the lack of any stock build in the industrialized world’s petroleum supply. In April last year [1998], the IEA’s “missing supply” totaled only 170 million barrels. At the time, the IEA described this odd situation an “arithmetic mystery,” but assured us that these missing barrels would soon show up. As months passed by, stock revisions occasionally too place, but often in the wrong direction. Rather than shrink, the amount of “missing barrels” grew by epochal proportions.
By the publication date of the IEA’s April 1999 Oil Market Report, the unaccounted for crude needed to confirm the IEA’s extremely bearish views of massive oversupply of oil throughout 1997 and 1998 ballooned to an astonishing 647 million barrels of oil. Two months later, the IEA’s June report still presumes that 510 million barrels of oil is still “missing”, and the IEA has officially opined that it all resides in the un-traded storage facilities in the developing countries of the world.
As the author of that analysis points out in another piece, those “un-traded storage facilities” being blamed were sometimes ridiculous notions, such as “slow-steaming tankers”, South African coal mines or even Swedish salt domes. In other words, the idea that there was this massive oversupply of oil production driving the almost 60% collapse in global crude prices in 1997 and 1998 was total bunk. Instead, what was driving prices lower was the simple fact of supply and demand balancing to achieve a physical clearing price.
That meant, in the broader context far and away from Swedish salt domes, the price of oil was really trading on the collapse in global demand for it. The Asian “flu” was not simply a financial panic among “unimportant”, far-flung isolated economies of tiny nations, but rather a global slowdown across nearly every economy – to which sharply lower oil prices simply confirmed. Despite commentary of the dot-com bubble era, the US was not unaffected which is why Alan Greenspan’s FOMC cut the federal funds target rate from 5.5% to 4.75% between August and November 1998; a rather significant “stimulus.”
As if that was not enough of a parallel, there was also the “Saudi connection” then as now. Many respected observers put forth the notion, as they have in recent months, that the Saudis were behind the price collapse, or were using it to their advantage, seeking to squeeze out new producers. Back in the mid-1990’s that meant more expensive areas in Africa and new production capacity of the North Sea. The Economist published that idea in a March 1999 article titled, Drowning in Oil:
But low prices will gradually put most such areas out of business—especially if cash-strapped Gulf states conclude that the best way to increase revenues is to boost production, which could drive prices from today’s $10 to as little as $5 (see article). The world will then again depend on a few Middle Eastern countries for half its oil, up from a quarter now.
And so today, the Saudis are supposedly up to the same tricks, now trying to drive US shale production out of business. The fact that all those increased marginal suppliers more than survived the Asia flu tells you everything you need to know about this wild assertion of “intentional” Saudi action. It is a convoluted rumor that survives solely because it is convenient to those economists and commentators that refuse to accept these more basic connections.
That leaves us basically once more in the hands of Occam’s Razor, namely that oil prices are falling hard because demand is falling hard. The scale gives us insight into the nature of the slowing of the global economy, to which the US is a full part, meaning that comparisons only with past and serious downslopes is not a welcome development; nor should it be “unexpected.” Mainstream commentary seeks to reject this simple and basic argument because it cannot fathom, predicated on its penchant for nothing but parroting economic “authority”, that the world could fall so deeply into recession once more drowning not just in oil but also “stimulus.” Once you get past the idea that “stimulus” isn’t, logical sense is restored.
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Prices and demand are not linearly related. A 50% reduction in price doesn't mean a 50% reduction in demand. Price drops until the buyer buys. It may only be a 1% reduction in demand. 1% of 90 million is still a lot of barrels.
What's happening is some "marginal" economic activities are being halted. Someone has said "I can't afford this at these prices" and stopped working. Demand destruction in action.
All things being equal, a reduction in price results in an increase in demand. An increase in production reduces price until demand rises.
I don't think this affects your point, though. I get what you are saying.
It's not 6 months...look at the Baltic Dry index, it's been going down since 2008, and has been volatile since '04. Orders are not coming in, because economies have been slowing. It takes awhile for this to filter to the oil markets, and existing inventories would be depleted before you start to see price declines for real...
The Baltic tells you that there is less demand, they ship stuff that has been ordered by the markets. So you will see lower prices all up the food chain, but it does take a little time.
