Betting on the future generally receives the stamp of immorality when elected officials and consumers come out on the losing end. President Barack Obama and the European Union both recently announced plans to hound evil profiteers. Brussels has pointed its investigators at the arcane credit default swap. Such a instrument, known as a CDS, allows investors to hedge against the inability of a company or country make its payments, so it is basically bankruptcy insurance. The EU's probe is of an antitrust nature and based on suspicions that major banks and services may have colluded to control the CDS market. This seems like an attempt to deflect blame from profligate governments and focus public ire on the always opportune target of the money-grubbing banker.
The U.S. investigation has a similar tone, except oil traders are at the center of government scrutiny. Crude futures have been nudging their highest levels in more than 30 months, and anyone who owns a car or consumes goods transported to market with burnt hydrocarbons has felt the pinch hard. Last month, President Obama once again jumped into the blame game. “The problem is … speculators and people make various bets, and they say, you know what, we think that maybe there's a 20 percent chance that something might happen in the Middle East that might disrupt oil supply, so we're going to bet that oil is going to go up real high. And that spikes up prices significantly.” The next day, Washington unveiled a task force to investigate energy price fraud.
Before vilifying those who trade oil, one must first examine possible underlying causes for rising prices. It's easy for the president to tell consumers – i.e., voters – that all is well in the Levant, but companies that need oil have to factor in political and social upheavals in regions that produce fuel. If more people are betting things will worsen and supply could be reduced, such fears – unfounded or not – spur buying and boost prices. Shoot Osama bin Laden in the face, and prices dip on hopes his death signals declining terrorism and more supply security.
Americans and many Europeans may also be thinking locally when oil markets act globally. Weak growth at home should normally reduce demand and price, but if China is running on all cylinders, slaking its thirst sucks up the excess. Chinese oil demand in the month of March rose nearly 11 percent from last year.
When in doubt, blame Washington, an all-too common global reflex which in this case may not be all wrong. Just ask E. Thomas McClanahan, a writer at the the Kansas City Star newspaper. “If Obama seeks the real roots of this spring of discontent, perhaps he should look across town, toward the tomblike structure housing the Federal Reserve. Inside, Fed Chairman Ben Bernanke probably chuckles every time he hears Obama murmuring about speculators.”
Crude has been priced in American dollars since the first well ran wet in the Pennsylvania backwoods in 1859. For the past couple years, the U.S. virtual printing presses have been creating electronic dollars out of thin air to buy back American debt, making the currency less scarce and therefore less valuable. Bernanke has suggested interest rates will remain near zip for a while, providing little incentive to hold dollar accounts when other currencies offer higher interest rates. This opens up the dollar carry trade, where investors borrow almost free money to buy oil, other commodities, or currencies, driving them even higher.
A comparison of oil prices and the U.S. dollar index – which measures the currency against a basket containing yen, euro and other monies – has shown a strong correlation between greenback weakness and oil strength.
So, Obama may be complaining about a homemade problem. Instead of forming a posse to chase speculators, perhaps he should be chiding Bernanke for devaluing the currency.
Then again, the Oracle of Omaha offers a simpler solution. As investor Warren Buffet told CNBC on Monday, “The real answer to oil prices is to use less oil.”
By. Eric Culp