The Oil Scam Bubble
Perhaps the biggest danger to free markets, is not oppressive regulation by the government, but the gimmicky players that treat the world markets as a giant ponzi game.
I buy my gas from this dude named Jose. It seems that Jose is as closely attuned to the International petroleum markets as any day trader. When the price of a barrel of oil goes up, Jose immediately raises his prices. These days it goes up daily.
This really doesn't make any sense. When the Shell truck came by a couple of weeks ago it filled Jose's tank, and he was charged a certain amount per gallon. Why is Jose suddenly raising the prices on the gas he already possesses, just because the price of a barrel has gone up on the spot markets?I really don't blame Jose, he is told to do this by Shell, which I am sure has quite a convoluted way of figuring out how much Jose earns on a gallon of gas, and it is never more than two or three cents.
Ever wonder why the oil companies make windfall profits when the price of oil goes up?It is not because they are price fixing, or there is some type of collusion—that is why all the congressional investigations are a waste of time.Actually, if this was the real world, and true market forces were at work, they would not—since they would have to pay more for the raw product which they make their commodities from, and retail demand has not increased sufficiently to fully cover their increased costs.
The thing is when you are dealing with oil, it is not a real world. Part of this is because oil is an inelastic product, which simply means we are petrol junkies, and will pay most any price. The other factor is the way the players play the oil game.
A tanker pulls up at the Port of Ras Tanura, and fills up on crude. On that day perhaps the going rate is $100 a barrel. They then take about two months to chug their way to some refinery on the gulf coast. In the meantime the value of that oil has gone up to $110 a barrel. It is refined and sent out to Jose. By this time a barrel on the commodity markets is going for $115 and this is reflected in Jose's price.
Shell has made a profit, that has nothing to do with demand, or anything spectacular they have done. They are able to charge much more than what they paid for the oil, simply because the hedge fund managers, and other spectaculars, have driven up the price on the commodity markets, between the time they purchased it in Saudi Arabia and I fill up at Jose's pumps. The oil companies and OPEC are just extremely happy passive beneficiaries of the financial predators who think of the market as a casino, only one that is quite easy to game.
These are the same people who ruined the economy playing games with junk securitized mortgage instruments. After the stock market hit the skids, they took their marbles to the commodity markets—driving up the price of food and oil.The way this works is the Sheiks throw their oil on the market, and these players bid up the price of a barrel. They keep bidding against each other, driving the price up, all the time trying to outsmart the competition by determining when is the best time to sell, and pocket their profit.
And now with the Wall Street game being flat , and the intentional inflationary policies of the Federal Reserve, and other Central banks, having created a lot of surplus cash, there are a lot of devalued dollars chasing after barrels of oil.
Now these boys and girls never accept delivery of the oil, it is just a paper game.
It's all pretty disgusting. It is the type of Enronish nonproductive gamesmanship that now passes for capitalism, and which then, in true free market fashion, results in a demand for legislation to control the parasitic economic leeches.How to stop it? I have no idea. However, I think it would be nice if the president at least made a feeble effort like he did in 2006.
But just don't pretend this is about free markets , and it has anything to do with supply and demand.
Labels: Big Oil, economics, free markets, hedge funds, inflation, oil, oil markets, price of gas, speculators
posted by Becky C. at
11:04 PM
12 Comments:
Well if Jose decides to stay in business and replace the gas he sold you he will have to pay the higher price and so on up the chain to the crude dealers and the oil companies. If not, he will soon be out of business and then you might not find a supplier within a mile or two which might be a tad inconvenient until the habit spreads and no one finds it worthwhile to re-fill the tanks.
Just think. If you wanted to move house would you sell yours for what you paid for it or would you want to get enough to buy another one at the current prices?
Anonymous, if the system wasn't gamed, Jose would increase his price when a new batch of gas was delivered which cost him more, the gas he has on hand is not related to the futures market.
It works the same way with the oil purchased upstream by the oil companies. This is why they always make windfall profits in a bubble like this. This bubble is so intense because of the ferocity of the speculators driving it up, and the excess money available because of the monetary policies of the Fed and other Central banks.
Since the dot com era, the securitized mortgages and now oil and food--the economy has been driven by the idea that you can make huge amounts of money by doing and producing nothing of value. It all eventually collapses of course, at great cost to individuals and the economy--but at great profit to those individual players who are not caught carrying the hot potato (such as Bear Stearns).
~Becky
Speculation IS demand. You're not going to find too many economists to agree with you about this. Unless they're "economists".
Speculators take their risks. Sometimes they win, sometimes they lose. It's not gambling, but it definitely IS capitalism- they're using their capital, to buy a product that may or may not be worth more when they sell it.
And capitalism, free markets, and profit are not based on some formula of percentage over what you paid for something, they're based on what the market demand is for that product right now.
Thus if you paid X, and the price now is X-1, you're not likely to be able to continue to sell for X+1. You're going to take a loss. This is no more or less moral than selling for X+2. You charge what the market bears, and your profit margin follows.
You don't normally get to decide before-hand what your profit margin will be and then set prices. This may work for a short time and in some cases, but in a market where you have competition, you charge what the market sets. If the margin isn't enough to be worth your time, you either find a better, more efficient way of doing business, or give up on it. Actually setting what the margin should be is beyond your control.
So Jose is going to and MUST charge what the market will bear NOW, not when he paid for it. Otherwise his profit will be so low as to not be able to pay for the next batch. at this point he would no longer be a "going concern."
And nobody tells Jose the gas station owner what price he has to set. They tell him what he is being charged, and he decides. If he guesses wrong, he loses. Charge too much, and they go to the station down the street. Too little and he has to take out a loan to stay in business, paying interest. Most gas stations only make a couple-few cents/gallon at the pump, because they do enough volume to make it worthwhile, or because they make much highre profit margin off other services, and the gas is just the hook- neurtal to income or even a loss-leader.
