A complex chain of cause and effect links the Arab world’s turmoil to the health of the world economy

Sir,

This as always is a very reasoned review of the global crude oil economy highlighting the potential outcomes of movements in crude oil prices based around the real economy of supply and demand.

I still feel however, no matter how often you try to play down the role of "speculative trading" in the crude oil markets, by all kinds of statistics, in the short term, say 3 to 12 months, whereas the crude oil prices in the real economy between producers and buyers remains very little changed, in the "crude oil markets and futures exchanges" run by the thousands of speculative crude oil traders based in banks, hedge funds and the energy industry itself, have to be the primary cause of dramatic movements in price, up and down.

In terms of the real economy therefore, when these speculative oil traders are in their "Up Mode" the cost to the real economy, particularly in the developed countries, is far greater than the so called economists forecast(of 0.2/4%?) here, as indeed you mention.

My own view, having been in the crude oil industry (and indeed in the treasury side of banks) since 1965 and an observer in the last decade or so, but of course not really an expert, is that in the last decade, dramatic crude oil price "up" movements (by between 50 / 100% of the movement from a base of say $80 per barrel) are driven by the trading activities of the speculators hiding behind their institutions, which at times, like in 2008 and again probably now, will again cause real harm to civil society in their political economies, with very little action from the authorities to curb these highly morally currupt speculative trading activites which are always put aside, with real apologies from myself for the critque, by reasoned arguments, such as your own, and by so called other quantitative statistics and economic policy experts.

Why are all the good articles in the "Politics" category? Even the price of oil is a political issue. Where are the business leaders?

1979 was a scary time. Governments and corporations became intertwined and dependent on each other. Today is no different in the realm of oil. It would be a disaster if events continued to escalate and effected bigger oil producers' output, but it would be one dimensional to suggest that the outcome would come anywhere close to that of the embargo in terms of the failure of an industry.

At that time, a UNITED (I capitalize to stress the discrepancy) front used their resources as a bargaining chip to further their interests. Today, the region (and OPEC) couldn't be more fragmented. One country breaks stride and decides to increase production, another needs to increase price to catch up, and all the rest take measures they see fit to remain relevant in the rat race. The industry is a well oiled machine (pun semi-intended) at this point, and complete failure doesn't seem likely. And that is conceding that the situation in the region will threaten the Saudi Arabias and Kuwaits (which is still unfathomable). Let's not get ahead of ourselves.

So what exactly is driving the current rise in oil prices? Is it a supply problem? The article itself notes that Saudi Arabia still has spare production capacity that could be brought online, as in 2008; and what about reports from the IEA that its member countries could bring 4 million b/d to market for up to a year? The article also mentions dramatic rises in demand over the last year, but has demand yet matched available supply? Or is it the volatility and uncertainty surrounding the recent political developments in North Africa and the Middle East which are most influencing prices?

The article does a very, very good job of explaining the various influences on oil prices, but it doesn't present a clear picture of what is the primary driver behind these increases. Or is it realistic to even ask if there is a clear-cut explanation?

I see oil as a classic case of sentiment driven commodity than a pure play demand-supply model. Its supply is limited, atleast with all the easy oil now assumed to be explored, and any unexpected disruption would cause disproportionate volatility the world over.

While fuel efficient technology, be it automobile or manufacturing, and increasing use of natural gas and upcoming shale gas usage have been touted as the reasons to keep a lid on oil prices in the long run, EMs' reliance on oil and their increasing intensity cant be ruled out. Any attempt to keep the oil usage limited remains far dated.

I liked the argument on demand led spike and this would happen as the cycle improves.

The spare capacity may provide some cushion in the short term but it is the sentiment which causes sell off in the equities and so the correction in emerging market equities. Remember even the mammoths like Exxon Mobil are finding it tougher to replace oil reserves now and particularly in India/China where pricing and not innovation is the key for topline numbers, such unexpected oil price hikes could dampen the earnings of companies quickly.

Geopolitical issues in MENA will keep the market at unrest and traders/speculators jittery. Any assurance to release the latent capacity should take time to allay the escalated prices. Expect oil price volatility and more doom sayers in the coming weeks.

Overall I find oil economics quite complex to understand. A fine reading in the current phase might provide some more cues.

Also anyone on what does the divergenece between WTI and Brent crude imply? Which one is leading or lagging out of the two?

Thanks

There is no doubt that the Arab unrest may effect the world economy but to my opinion a lot
will depend from how,in particular the West, is reacting and will react.For the time being the first reactions are not wise at all.The West has and must forget old methods.Speaking cautiously and act even more cautiously.The West can certainly offer its knowledge and services to the Arab World on a give and take basis and on an equal level.It has to restore the Arabs confidence with facts proving to them that its approach has radically changed.

Arab unrest will continue until the peoples' demands for freedom and dignity are realized. In the meantime the global economy is transitioning away from fossil fuels at a rate not sufficient to offset supply disruptions. Oil speculators may end up causing a global crisis with oil close to $200 a barrel.

Demand for oil and gas over the next few decades will only increase; and if during this period Arab unrest is replaced by economic expansion, political reform and positive contributions to the global economy the upside and long term stability of the region will offer great opportunities to companies from around the globe.

Perhaps the one good thing that can be said about sustained high oil prices is that if consumers expect oil prices to be high for sustained lengths of time, then this will hopefully encourage them to invest in more oil-efficient vehicles and other items, the same holds true for companies. I would suspect that even at present we are not transitioning away from oil fast enough to keep pace with (probable) decreasing supply so calls for governments to 'stabilise' fuel prices are a bad idea because the short term pain might be bad, but nowhere near as bad as another crisis 10 or 20 years down the like when there is literally not enough oil and we are still as dependant as we are today. I can only hope that politicians decide to take the right action and ignore the political gains in subsidising fuel because to do so would be disastrous for the rich world in the coming decades.

