Wednesday, August 10, 2005

Oil and Speculation

Oil Prices Rise Following Mixed Report
Published: August 10, 2005

On Tuesday, the Energy Department slashed its 2005 world oil demand growth forecast by nearly a quarter, mostly resulting from slower-than-expected Chinese growth. World oil demand will grow by 1.7 million barrels a day this year, to 84.2 million barrels a day, the department's statistics arm said. Last month, it forecast growth of 2.2 million barrels a day

The agency data showed a 2.1 million barrel decrease in the nation's supply of gasoline, putting inventories at 203.1 million barrels, or 4 percent below last year.

While oil prices are about 40 percent higher than a year ago, they would need to surpass $90 a barrel to exceed the inflation-adjusted peak set in 1980.

The first item indicates that the price of Crude is actually greater than is to be expected, due mainly to Speculation in Oil (think Hedge Funds). The second item states Government action should be instituted immediately; this Author suggests a 10 gallon maximum purchase limit for All except commercial heavy haulers. The third item shows the lack of astute Economic knowledge. Inflation impact varies across Product, with Price impact heaviest in the necessary components. Energy Inflation impact probably stands as the worst area.

Inflation in Energy has impact which eats up Cash reserves of Commercial enterprise faster than almost any other element, except for primary component Production materials. Industries faced with Product Price inelasticity may require years to equalize Profits again. Industries with high Product Price elasticity will quickly assume unwarranted Profit margins, enticing them to overinvest; distorting a balanced Capital construction picture to the point that excess Production capacity develops in Product Price elastic industries, and lack of Production capacity artificially propels Shortages and undesirable Pricing in inelastic Product Price industries.

The Oil Refining industry faces the later condition today. Previous World Oil consumption generated high Crude Oil prices--remember Crude Oil is the Refining industry's primary Production material. The national Oil Refining industry faces extraordinary Construction Costs due to environmental regulation and Local resistance to Refinery construction. They face underutilized Refining capacity from foreign Competitors, said Supply restricting national Refining capacity to a inelastic Product Pricing schedule. National Refining capacity needs to expand Production capacity, but does not possess the Profits aggregation or Credit capacity to fund this expansion due to the low Marginal rates of their Profits.

What causes the low marginal rates of Oil Refining Profits?

Product Price Inelasticity, high Crude Oil Prices, and Environmental regulation. The first cannot be helped, and the Later should not be altered. The only Salvation comes in lowering Crude Oil prices; it is here that Profits can be generated to fund expansion of Refining capacity. Is it World Oil demand which generates the high Crude Oil prices? No! It is Hedge Fund Speculation which forces Crude Oil pricing up. lgl

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