Becky, I concur with your analysis and your conclusion. We had similar problems in the 70s when the Saudis created a shortage.
The oil market is as bogus an enterprise and therefore as profitable an enterprise as the illegal drug business.
And there isn't a damn thing we can do about it. In fact our country's adventure in Iraq has made the situation worse and the opportunities for the speculators even more promising.
The oil companies continue to make massive profits regardless of the conditions; which should tell us something, don't you think?
Rich
Oh you guys, you know how much I wish I could agree with you that it is all a free market thing i.e increased demand for oil--but my brain and the facts tell me otherwise. And facts beat ideology every time.
I really don't think demand for oil has increased 50% in the last month.
And if the cause was increased demand, there would be a push to increase output and the supplies would not stay constant.
Now I will agree there is a free market principal at work. There are way too many devalued dollars floating around looking for a place to invest--first it was the junk mortgage scam and now commondities. We can largely thank the intenitonal inflationary policies of the Fed and the other Central banks for that.
There is also the fact that the dollar is shrinking faster than a cheap T shirt. Oil is traded in US dollars. That would seem to account for 10-15% of the most recent price increases.
You are quite right that speculators take a risk--and we want to encourage that--because that is how productive enterpirses are started and perpetuated--and demands created and satisfied.
But all these guys a are doing is playing a paper game, and not creating anything of intrinsic value or doing anything productitve.
And the oil companies are able to ride the margin, and stretch it from the oil fields back into the future to Jose's pumps, and make some pretty decent profits.
However those risk takers also do at times take a hit.The investors finally left with the worthless securitized mortages should (if the government dosen't bail them out) pay a price, and the foolish home owners as well.
Before that some of these players took a hit on the dot com bubble pop--but that was also softened by the Fed, and full redemption was achieved by the introduction of novel financial instruments--primarily the various types of securitized mortgages--made possible by federally sponsored organizations like Fannie Mae, and both government and investors turning a blind eye (or just not caring if your only purpose was to flip the instruments) to the origination of the "security" which the instruments were backed with.
And in the end some of the hedge fund managers will take a hit on the oil bubbble (but because of the nature of commondity futures it will not be anywhere near as devestating as a worthless secured instrument).
I am not denying there is an oil demand component (as well as a longterm global supply issue)--but it is not even 90% the cause of the most recent bubble.
~Becky
Excellent piece. Cuts to the heart of it.
Don't necessarily agree that there isn't price fixing at the pump. Having grown up in a world where competing brands worked hard to maintain the lowest price per gallon - which created some great gas wars - I find it strange all the brands are priced exactly the same.
"Having grown up in a world where competing brands worked hard to maintain the lowest price per gallon - which created some great gas wars - I find it strange all the brands are priced exactly the same."
Large chain retail grocery stores are exactly the same. If the price of bread varies much from one isde of your town to the other, I'd be very surprised.
Becky,
I'm not saying there aren't any unethical business practices, or that government regulation doesn't sometimes make a mockery of free market capitalism.
However, something you seem to ignore is that natural resources are the least of human wealth. Wealth exists mainly as knowledge in our modern world: technology creates wealth that doesn't otherwise exist. Crude oil is not better in it's natural state than a poor lubricant or water-proofing agent. Knowledge has made it useful: the knowledge of refining and all the technologies that make use of it.
Likewise, credit is a source of wealth that otherwise would not exist. the ability to have a currency that is mutually acceptable for exchange, the trust that goes into such a system, the ability to fluidly trade- all these things are wealth, and they are wealth that many places and nations on earth lack. Wealth is created through transactions, not just "stuff" lying around on the ground that we happen to find and exploit. And market speculation is one of those things that are 'created wealth'. Don't be fooled because it is less tangible than oil, or gold: it is nonetheless wealth, for all that it is a creation in the mind of man.
Saudi Arabia, Iraq, Kuwait, all of these places will become even worse pestilential hellholes when their oil wealth runs out, unless we divert them from the path of firewalling their societies from the rest of civilization.
Venezuela is also wasting her wealth. People are starving in one of the world's greatest producers of oil, likewise in the Sudan.
I had placed a comment here yesterday but it's been removed. Not sure it was intentional or deliberate. Let me know.
"other spectaculars"? Oh, other speculators. Those guys have a role too. They spread around the risk in volatile commodities.
But really, Jose's price reflects primarily the prices of the other gas stations in the area. He can try to set the price, but it's too low he runs out of gas and if it's too high, his customers go the other gas stations.
Collectively the gas stations have to charge something over their cost or they will go out of business but the daily price reflects the past, current and expected future prices (and costs) of the gas.
One thing not mentioned here is that the local gas station makes very little off of gas sales. I know one friend who used ot own a gas station. He explained that they make their money in a market where oil prices are in decline, not in times like now.
As for constantly changing the price of gas in line with oil price rises, makes me wonder - if you were to sell some gold jewelry, would you sell it at the market price, or much less, beacause you bought the jewelry when the price was under $300 an ounce? Despite all the marketing, gas is a commodity. Joe gas station can easily sell his tanks dry to the next station who is buying that day at market prices. What do you think is easier, one large sale or many small ones?
You are so spot on with this. If it had to do with supply and demand, then Exxon would not have posted record profits for ANY US company. Your cost goes up, you increase your prices. That's supply and demand.
It's all just gouging until we won't take anymore. I'm not sure how that will happen, but I bet there's a clear rise in online and phone sex operators... Working from home and saving the big bucks.
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