The Changing Game of Oil

Up until 2009, the oil blame game began just before Memorial Day in the US. Politicians would line up to paint oil companies as greedy price fixers, jacking up the price of gasoline before the summer driving season. What a difference a year makes.

Politicians being what they were (and still are), chose not to acknowledge that increased demand for a scarce resource leads to increased price. Most of us older than 4 understand patterns. Summer is when Americans drive the most. Thus the increased demand for gasoline and the increased price.

However, in the 2009 global recession, the price of oil is less than half of its 2008 record ($145 bbl). Why has the price fallen so much? Because oil is a leading economic indicator, meaning that its market price is a prediction of demand one month in the future. The market correctly believed(s) that the global economy would tank.

Oil prices have fallen since last year, down as low as $34, then settling in to the $70s, as of 08 July 2009, it is down in the lower $60s. Obviously, the case for price fixing is quite flimsy, or so it would seem. How’s your credit score? 0-600 Poor, 601-680 Fair, 700-774 Good, 775+ Excellent. Find out your Score now FREE!

While we aren't hearing the usual cast of characters demanding ExxonMobil and Chevron's chairmen explain why gas is more expensive, we are hearing cries of "Speculation!"

In the 08 July 2009 edition of the Wall Street Journal, the article starts:

"Policy makers on both sides of the Atlantic launched an effort to crack down on what they called speculation in oil markets, underscoring concerns that a sharp rise in oil prices could worsen the global economic downturn."

Perhaps Gordon Brown and Nicolas Sarkozy should take a deep breath and just try to control their instinct to regulate. Not to be outdone, Sen. Byron Dorgan (D-ND) declares the need to control "...oil speculators looking for a quick buck at the expense of the American consumer."

As I have written previously, traders in oil futures are airlines, utilities, and others who consume a regular supply of oil over a year and are trying to smooth out price variability. Sounds pretty reasonable to me. Additionally, since oil is a global commodity, denominated in US dollars, its price fluctuates with the value of the dollar. Inflation in the US spells higher oil prices, and conversely, recession or deflation spur lower oil prices. Of course, the 800lb gorillas in the room are China and India, as their consumption grows annually. Cheap? No. 100% Free. Trade stocks for free on Zecco.com. The Free Trading Community. www.zecco.com

Does the trade of a global commodity need to be regulated? Only if it means the enforcement of contracts! Since oil hasn't followed its usual trends, government officials are struggling as how to propose more regulation. While oil is a critical component in the global economy, demands to regulate its future sale will only wreak havoc. Oil is generally an efficient market, though it is subject to swings. By allowing the swings and the pain it causes, the market will right itself, and hopefully teach important lessons. When government interferes and distorts the market, the swings are wilder and damage greater. Just look at housing bubble. Need I say more?

Nuclear, French Style

Ah, the French. While I love to poke fun at them and their, um, French ways, I have to give them credit for their successful nuclear power program. There, I said it. The French do something right that isn't silly.

The New York Times ran a piece titled, "France Reaffirms Its Faith in Future of Nuclear Power" on August 17, 2008. In it, the explain how France got its act together, starting in the late 1950s, to be as close to energy independent as possible. The article states, "Nuclear power provides 77 percent of France’s electricity, according to the government, and relatively few public doubts are expressed in a country with little coal, oil or natural gas." Certainly, this has helped smooth out many economic bumps experienced by those countries without such an aggressive nuclear policy. Additionally, think of how clean the air is without all of those coal plants?

Did I mention that nuclear power is clean, reliable, and cost effective? Here is where France really makes nuclear the best option: "He (senior aide to Jean-Louis Borloo, the minister of ecology, sustainable development and planning) said that France’s choice for a “closed fuel cycle” — reprocessing used nuclear fuel to recover plutonium made in the reactors so it can be reused — was safer." Too bad Jimmy Carter banned fuel reprocessing in the US. Spent fuel from first use has about 95% of its active ingredient left. Hey, recycling, what an idea!

Finally, the French discovered that having a successful power program is great for their economy. In some towns, the 60-year life cycle of a nuclear power plant, "...we have economic activity for two generations.”

Your Garbage, My Money

While many of my regular readers may think that I am opposed to all things green, allow me to disabuse you of that notion. I believe in doing things that are cost efficient and effective, like green roofs. You can read my blog, Clean Air through Green Roofs .

