Wayne O’Leary

Bubble, Bubble, Oil and Trouble

This much is clear in the summer of our discontent: Capitalism is out of control. First, there was the Internet bubble, followed by the dot-com collapse. Then, there was the housing bubble, followed by the investment-banking and home-mortgage collapse. Now, there is the oil bubble, which remains subject to the same remorseless gravitational law that dictates what goes up must come down. And there is this corollary to gravity’s immutable law: Don’t be standing below as the descent begins.

Of course, when it comes to oil and its derivative, gasoline, the truth is we’ll all be beneath the bubble when it fizzles out. Americans are going to get it both ways. They’ve been economically battered during the bubble’s inflated ascent by brutal fuel-price increases, and they’ll be hit again when it bursts, if they have the misfortune to be invested, directly or indirectly, in a hedge fund, pension fund, or mutual fund that placed its money in commodity futures.

The public is in the process of receiving an involuntary education in the operation of an unregulated laissez-faire economy; it is about to learn (if it hasn’t already) the truth concerning one of the myths Wall Street and its minions propagate. This is the mystical illusion that, if each individual business interest is allowed to pursue its greed unimpeded, the whole will somehow benefit and the nation will prosper. In reality, the result is more apt to be an endless succession of bursting bubbles and accumulating financial casualties piling up in a kind of national economic charnel house. Some will benefit from the grisly process—the shrewd, the clever, the unscrupulous, the lucky—but most people will find themselves inhabiting a precarious Dickensian world lacking only the dark Satanic mills of legend.

The latest expression of runaway capitalism, the oil bubble, began to form in earnest early last year, when wholesale crude-oil prices, which were $20 per barrel when oilman George W. Bush took office, suddenly went from $50 to $80; they’ve since risen to over $140, roughly doubling in 12 months, before lately leveling off. There are numerous reasons given for the petroleum price spike, and they all have varying degrees of plausibility. Several were outlined in a prior piece on the subject (see “Waist-Deep in the Big Oily,” 12/1/06 TPP) that anticipated current developments. These included industry oligopoly, Mideast instability, OPEC manipulations and the emergence of China. It is becoming obvious, however, that the factor of financial speculation, which drove our earlier economic bubbles, has assumed an outsized role in this latest one as well; it is the common thread running through all three capitalist manias of the past decade.

In a free-for-all economy such as ours, hot money is always looking for an outlet, and profit-seekers are always looking for the quickest way to make a killing. The action is presently in commodities (raw materials), more specifically speculation in commodities futures, which Fortune magazine calls “an awesome investment opportunity.” Foodstuffs (corn, wheat, etc.) are emerging as a booming speculative arena for futures traders—they may form the next bubble—but the immediate focus is on oil. Right now, that’s where the greatest returns are.

Futures trading has been around for quite a while. During the 1990s, news that then-First Lady Hillary Clinton had made money in agricultural futures early in her legal career created a minor sensation. Futures speculation is perfectly legal, however, and it is only with the current fuel crisis that it has been called into serious question. That’s because, prior to 1983, there was no futures market for such a critical necessity as oil. In that year, the New York Mercantile Exchange (NYMEX) created a trading market for crude that has become influential in setting petroleum prices; major oil companies now tie their daily spot-market sales and purchases to the constantly fluctuating NYMEX prices, which in turn are influenced by the activities of financial speculators.

The speculators, whose ranks include investment bankers and hedge-fund managers in search of a lucrative replacement for the crashed securitized-debt market, bet on what the wholesale price of crude will be at some point in the future. Here’s how the system works: Traders buy and sell oil for delivery (or a cash settlement) months in advance. With an eye on the main chance, they gamble on a higher market and bid price levels up beyond anything based on “fundamentals.” In a bubble economy, this creates a psychology of rising prices that then affects oil-company pricing policies, so that consumers end up paying for gasoline at the pump according to what commodity traders expect or hope future crude-oil prices will be. A case in point is that crude sold this past April at twice the level of a year earlier, even though inventories were stable; oil traders had persuaded the futures market that supplies would diminish, justifying preemptively higher prices.

The bottom line is that gasoline is selling for considerably more than it should based on the everyday laws of economics. How much more is the question. Apologists for the market tend to pooh-pooh the whole notion of a speculative impact. To them, it’s tightening supply and demand, Federal Reserve interest rates, the falling dollar, the wasteful habits of energy consumers—anything but the untouchable financial structure itself. But most objective investigators, including industry analysts, conclude that speculation accounts for roughly 20% to 30% of today’s crude-oil price, which is ultimately passed on to the retail consumer. In a recent report, ABC News conservatively estimated the figure at 22%. On that basis, the legitimate per-gallon pump price should be at least a dollar less than at present.

This all begs the question of what to do about rampant speculation in oil futures. Some political figures, notably Sen. Byron Dorgan (D-N.D.), have proposed severely curbing such activity. There is a federal agency, the largely dormant Commodity Futures Trading Commission, charged with applying any such restrictions; it plans only a “confidential” investigation. Congress should go further and outlaw speculative trading in oil altogether. Petroleum consultant Peter Schork, appearing on the PBS NewsHour in June, cautioned that “without the speculator, you would not have a futures market.” Not a bad idea, come to think of it.

Wayne O’Leary is a writer in Orono, Maine. He is the author of two prizewinning books.

From The Progressive Populist, Sept. 1, 2008

Home Page

Subscribe to The Progressive Populist

Copyright © 2008 The Progressive Populist.