Bernanke on oil: It's not the speculators
RUSSPUTIN BLOG
By Rossputin on Energy and Oil
As the stuffed shirts on Capitol Hill fulminate about evil speculators driving up the cost of oil, many of us who understand economics and markets better than politicians do have written about the misguided and dangerous proposals to rein in "speculation" in commodity markets.
Never mind that what the critics are defining as speculation would be called investment in any other scenario, and never mind that the majority of the new "speculative" money is coming from pension funds and other large investment pools simply trying to diversify among asset categories and make the best returns for those people whose financial futures they are entrusted with.
On Tuesday, in both his prepared remarks and in answers to questions from Senators, Federal Reserve Chairman Ben Bernanke offered the best defense of speculators and the best general explanation of oil prices that I've heard from anyone in a position of significant political power.
Following are the highlights of Bernanke's testimony specifically related to oil markets and speculators:
From his prepared remarks:
* The elevated level of overall consumer inflation largely reflects a continued sharp run-up in the prices of many commodities, especially oil but also certain crops and metals. The spot price of West Texas intermediate crude oil soared about 60 percent in 2007 and, thus far this year, has climbed an additional 50 percent or so. The price of oil currently stands at about five times its level toward the beginning of this decade. Our best judgment is that this surge in prices has been driven predominantly by strong growth in underlying demand and tight supply conditions in global oil markets. Over the past several years, the world economy has expanded at its fastest pace in decades, leading to substantial increases in the demand for oil. Moreover, growth has been concentrated in developing and emerging market economies, where energy consumption has been further stimulated by rapid industrialization and by government subsidies that hold down the price of energy faced by ultimate users.
On the supply side, despite sharp increases in prices, the production of oil has risen only slightly in the past few years. Much of the subdued supply response reflects inadequate investment and production shortfalls in politically volatile regions where large portions of the world's oil reserves are located. Additionally, many governments have been tightening their control over oil resources, impeding foreign investment and hindering efforts to boost capacity and production. Finally, sustainable rates of production in some of the more secure and accessible oil fields, such as those in the North Sea, have been declining. In view of these factors, estimates of long- term oil supplies have been marked down in recent months. Long-dated oil futures prices have risen along with spot prices, suggesting that market participants also see oil supply conditions remaining tight for years to come.
The decline in the foreign exchange value of the dollar has also contributed somewhat to the increase in oil prices. The precise size of this effect is difficult to ascertain, as the causal relationships between oil prices and the dollar are complex and run in both directions. However, the price of oil has risen significantly in terms of all major currencies, suggesting that factors other than the dollar, notably shifts in the underlying global demand for and supply of oil, have been the principal drivers of the increase in prices.
Another concern that has been raised is that financial speculation has added markedly to upward pressures on oil prices. Certainly, investor interest in oil and other commodities has increased substantially of late. However, if financial speculation were pushing oil prices above the levels consistent with the fundamentals of supply and demand, we would expect inventories of crude oil and petroleum products to increase as supply rose and demand fell. But in fact, available data on oil inventories show notable declines over the past year. This is not to say that useful steps could not be taken to improve the transparency and functioning of futures markets, only that such steps are unlikely to substantially affect the prices of oil or other commodities in the longer term. *
And from the Q&A:
Question from Senator Tom Carper (D-DE): "The third factor that we keep coming back to is the role that speculation is playing. We've touched on this at least indirectly here today. Just give us some advice. I think we're going to debate -- seriously debate, probably before the beginning of next month, legislation dealing with speculation to try to curb the excesses that may be occurring there. If you could give us some advice, it would be timely and much appreciated."
Bernanke:
Well, I think, as I said, based on the evidence that's available, I would not estimate that speculation or particularly manipulation is a significant part of the rise in oil prices. That said, the CFTC and others are looking at the data and trying to evaluate that. These are very difficult matters. We don't want to do anything that will stop the futures markets from having their legitimate functions, serving their legitimate functions of providing liquidity and hedging.
So, you know, my advice would be to go slow and carefully and to take the insights that you get from the CFTC and others who are directly -- associated directly overseeing these activities. I would -- despite the concerns -- and I fully understand the concerns about high gas prices -- I don't think it's likely that you can have a big effect on gas prices with short-term moves in the futures markets. And I would urge careful and deliberate action in this area.
And a question from Senator Mel Martinez (R-FL): "I wonder if you might dwell just for a moment on the speculation side as to why you don't see that as a fundamental part of the problem, but then also what we could do to be more helpful in the area of transparency and oversight."
Bernanke:
Well, there would be -- there are a number of pieces of evidence against the view that speculation is a primary force. I mention in my testimony the absence of hoarding or inventories that you would expect to see if speculation was driving prices above the supply/demand equilibrium. There are a number of studies which show that there is little or no connection between the open interest taken by noncommercial traders in futures markets and the movement -- subsequent movements in prices. It's also interesting to note that there are many commodities, or at least some commodities, that are not even traded on futures markets, like iron ore, for example, which have had very large increases in prices. So I think the evidence is terribly weak.
That said, I think that transparency in futures markets, information available to the overseer, the CFTC, is a positive thing.
One never knows whether the Senators actually cared about the answers to these questions or whether they are just looking for backup for something they're planning to do no matter what. I hope that Republicans in Congress heed Bernanke's words and recognize that attempts to curtail "speculation" will do far more damage to the most liquid commodity markets in the world, right here in the US, than they will do to lower American's cost of living. |
