Is the price of oil really going to reach $200 a barrel? It seems so implausible, grotesque even, the kind of figure an attention-hungry analyst will publish in order to get talked about. Yet, that was how we felt just last year when the then unthinkable price of $100 a barrel was being predicted and that price has now become reality. So $200 a barrel does not seem quite so sensationalist, it could quite possibly become reality.
What bothers me about it is not so much the possibility that it may happen, but the sheer avalanche of alarmist reporting we have seen of late. Back in the days when I was taught economics, prices were determined by supply and demand. If supply went down or demand went up, prices rose; when the two happened together, prices shot up. Oil, of course, is much more complex than that. The price is determined not just by actual supply and demand but by projections of how the market is heading. Oil being a natural resource, it is finite and we just don’t know how much of it still lies there for us to pump.
For as long as I can remember, there has been talk of oil running out, yet that doomsday date continues to be moved forward. Demand on the other hand is much easier to fathom. Since oil is needed to produce almost everything, economic growth translates into increased demand for oil. When the world economy is growing as it is, with countries such as China and India developing at break-neck speed, demand for oil will be brisk. The more I read up about oil fundamentals, the more I notice that the same conclusions are being made. There is currently enough oil out there. Inventories are at normal levels. Supply is matching demand. But, in the coming years demand is likely to continue to grow while supply will have a harder time matching demand. So why the price hike now?
The word speculation comes to mind. I don’t like speculators, people who buy something today not because they need it but because they think the price will rise and they will be able to sell it higher tomorrow. It artificially inflates markets and introduces instability because prices become determined not by what is actually being bought and sold but by what may be bought and sold in the future. It is gambling by another name. I wouldn’t mind if they were playing just with their own money, but speculators create speculative bubbles, they need to talk markets up in order to make the bucks, and we have seen what happens with speculative bubbles, they blow and blow and then being hot air, they burst, with devastating consequences.
But even I won’t blame it all on speculators. Oil futures are part of the oil market and when all is well they can play a stabilizing role since they can fill the gaps between market surges. And to be fair, if the current price hikes were purely a result of speculative buying, we would see inventories being built up, and that is not the case.
What really makes me angry though is when people blame oil producers for the high price of oil. Take Gordon Brown, the British prime minister for instance, here is a flavor of what he said this week: “It is, as people recognize, a scandal that 40 percent of the world’s oil is controlled by OPEC, that their decisions can restrict the supply of oil to the rest of the world, and that at a time when oil is desperately needed, and supply needs to expand, that OPEC can withhold supply from the market.”
In other words it is all OPEC’s fault. Prices are high because OPEC is withholding supply from the market. And George Bush too has been banging the drum that high prices are all down to OPEC not producing enough. Saudi Arabia kindly increased production by 300,000 barrels a day. Did prices stop rising? Did they heck.
The scandal Mr. Brown, if scandal there is, is not that OPEC is not producing enough but that when you fill up your tank with petrol in Britain, three quarters of what you pay goes to the British tax man. If you want to cut fuel prices, cut fuel taxes, Sir. Not that this would be sound economic policy, but it may make an unpopular prime minister more popular.
The reality is that high oil prices are likely here to stay. We may not see oil hit $200 a barrel but we can certainly expect to see a prolonged period where energy is not cheap, as there is no reason for it to be cheap. In many ways we are now paying the right price for oil, one that reflects its true value. The market will do what market forces are supposed to do: realign supply and demand. Demand will continue to rise in countries where the economy is growing fast enough to cope with increased fuel prices, and demand will flatten in countries with sluggish growth. As for supply, higher prices will make it more attractive to invest in exploration in places where it is now prohibitive or difficult to do so. We’ve not run out of oil, there is no need to panic, but a little more energy efficiency is no bad thing.
