According to many press reports the oil markets were shocked by a surprise release of oil stocks from the US strategic petroleum reserves and the strategic reserves from Japan, Germany, and France, Spain, Italy, and other IEA members.
First off, it is not possible for the purported 60 million barrels (one half coming out of the US) to just flow out easily each day into the markets for the next month. It takes a while to get the oil moving in the pipelines. Then it has to be processed. After that it is transported to where it might be needed. This process could take about two weeks in the US from the reserves stocks in Louisiana to the gas station in New Jersey, for example.
The press is saying this oil is to replace the oil that was lost due to the problems in Libya. It also mentions that the IEA is the only source of stockpiled light, sweet crude that could replace the Libyan oil. If the objective of the release was to replace the Libyan oil then this should have been done when the first oil shocks came out of Libya. The countries most affected by these initial shocks were Italy, Spain, France, and other EU oil consumers. The oil markets did respond by sending tanker traffic in the direction of the most need and to the best prices. The Russians also benefited by exporting more to the EU to make up for Libyan oil.
There really seemed to have been no real shortages in the EU and even in Italy, excepting in the immediate supply shocks that occurred. On or about the same time period there was a big drop off in Japanese demand for oil due to the earthquake and tsunami. Also, for a while OPEC cut back on its supplies and even Saudi Arabia cut back for a while.
Overall, the market adjusted. Yes, oil prices went up. Gasoline prices also went up. The highest percentage of gas price increases was in the US because gasoline in the US is quite cheap compared to the EU, where a huge proportion of their gasoline prices are actually taxes. The price of gasoline in most EU states is far higher than in the US.
Then there was the lopping off of demand that would be expected due to the higher gasoline prices. So that cut back on the price a bit. Then there was the continuing slowdown of many of the EU economies and the slowdown of the US economy. That cut a bit into oil demand.
In other parts of the world, such as in China, oil and gasoline demand continued along at rocket pace. Latin America, the Middle East, and India also saw increases in gasoline demand. Overall, the market adjusted, the prices went up, and there were some economic shocks associated with these price increases. There is no doubt about that. The countries most affected by the increase in the price of oil were mostly the developing and poorer countries in Africa, Southeast Asia, and elsewhere in places that have even heavier reliance on oil than the EU and the US. The poor minibus driver in a major African city was hit a lot harder than the cabbie in New York.
Who were the real winners in the increase in the price of oil?
Those would be the major oil exporters and the multinational oil companies, especially those that make most of their profits from trading the oil rather than in refining it and selling the refined products. The big losers would be the poorer people who pay a larger proportion of their incomes on oil products than the richer people.
Oil prices also affect through complex and lagged mechanisms the price of food, plastics, petrochemicals, and more. Tens of thousands of products are made from oil.
Agriculture uses oil in transporting, harvesting, planting, etc. of their products, but also oil is used in the making of many pesticides and fertilizers (along with natural gas).
So the current slide in the price of oil may see results in the price of food when? If anything it will be minor unless the slide in the price of oil becomes more permanent. And that is highly doubtful given that the strategic oil stocks in the IAE were only meant to be equal to at most 90 days used of oil in each of the IEA countries. After 90 days what happens? Well, the IEA has this covered. They claim there is about 146 days of net imports available in IEA stocks. But how long is that in the overall time periods of oil supply and demand decisions and especially in investment decisions for oil exploration and production? Not much.
But they will not wear down the stocks to lower than 90 days – by law – unless there is an extreme emergency, which there is not. Also, they need to buy back the oil to refill the stocks. So could we have a bunch of governments buying the oil to fill their reserves at higher places and then sometime in the future selling the oil at lower prices? Yes, that is possible.
The US SPR is supposed to have about 727 million barrels in it. Each day about 83 million barrels trades across the world and the US buys about 20 million barrels. That is every day.
The 60 million barrels the IEA and the US are thinking about sending out into the markets will be less than one day’s needs of oil. It will increase supply of the light, sweet for some time, but how long can this be done? So how long can such a shock from the IEA and the US really be a shock? The answers should be loud and clear: not long.
Having 1.6 billion barrels in strategic reserves is not the same as having 100s of billions of barrels in the ground.
The real worry of the IEA is that there could be significant increases in oil demand this summer and this is the time to react to them before the price gets way out of hand. They might just have something there. Maybe…. Then the short run view could just work out. But, even so, the psychology of the market changed a bit today.
These strategic stocks were meant to be short term emergency stocks for dire emergencies. Using these seemingly willy-nilly can ruin the real surprise effect that would be needed in really trying times. Also, some OPEC members can simply cut back on their supplies near to the amount that is going into the market to bring the price back up. Saudi Arabia is saying that it will keep increasing output.
