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TMFAleph1 (95.15)

$100/ Barrel, the U.S. Economy and Ben Bernanke

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September 29, 2007 – Comments (4)

4:04PM

My copy of Barron’s didn’t show up today, so I had to make do with the weekend edition of the Journal. Bonus! There was a very interesting article dealing with speculative economics, in this case how the U.S. economy would handle $100/ barrel oil. With oil currently above $80, this is hardly science fiction.

The authors conclude that the economy would probably adapt to that price level much better than it did in 1980, the time at which oil hit an all-time high ($101 in inflation-adjusted terms). However, there are two conditions that are necessary for a benign economic state under the “century barrel”: one, that the rise to $100 takes place gradually, not suddenly. Two, oil producing nations must re-invest a share of their profits in the United States. Both of these conditions appear to be met at this time (for the second condition, witness the acquisitive instincts of Dubai and Qatar in their pursuit of Nasdaq/ London Stock Exchange).

Another interesting point that the article reveals is that one of the causes of the economic turmoil provoked by the 3 oil shocks that occurred since 1980 lies not with the price of oil itself, but with the Fed’s overreactions in cutting interest rates. Thankfully, this was revealed by an economist who looked at the question in some detail. His name? Dr. Ben Bernanke.

Enjoy your weekend!

 

Total: 227 words

Time: 10.5 minutes (w/o spellcheck)

*** The above text was written (and spell-checked) in ten minutes. As a result, some of it may not stand up to rational scrutiny. I apologize preemptively for any errors, omissions and misrepresentations. ***

 

4 Comments – Post Your Own

#1) On September 29, 2007 at 7:36 PM, TMFAleph1 (95.15) wrote:

Interestingly, when Arjun Murti of Goldman Sachs issued a report in March 2005 in which he predicted that the price of oil could reach $105/ barrel, it was a controversial call that roiled the market (CEO Hank Paulson felt it necessary to defend Murti's integrity at Goldman's shareholder meeting a week later). In the report, Murti wrote:

"Oil markets may have entered the early stages of what we have referred to as a 'super spike' period," resulting in "a multi-year trading band of oil prices high enough to meaningfully reduce energy consumption and recreate a spare capacity cushion only after which will lower prices return."

Well, he did qualify that it was the "early stages" of the 'super spike' period, after all. Whether a lucky fluke or a prescient call, Murti's prediction could very well come to pass.

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#2) On September 29, 2007 at 8:34 PM, nuf2bdangrus (< 20) wrote:

To fully understand and predict the price of oil requires that we take a step away and look at the larger picture, because oil does not behave as any other commodity.  The reasons are as follows:

 

1)  Economics-supply and demand-this is the only normal influence that affects price.  Demand is triggered by economic growth, i.e. consumption.  In an economy build on oil, it is reasonably easy to predict future peices based on ECONOMIC indicators.  These are gradual, and give markets time to respond. If the price rises, people conserve, either via technological improvements (mileage etc) or by reduced consumption.  This mitigates shocks on the overal economy.

 

2)  Politics:  Oil is inherently political, in that much of the easy access supply comes from places of political instability, Saudi Arabia, IRaq, Russia, Nigeria, Venezuela.  Middle  East wars in the 1970's are a perfect example of price shock wreaking havok on an economy.  A major vulnerability of the US economy was the willful blindness of the need to have an energy policy that recognised this and laid a groundwork for gradual energy independance.

 

3)  Currency.  Over 20 years ago, the US dollar replaced thepound sterling as the currency that is used to buy and sell oil.  This, oil prices  are also connected to currency values that have no relation to supply and demand of oil itself, but rather, a by product of US fiscal and monetary policy.

 

4)  monopolistic-OPEC.  A cartel, in effect, that seeks to maintain a moat on the goose that laid the golden egg, by deliberately managing supply and demand outside of normal economic factors in an attempt to prevent the world (read US)from taking steps to diversify its energy resources.  Brazil is energy independant.  France obtains 80% of it's electricity from nuclear power.  The US, for a variety of domestic political purposes, i.e. a very cozy alliance between petro producers and congress have thwarted any meaningful policy steps to do the sensible thing-which would have been to subsidize in the name of national interest innovative efforts use coal, NG, solar, nuclear, and wind energy as meaningful alternatives.  Their argument has always been, "let the free markets do it", i.e. when the price of oil becomes high enough to allow these alternatives to economically exist on their own, then it will happen.  The problem with that rationale, is that oil has NEVER been allowed to price itself on the basic economic fundamentals of supply and demand, and never will.

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#3) On September 29, 2007 at 11:27 PM, TMFAleph1 (95.15) wrote:

nuf2bdangrus, 

Thanks for your comment. As you point out, oil is an unusual asset, the price of which depends on a number of different factors (particularly in the short-term). However, I think the rapid rise of major developing states is ushering in a period in which supply and demand is asserting itself as the preponderant factor in determining the price the barrel.

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#4) On September 30, 2007 at 1:53 AM, HistoricalPEGuy (64.40) wrote:

Oil is in a sweet spot, that's for sure.  Good news, you don't need to predict the price of it, just know that its in the sweet spot.  $60, $80, $105 - who cares.  Its a dream position for oil services and drillers.  I would stay away from the XOM, COP, etc.  The higher prices will actually squeeze margins from this group as the end users begin to refuse to pay the high prices.  XOM and COP will gladly reduce margins to maintain volume.

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