Will Oil Help Or Hinder the Recovery?

With oil prices on an unprecedented roller-coaster ride over the last year, our senior reporter Matthew Philips caught up with energy guru Dan Yergin, to talk about what effect petro-prices will have on the recovery. See Matthew's piece below:

July 11 marks the one-year anniversary of oil peaking at $147 a barrel. That same month in 2008, global production hit a record high of 74.8 million barrels of crude a day. The talk wasn't if but when we'd see $200 oil. What a difference a year makes. The last 12 months have been among the most volatile ever in the oil markets. As the financial crisis wrecked the economy last fall, oil prices sank like a stone, bottoming at $33 in February and knocking more than 2 million barrels a day out of production. Prices have since recovered, and now hover around $60. But with all those economic "green shoots" of the spring having withered in the summer heat, there's now talk that oil may see another second-half swoon through the end of 2009.

To take stock of what it all means, I spoke with Dr. Daniel Yergin, author of the Prize: The Epic Quest for Oil, Money and Power, and chair of IHS/CERA.

When was the last time we saw this kind of volatility over such a small period of time?

"The last time it was this extreme was back in 1998, when oil fell to $10 a barrel on the back of the Asian financial crisis. Before the end of last year, there had never been a decline of $100 before, because it had never really been above $100 before."

What was your reaction to the huge price runup we saw?

"This time last year, I was scratching my head because it was clear the U.S. was going into a recession and that the price of oil had become disconnected from the reality of the marketplace.

How did that happen?

"A lot of reasons but chiefly, people stopped paying attention to the fundamentals. It's always been the case that when price goes up, demand goes down, even without a recession. But in recent years, it was like people thought that price didn't matter because of the demand that was coming out of India and China. This fueled a mania that was very similar to the housing bubble. People assumed that prices would keep going up. It was a classic bubble."

What's been the biggest ramification of the oil bubble on the U.S. economy?

"I think it's been the impact it had on Detroit. It wasn't Lehman Brothers that killed GM and Chrysler, it was what happened at the gas pump in late 2007 and into 2008. It totally killed the demand for the profitable SUV's they were making. On the flip side, the collapse of prices has essentially been a tax break for people."

What did the steep drop in price do to oil production?

"We're in a period of the long aftershock from the rapid collapse. What that's meant to projects, is that many that had been given the go ahead have been delayed or shut down. Our estimate is that of the 15 million barrels of new net capacity that was supposed to come online between 2008 and 2014, over half of it is at risk of not happening."

There's been a lot of recent talk about reigning in speculation in oil markets. What do you make of that?

"Our group at CERA actually wrote the working paper for Gordon Brown's meeting.

Oil speculation has a big macro effect on the global economy. It's become a financial asset more than any other commodity. Investors seek it as a tool of asset allocation as a way to manage risk. It was supposed to be uncorrelated with stocks and bonds, but recent movement suggests that they are correlated. So what we need is greater transparency in order to first, know the participants, but also as a way of separating out supply and demand factors from investment factors."