The UAE and Kuwait, also on the other side of the fence from Iran, are also saying they will increase supply. Iran and its supporters in the recent OPEC meeting just might cut back.
This will be important as refinery runs increase over the summer and as oil demand increases even further in China and in Japan as this country tries to build itself back. But what do the other big players to react to this IEA/US shock will determine what the outcome will be. This is far from certain and there could be some embarrassed faces in Paris and Washington if the actual result of this release of oil seems to be an increase in the price of oil.
One of the arguments used by the IEA and Washington is that this release will tend to drop the price of oil and then help the slow world economy jump start itself. That is a real stretch of economic theory and the realities of the world economy, and especially of the EU economies, which face far more difficult and dire financial instabilities from their own profligacy than the price of oil. The biggest economic problems in the EU are not from the price of oil, but from the poor financial management of the governments and some of the major banks in the region. Also, the after effects of the financial scandals and fiascos of the 2005-2010 period do not seem to be over.
This policy of releasing the oil stocks seems to ride on the theory that the recession was caused by the rise in the price of oil, especially in 2008. This makes little sense. The major reason was massive financial turmoil brought on by improper banking practices, poor regulatory controls, and just plain bad financial planning by governments, businesses and households. The increase in the oil price was more pain on the top of the already damaged financial system.
Remember subprime loans, the housing bust, Lehman Brothers, Bear Stearns, the bailouts, and more. Sure, it is very fresh in the minds of those who were harmed by this financial disaster: meaning most people.
Expecting the world economy to bounce back based on a short term release of a fairly small amount of oil for a short term period makes about as much sense as saying the recession was caused by the increasing price of oil mostly.
There are a lot more economic and governmental weaknesses out there that better explain why the US and the EU economies are not moving forward as much as some would like. Non sequitors do not make good policy analysis.
If the price of oil explained most of the world economy then why China, Turkey, India, and others who are not net oil exporters doing so well? Why did these countries bounce back faster from the recession than the US? Could it be that they invested more in business, opened up their economies more, and focused on entrepreneurial and educational development? That is part of the story. Is it because they subsidize their oil products prices? Not really, subsidies in India and China have gone down and the most expensive gasoline in the world may be just in, drum roll please, Istanbul.
Monetary policies and even fiscal policies have been severely weakened by fiscal profligacy and financial skullduggery mixed with investment idiocy. So now some economic thought leaders are looking to change the price of oil to move the world economy.
Ever try to push a string?
(Professor Paul J. Sullivan teaches at Georgetown University in Washington, DC.
First off, it is not possible for the purported 60 million barrels (one half coming out of the US) to just flow out easily each day into the markets for the next month. It takes a while to get the oil moving in the pipelines. Then it has to be processed. After that it is transported to where it might be needed. This process could take about two weeks in the US from the reserves stocks in Louisiana to the gas station in New Jersey, for example.
The press is saying this oil is to replace the oil that was lost due to the problems in Libya. It also mentions that the IEA is the only source of stockpiled light, sweet crude that could replace the Libyan oil. If the objective of the release was to replace the Libyan oil then this should have been done when the first oil shocks came out of Libya. The countries most affected by these initial shocks were Italy, Spain, France, and other EU oil consumers. The oil markets did respond by sending tanker traffic in the direction of the most need and to the best prices. The Russians also benefited by exporting more to the EU to make up for Libyan oil.
There really seemed to have been no real shortages in the EU and even in Italy, excepting in the immediate supply shocks that occurred. On or about the same time period there was a big drop off in Japanese demand for oil due to the earthquake and tsunami. Also, for a while OPEC cut back on its supplies and even Saudi Arabia cut back for a while.
Overall, the market adjusted. Yes, oil prices went up. Gasoline prices also went up. The highest percentage of gas price increases was in the US because gasoline in the US is quite cheap compared to the EU, where a huge proportion of their gasoline prices are actually taxes. The price of gasoline in most EU states is far higher than in the US.
Then there was the lopping off of demand that would be expected due to the higher gasoline prices. So that cut back on the price a bit. Then there was the continuing slowdown of many of the EU economies and the slowdown of the US economy. That cut a bit into oil demand.
In other parts of the world, such as in China, oil and gasoline demand continued along at rocket pace. Latin America, the Middle East, and India also saw increases in gasoline demand. Overall, the market adjusted, the prices went up, and there were some economic shocks associated with these price increases. There is no doubt about that. The countries most affected by the increase in the price of oil were mostly the developing and poorer countries in Africa, Southeast Asia, and elsewhere in places that have even heavier reliance on oil than the EU and the US. The poor minibus driver in a major African city was hit a lot harder than the cabbie in New York.
Who were the real winners in the increase in the price of oil?