I am a big fan of recycling, particularly those things that make sense to recycle, like steel and aluminum. However, when it takes more resources to recycle than it takes to make the product from scratch, I am skeptical.

In the July 24th edition of Business Week, there is an article titled, "Cash for Trash." It discusses how not only are traditional waste management companies making money from recyclying, but venture capital money is going to firms, "...which includes everything from materials recovery to sewage biotechnology..."

There is a simple "why" to the question of increased recycling.

"The calculus is simple: As the prices of oil and other raw materials rise, recycled products become more attractive. Consider that 8% of global oil production is siphoned off to make plastic each year. Recycled plastic, however, requires 80% less energy to produce. Recycled aluminum burns up 95% less energy. Recycled iron and steel use 74% less, while paper requires 64% less."

So there you have it. Recycling now is worth it! Is anybody surprised? They shouldn't be. In a world of ever shifting commodity prices and consumer tastes, new markets show up to take advantage of any disequilibrium. When the cost of oil and metals goes down, don't be surprised to see recycling businesses fade away, just like in 2002, when "Mayor Michael Bloomberg, ...suspended the city's glass- and plastic-recycling services in 2002..." Things change, markets change, tastes change and generally that's good, because that's how markets are made.

Gee, Ya' Think?

While not specifically questioning green technology, today's post is about oil prices and the crystal clear example of economic efficiency/supply and demand.

The AP, via Yahoo!, posted a story titled "Oil prices tumble again on US surprise supply jump." As you may or may not know, the price of a barrel of oil has fallen approximately $10 in the last two days. As you also may or may not know, oil is sold on the world market in US dollars. While the discussion of using oil as a hedge against a weakening dollar and inflation is legitimate, the story highlights the real cause, people just aren't consuming!

From the article:

"The Energy Information Administration reported that U.S. crude oil supplies rose by 3 million barrels, or 1 percent, last week. That is the opposite of the 3 million barrel draw analysts surveyed by energy research firm Platts expected. Gasoline supplies also leapt unexpectedly."

So, there you have it. People and businesses are just consuming less. Whether it is gas at $4.08 a gallon, or crude at $146, people and businesses have reached the point where they will no longer bear the price, and thus supply is increasing. Provided that consumption remains flat or continues to decrease (globally), prices will continue to fall.

And guess what, the US government and states still collect about $.26 a gallon. However, they are concerned that reduced consumption will cut into their revenue stream.

Hybrids, the Real Deal or Flavor of the Month?

Gas is about $4.00 a gallon where I live, almost twice what it was a year ago. So what? If you are considering a hybrid, it is a pretty big so what. When I was considering the costs and benefits of hybrids a year ago, I came to the reasoned conclusion that there was little economic benefit to be had. The clear reason was that cost savings from using less fuel didn't cover the acquisition cost. Most hybrids tend to several thousand dollars more than their non-hybrid siblings.

The US government, as well as many state governments, decided they should lavish hybrid owners and manufacturers with tax payer money (a.k.a. subsidies), as well as certain privileges, such as driving in HOV lanes without other passengers. They did this to encourage the technology, ostensibly to reduce emissions as well as dependence on foreign oil. Arguably, those may be noble goals, but the number of potential vehicles wouldn't make a dent in either of the issues. ULEV (Ultra-low Emission Vehicles) are able to reduce vehicle emissions without having to worry about recycling or producing expensive battery packs needed for hybrids. Additionally, there are several models of inexpensive gasoline-powered cars that get similar mileage for less money, not to mention diesel-powered vehicles.

Back to the question at hand, will a hybrid save its owner enough money to justify the premium price? The answer is found by using a simple formula. Take the fuel economy of a non-hybrid and multiply by the average number of miles per tank to get price per mile. Do the same thing with the hybrid. Subtract the two results. Take the difference and multiply by tanks per year. So, if one saves $500 a year, and its a 5 year loan, the owner saves $2500 over the life of the car. Is that amount greater than or less than the premium to by the hybrid? That answer will determine generally whether owning a hybrid makes sense from an economic point of view. $4.00 gasoline has really changed the outcome of that equation, making them more attractive. I tell you what I am waiting for though, hydraulic diesel hybrids, as they don't require batteries to store power. UPS is running a pilot now. Details can be found here.

Don't forget to use the MPG calculator at http://www.fueleconomy.gov/feg/savemoney.shtml