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The Oil Paradox

A worldwide slowdown won't end the oil price boom anytime soon.

 

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Last week brought fresh evidence that the U.S. economy is slowing and may have slipped into recession. The news has not only dimmed expectations for world economic growth, but it has also hammered oil prices, which lost $15 from the $100 high just a month earlier. A year ago, more bullish thoughts lifted oil prices from the $50 level in January 2007. The question on policymakers' lips is whether a worldwide slowdown will bring an end to the boom in demand for oil and drive prices significantly lower. Although oil prices will eventually drop as new sources come online and biofuels and other alternatives take hold, crude price are likely to remain high and volatile for a while.

One reason is that today's oil market is precariously balanced between supply and demand. That's why small wiggles in expectations about how much oil the world economy will need, and how much supply is on hand, cause huge changes in price. Such gyrations explain why companies that are big oil users—such as airlines—owe their fortunes, increasingly, to how they manage their financial exposure to energy prices. Southwest Airlines, for example, is not just efficient in moving customers, but it is particularly notable for a string of good bets to hedge jet-fuel costs.

Oil is also not a normal commodity. A big part of today's high prices—and why they are still nearly double the level of a year ago, despite dark economic news—is that oil beats to backward economics. When the price of soybeans or steel rises reliably, farmers and steel millers boost output, and prices abate. When the price of oil rises, many suppliers do the opposite. This bizarre response comes not from the Organization of Petroleum Exporting Countries (OPEC), which is always in the news, but from the pernicious ways that oil wealth ripples through the societies that have most of the oil.

The most visible and worrisome effect of oil riches is the "resource curse." In poorly governed countries, oil wealth (and any other booty that is easily seized) actually impedes economic development because all politics is a struggle to loot the resource rather than to make long-term invests to improve human welfare. Governments that get easy money from natural resources don't need to rely so much on human productivity, which makes them less accountable to their populations. These factors explain why Venezuela, for example, is in perennial economic trouble despite having some of the world's greatest oil resources on its books. The current run-up in oil prices has allowed Hugo Chavez to bankroll a reckless foreign policy and has taken direct control over the country's oil fields. Having undercut Venezuela's oil company and scared away many of the most competent foreign investors, Venezuela's oil output is actually declining even though today's high oil prices would, in theory, make Venezuela's newest heavy-oil fields much more economically viable.

A similar story is unfolding in many other oil patches. Over the last few years, between 300,000 and 700,000 barrels per day of production in Nigeria has been offline due to local conflicts in the oil-rich Niger Delta, triggered in part by the fact that higher oil prices created stronger conflicts over how to allocate oil riches within Nigeria. Russia has had a harder time attracting investment in its oil fields because oil wealth has given the country a swagger that makes it less in need of outsider assistance.

Higher prices can also cause countries to hold back on oil production. When resources in the ground have greater value and state coffers are already bulging with earnings—this year, oil-exporting countries will earn about $800 billion—countries can afford to stretch their wealth further into the future. Several countries in the Persian Gulf have adopted policies consistent with this new view of depletion; gas-rich Qatar has gone the furthest, putting a moratorium on new gas projects for fear that it is exhausting the country's resources too rapidly.

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  • Posted By: cani77 @ 10/03/2008 10:11:53 PM

    The Bush Depression


    In a few weeks we will make a choice that will decide our future.
    I follow an economist named Bob Proctor. He has called the top and bottom of every market crash since the 70s correctly.
    Also, he perfectly predicted the current real estate market meltdown and the picture he paints about what will happen in the next couple years
    is terrifying.He thinks it will be worse then the great depression.
    The banks in the U.S. are going under one after the other. Countrywide the largest morgage bank in the world,Bear Stearns, Lehman Brothers and Merrill Lynch which are 3 out of the top 5 wall street firms. Also, Fanny and Freddy Mae which hold 50 percent of the home loans in the United States.
    The government took them over because they are essentially bankrupt.If they didn't the entire financially system would virtually shut down, the stock market would crash and we would suffer beyond what any of us have seen before.

    McCain just like Bush " doesn't understand the economy".
    That not just my opinion its his own words. Not only does he not understand how to fix it but he does not understand exactly what is broken.
    It is no surprise that he doesn't. The people that make up these securities use complex mathematical models very few people understand.
    Bush and McCain both can take the credit for this mess since they helped deregulate the laws that were protecting us.

    Bush's economic advisor Phil Graham wrote the deregulation bill that allowed banks to take huge risks with all of our future.
    Now, Phil Graham is the head of McCain's economic policy.He is also McCain's choice for the next secretary of the treasury.
    No one in this country can afford for that to happen. The last time Bush met with his economic advisors was in March. He either didn't care or didn't realize that anything was wrong. Phil Graham had the guts to say that we are in a mental recession after he helped create the worst economy meltdown in our lifetime.
    It will take the best and brightest minds in the world to get us out of this nightmare. As bad as Bush has done, McCain would be
    even more destructive because things are in much worse shape. The next president will not inherit a surplus like Bush did but a tanking economy and a 11,600,000,000,000 (trillion) dollars deficit.Bush created a national debt larger then the first 42 presidents combined
    If you do what you have always done then you will get what you have always got.
    When it comes to policy Bush and McCain are the same 90 percent of the time.
    So why isnt obama 25 points ahead

    The chairman of McCains campaign recently said that people don't vote on issues they vote on a personality composite. Which means he is trying to sell you personality instead of results.

    Let's teach him we are smarter than that .

    31 states are voting now, dont wait
    Elect Obama Biden 2008





    Check out this video of sarah palins interview before you vote



    http://www.youtube.com/watch?v=r36Xc0GG4i

  • Posted By: pezled @ 09/30/2008 7:39:46 AM

    What planet are you living on? There are 3 HUGE natural gas reserves just recently discovered in the Texas (Barnett Shale), Louisiana (Haynesville Shale) and Oklahoma area. Business is booming in those areas for companies connected to Natural gas. We have plenty of Natural gas to go around - no need to import. If you're going to post, at least know what you are talking about........

  • Posted By: wnnr2 @ 08/27/2008 1:08:56 PM

    And here is the final part (4):

    "Investment banks had been frustrated with the established exchange because they really were never able to get control of it," said Michael Greenberger, a law professor at the University of Maryland and a former staff member at the CFTC.

    The most successful of the private platforms was InterContinental Exchange, or ICE, founded by Goldman Sachs, Morgan Stanley and a few other big brokerages in 2000. ICE soon opened a trading platform in London, allowing its founders to trade vast quantities of U.S. oil overseas without being subject to regulation.

    The exemptions for swap dealers and the development of overseas markets allowed big brokerages to open the door for more hedge funds, pensions and big investors to move into commodities.


    In the coming years, commodity investments by funds could grow to $1 trillion, veteran hedge fund manager Michael Masters said in testimony before the Senate earlier this year. In an interview, he said this trend could raise commodity prices for everyone in the coming years and "have catastrophic economic effects on millions of already stressed U.S. consumers."

    Meanwhile, commodities have been good business for big Wall Street brokerages. Its commodity trades helped keep Goldman Sachs profitable during the credit crisis, said Richard Bove, a banking analyst at Ladenburg Thalmann.

    "Business is lousy right now," Bowie said of Goldman Sachs. "Commodities and currencies are clearly the strongest business they have right now."

    In the coming months, swap dealers expect to have yet another venue for oil speculation. The CFTC has stated it would not stand in the way of trading in U.S. oil contracts overseas in Dubai. Goldman Sachs and Vitol are among the major investors in this new exchange.

    © 2008 The Washington Post Company

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