Those would be the major oil exporters and the multinational oil companies, especially those that make most of their profits from trading the oil rather than in refining it and selling the refined products. The big losers would be the poorer people who pay a larger proportion of their incomes on oil products than the richer people.
Oil prices also affect through complex and lagged mechanisms the price of food, plastics, petrochemicals, and more. Tens of thousands of products are made from oil.
Agriculture uses oil in transporting, harvesting, planting, etc. of their products, but also oil is used in the making of many pesticides and fertilizers (along with natural gas).
So the current slide in the price of oil may see results in the price of food when? If anything it will be minor unless the slide in the price of oil becomes more permanent. And that is highly doubtful given that the strategic oil stocks in the IAE were only meant to be equal to at most 90 days used of oil in each of the IEA countries. After 90 days what happens? Well, the IEA has this covered. They claim there is about 146 days of net imports available in IEA stocks. But how long is that in the overall time periods of oil supply and demand decisions and especially in investment decisions for oil exploration and production? Not much.
But they will not wear down the stocks to lower than 90 days – by law – unless there is an extreme emergency, which there is not. Also, they need to buy back the oil to refill the stocks. So could we have a bunch of governments buying the oil to fill their reserves at higher places and then sometime in the future selling the oil at lower prices? Yes, that is possible.
The US SPR is supposed to have about 727 million barrels in it. Each day about 83 million barrels trades across the world and the US buys about 20 million barrels. That is every day.
The 60 million barrels the IEA and the US are thinking about sending out into the markets will be less than one day’s needs of oil. It will increase supply of the light, sweet for some time, but how long can this be done? So how long can such a shock from the IEA and the US really be a shock? The answers should be loud and clear: not long.
Having 1.6 billion barrels in strategic reserves is not the same as having 100s of billions of barrels in the ground.
The real worry of the IEA is that there could be significant increases in oil demand this summer and this is the time to react to them before the price gets way out of hand. They might just have something there. Maybe…. Then the short run view could just work out. But, even so, the psychology of the market changed a bit today.
These strategic stocks were meant to be short term emergency stocks for dire emergencies. Using these seemingly willy-nilly can ruin the real surprise effect that would be needed in really trying times. Also, some OPEC members can simply cut back on their supplies near to the amount that is going into the market to bring the price back up. Saudi Arabia is saying that it will keep increasing output.
The UAE and Kuwait, also on the other side of the fence from Iran, are also saying they will increase supply. Iran and its supporters in the recent OPEC meeting just might cut back.
This will be important as refinery runs increase over the summer and as oil demand increases even further in China and in Japan as this country tries to build itself back. But what do the other big players to react to this IEA/US shock will determine what the outcome will be. This is far from certain and there could be some embarrassed faces in Paris and Washington if the actual result of this release of oil seems to be an increase in the price of oil.
One of the arguments used by the IEA and Washington is that this release will tend to drop the price of oil and then help the slow world economy jump start itself. That is a real stretch of economic theory and the realities of the world economy, and especially of the EU economies, which face far more difficult and dire financial instabilities from their own profligacy than the price of oil. The biggest economic problems in the EU are not from the price of oil, but from the poor financial management of the governments and some of the major banks in the region. Also, the after effects of the financial scandals and fiascos of the 2005-2010 period do not seem to be over.
This policy of releasing the oil stocks seems to ride on the theory that the recession was caused by the rise in the price of oil, especially in 2008. This makes little sense. The major reason was massive financial turmoil brought on by improper banking practices, poor regulatory controls, and just plain bad financial planning by governments, businesses and households. The increase in the oil price was more pain on the top of the already damaged financial system.
Remember subprime loans, the housing bust, Lehman Brothers, Bear Stearns, the bailouts, and more. Sure, it is very fresh in the minds of those who were harmed by this financial disaster: meaning most people.
Expecting the world economy to bounce back based on a short term release of a fairly small amount of oil for a short term period makes about as much sense as saying the recession was caused by the increasing price of oil mostly.
There are a lot more economic and governmental weaknesses out there that better explain why the US and the EU economies are not moving forward as much as some would like. Non sequitors do not make good policy analysis.
If the price of oil explained most of the world economy then why China, Turkey, India, and others who are not net oil exporters doing so well? Why did these countries bounce back faster from the recession than the US? Could it be that they invested more in business, opened up their economies more, and focused on entrepreneurial and educational development? That is part of the story. Is it because they subsidize their oil products prices? Not really, subsidies in India and China have gone down and the most expensive gasoline in the world may be just in, drum roll please, Istanbul.
Monetary policies and even fiscal policies have been severely weakened by fiscal profligacy and financial skullduggery mixed with investment idiocy. So now some economic thought leaders are looking to change the price of oil to move the world economy.
Ever try to push a string?
(Professor Paul J. Sullivan teaches at Georgetown University in Washington, DC.
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