But Baltic down for 6 years means things have been slowing longer than 6 years, the slowdown/problems were already happening when the market tanked.
Commodities are simply attempting to return to a supply and demand market. No one is supposed to talk about decreased demand as a result of the consumer being sucked dry from massive QE and its consequences. Bought a new truck in June with the biggest engine I could find thinking this would happen. Peak oil, global warming, TBTF, QE, rising employment, if you like your doctor, you can keep your doctor, North Kora hacked Sony, and I'll just stick the head of it in. What do they all have in common and you'll basically understand macro economics.
"supply and demand balancing to achieve a physical clearing price."
Lots of people ask what would happen if oil and demand really did come down to the price discovery of delivery price.
We know in America that wages since 2008, real wages, are down around 10%. Yet the stock market soared, housing had a recovery of sorts, autos sold like hot cakes, and unemployment fell. This falling unemployment should have pressured wages up as labor tightened, but nope! Didn't happen, wages are still under downward pressure.
The economy is 70+% consumer spending. The consumer has lost income for 6 years. Yet he fueled housing, autos and a giant education bubble. All on falling wages.
Fuck! I agree, oil is under downward pressure from lack of demand. the EU is a sick man, and Greece is another infection, while the demand that the EU now support 40 million unemployed Ukrainians with billions of free money is like a cancer. Italy is in deep recession. The UK is one of earth's most in debt nations and fully engaged in money printing. France will approach a crisis point inside 2.5 years. Germany has just lost Europes largest number of consumers, the 150 million import hungry Russians. Does that indicate future growth prospects for Germany? Japan is one of the world top 5 economies in GDP, they are in deep crisis, and should shrink economically from here on in. China is cooling, and will never reheat to where it was when 10% a year growth was common.
All this says Demand Down.
Please, there are still 7+ billion people (and growing) on this rock competing for a better quality of life and all the calories and commodity chemicals that make that possible.
Guess where those calories and commodity chemicals come from? There is plenty of demand Jack.
All prices are determined at the margin. Some people can afford it. Some can't. The ones who determine price can't afford it today. Maybe they will be able to tomorrow at the lower price.
LOL! their wages certainly don't suggest that "they" will be able to afford much of anything.
The better quality of life they seek may not involve Western-style consumption patterns.
Bingo.^
Your analysis is dead on jack...
Many may not agree with you as they are merican centric. The sun revolves around the usa from economics to global warming. It could be freezing in most of the world but if it's warm in merica than we have global warming.
The world will shortly end, or perhaps already has.
Tadawul All Shares Index (TASI) :: Saudi Arabia Exchange
http://www.bloomberg.com/quote/SASEIDX:IND
*1 yr. chart tells the doom and gloom of a falling-knife?
But, but, recovery! They told me so.
Economies tweaked and adjusted by economists is like being wheeled into an operating room for brain surgery only to see a group of chimps in operating gowns sticking their fingers up their asses; now how would you feel about that?....
Many a different take on the reason for the crash in the oil price here abouts, some better than others. The price drop is a human precipitated event producing winners and losers so whoever the parties are behind this event they must have done calculations of all the permutations resulting. The only party capable of strategically affecting price or allowing such actions is the USA. This event orchestrated by the USA is a two birds with one stone affair. The first bird is against the Russian and other assorted enemies economies and in favour of the EU's, which has taken a hit supporting "US" economic warfare. The second is purely economics driven in that lower energy costs of that which drives western civilization might translate into needed growth in an overall gamble to aid the collapsing western economic situation? Whether this gambit will be successful or not remains to be seen
"might translate into needed growth in an overall gamble to aid the collapsing western economic situation? Whether this gambit will be successful or not remains to be seen"
That's like saying that the prospect of success in switching from a pint glass to a bucket in bailing out the Titantic remains to be seen... The ship is going down, and there's no stopping it. The good news for the new year is that there is a wonderful life after the pain when we throw off the shackles of big government and contrived markets.
Happy New Year!
You'd never have thought that the DOMINANT country that INVENTED the oil economy now finds its economy hamstrung by a feudal obscurantist monarchy that IT helped create and then spoon-fed for all these years as Pardners in crony oil surplus value bonanza.