This article is a proof of the tiny relation between political stability and economic stability...and since there is no guarantees in the political world....For many reasons ...the world’s economy suffering from such kind of “slavery” to the oil still unstable and under threats ...it is time to think seriously about renewable energy not only to stop rising the warm of the globe but to stop rising the price of our food...

The US is as addicted to oil as a junkie is to heroin. As long as the Republican Party retains its split personality, this situation is unfortunately unlikely to change.

On the one hand, Republicans are hawkish on matters of foreign policy and national security, and hold zero tolerance views when it comes to addictions.

At the same time they blindly support big business's myopia when it comes to America's energy policy. The Americans who benefit most from its superpower status (Wall Street and the country's major international corporations)are unwilling to spend a penny to reduce and eventually eliminate America's addiction to oil, the greatest threat to its remaining the world's preeminent superpower. The same party that think tax dollars are better spent on prisons for addicts than schools, infrastructure and a rational energy policy designed to eliminate or at least significantly reduce oil consumption within a generation by funding efforts to transform its economy to solar, wind, wave and other non-polluting sustainable energy sources.

Alas, this is unlikely to happen, unless the American public wises up, and sends the Republicans to political rehab, until they are able to overcome their addiction and the hypocrisy it breeds.

Crude Oil is the most correlated Proxy to Geopolitical Risk. We have entered a 'New Normal' across the North African Arc and right upto the very Doorstep of the House of Saud. There an 85 Year Old King is set to replay King Canute in the Year 2011. Crude Prices even now have a One Way Bet Look about them.
Aly-Khan Satchu
Nairobi
http://www.rich.co.ke

Hurray for Canuk !!!!

Down with corrupt speculative trading practices which feed like a virus upon capitalism.

heated

please check out http://www.islamicsolutions.com/liberty-is-key-to-identity-in-middle-east/

Gamesmith94134: Bubbles, oil & troubles: How rising prices threaten the global recovery

Most economist are waiting on the clearance to the answers to the present escalating prices, everyone blames on the oil, gold, and others. Since the emerging market nations like China, Australia have already taking the anti-inflationary measures from raising the interest rates to quantities controls onward the inflow of the money supplies or expenditures.
As in the production on oil to the pricing, the argument would lays upon the producers and the refineries, plus the devaluation on dollars and Euros. The problem of inflation could evolve itself on the growth on the global economy. It is not what the market can respond by bidding on the higher; the government must restrain the up-ward spiral to infinite.
I did not see the shortage of supply on oil if the price is right in the settlement on the producer and refineries; and they should see the side-effect on inflation and QE that everyone suffers. Also, the recent data shown the ETF and major funds did not rise significantly during the Middle-East up-rising, and there are some renegades funding are running off with the unease officials from the troubled areas,or those returning from the scrutiny of the China or more restricted areas. Actually, the funds did not accumulated as expected on pushing the price upward.
Probably, there is a three-months test drive on the inflationary and the political resolution to the Middle-east; I hope the Fed is getting deep into the issues on the devaluation of dollar and stop further run off. And, our States department or Mr. Obama can offer the smoother transition to the democracy and authoritarianism ends.
To-day, gold at $1430 and oil at $104 may not be over-priced if the current issues are not being taken care of. If the Fed continues to flash on the green light on devaluation of dollar to prompt growth, we may have a good time to halt inflation and the global economy is good to look good on paper—just looking at the numbers. It will recover or even unemployment grows.
May the Buddha bless you?

@Canuk
Sir,

Please reveiw the comments I had made under the Article "Oil Shock 2011" appearing in the same issue of The Economist.

It is time, the 'leaders' of all the countires on this planet, should realize the 'persons' or the present 'international banking system' that is driving this speculative 'future trading in commodities', before pointing fingers at OPEC or any other countries, for this uncontrolled inflation of basic necessities of life.

The world has been trading oil for decades. However, only in recent years we started to hear of large swings in oil prices over shorter periods. I do not believe the issue is of oil supply versus demand. It is more of traders applying algorithmic trading techniques in a market that bankrolls them with billions of speculative dollars. Market regulators ought to pay better atention; otherwise the world will go through an “oil crunch” in the short term just like the “credit crunch” we witnessed! Nevertheless, on the long term, there are genuine concerns regarding the production capabilities of older oil wells “Peak Oil Theory”, and the environmental capacity to absorb fossil fuel outputs. However, the biggest surprise yet to come is when the world realizes that only, Iraq, Nigeria, and Angola will be the only producers of oil in few decades. How will we price fear then?

"James Hamilton, of the University of California, San Diego, has identified numerous periods since the late 19th century in America when an abrupt rise in the price of oil or petrol coincided with recession. Many of these were caused not by an interrupted supply, but by demand growth colliding with unresponsive supply. That seems to explain the price spike above $140 in mid-2008."

I share the opinion of Canuk. I have written a 100-page study about the oil price spike of crude oil in 2008. I have proven econometrically that there was a significant impact of the high nervous financial markets on the oil and commodity markets. In those months the oil market was well supplied. There was no need to raise the production. The collapse of the oil price some weeks after the collapse of Lehman was a sign. The increase of open interest and the increase of cash flows into the energy derivatives was a try to get a profit of the conjuncture. There was a panic sell off (delevaraging) and the traders closed the speculative positions by shorting the positions.

If you want you can read my work. It is called "Volatility Trasnmission between Financial and Oil Markets" published by University of Potsdam, Germany