It was SUPPOSED to be their OWN backyard game of shits and skittles to bemuse/confuse the world into awe and respect for petrodollar's hegemony bestriding like a colossus the world economy on borrowed legs. But invention does not mean ownership ad vitam aeternem.
Well, those shits and skittles games with pardner have now developed the teeth of barracuda and the bite back of spoilt spoon-fed surrogate on Dominatus's fracked bum is now something awesome (apart from the global financial mayhem it also generates for a world addicted to permanent debt).
That is how the cookie crumbles when the rumble in the jungle gets out of hand.
When you think you own the whole shooting match inside out you forget Heraclitus's wisdom : there is only one thing that is certain in life apart from death, that's change.
And change is now coming for Pax Americana games in the global coliseum.
Agreed, the entire world played along. Many folks were bought and paid for, Some were murdered on park benches and some disappeared.
Change is coming that much is a garunttee. The key to survival keep following the money, stay debt free and watch for a junk bond contagion.
Tomorrow the US markets are open.
We can start to see where all the QE went for the last 6 years, speculatively driving which markets.
The longer QE is gone, the more the tide will recede.
Bullish in about 4 more weeks
The price of oil hasn't got down because of lower demand. The prices do not go down because of that. They'd normally rather cut production than lower prices, and BTW, in Europe, the gasoline prices for consumers have only got down by 0,54%, tops - not even 1%!
So, there is a reason, but what?
A combination of factors both economic and geo-politic :
1° Saud as swing producer is trying to corner the market, whence no let up in production.
2° China, as main consumer outside USA/EU, power house of consumption, will be cutting back. The financial deflation signals that and those in the KNOW think ahead; aka the speculative oil traders who want to short now those who are overexposed on the long side. (It is a dog eat dog world, especially amongst moneyed Oligarchs, all betting on market pumped on borrowed money in the commodity/Derivatives casino).
3° Europe will be consuming less at 100$/bbl. As the deflation will tighten consumption in EU. The market anticpates this and responds by following the price deflation at pump.
Lower anticipated demand worldwide at the higher price level as the market makes demand and supply in an Oligarchy market. Consumers are now just fragile entities who follow the trends. Consumer power is getting weaker by the day as the welfare state collapses in first world.
The whole global game is now controlled by a few key players, panicking as their margins dissolve and debt explodes.
Their ability to pump the Reaganomics FIRE economy, the flagship of supply side house of cards, is now compromised; except in some hi-market niche locations like London housing and Apple stock.
I agree on the first part. Price will not go down because of demand. But second part is not logical. Cutting production will not help in situation where nobody has the money to buy oil at the high price. And since oil is bought in US dollars, the guy who control the price of Oil is actually..... yes.
If we could learn anything from all this is that. Money prinitng does increase inflation. One way or the other.
Those who printed money directed the money towards a product that they could access and control. That is Saudi Oil under the petrodollar terms. They were playing masters of the Universe.
But then, Russia and other producers also benefitted. It happens.
US is now trying to remove the benefits. After all it controls money supply. It has the power to choose which BS assets can be used to print money anyway. Since it also controls the rating agencies.
US has stopped printing money for a while. It can afford to since it already printed and stocked up for the future. Supposedly all corporations are awash with cash. Europe has been stocking up gas in undergroud storage at maximum capacity also supporting this war against Russia.
So, there you go, in the end it is all about Russia and money. Not supply and demand for oil. or cutting production.
Oh, so this isn't all about Hammering Russia??? Apparently not, since I didn't even see a mention of Russia in a post on the first page
Russia bought 300 tonns of gold for a reason and china has been doing the same.
Call it weathering the storm. But from where I sit we( the US) may be over playing our (Bluff ) pair of duces.
Against a full house of gold.
pair of deuces? the usa is bluffing with a busted straight 9 high.
Short term, the supply of oil is inelastic. That is not the case with demand. Demand can dry up overnight. Commodity prices are much harder to manipulate for any length of time than equities. Chances are very good that demand has suddenly dried up, even if the oil market is constantly tampered with.
Common Sense Economics http://quillian.net/blog/