Wednesday, April 11, 2012

Speculation Costs 75 cents Per Gallon At The Pump

Since repeal of the Glass-Steagall Act in the late 1990s that separated traditional banking from other financial activities, investment banks have been allowed to sell exchange-traded futures funds linked to commodities. The volume of oil sold in these “synthetic” markets is now equal to 18 times daily consumption compared to 6 or 8 times daily consumption in the 1990s.

The investment bank that underwrites that contract, in turn, goes into the futures markets to offset its risk. Since there are few speculators betting the market will go down in such an environment (the buyers outnumber the sellers by a wide margin), the futures price goes even higher

“The American consumer is paying 75 cents more per gallon because of excessive speculation,” according to Mark Cooper, the chief economist of the Consumer Federation of America.

High gas prices? Blame Goldman Sachs

WaPo: A Few Speculators Dominate Vast Market for Oil Trading

4 comments:

Arvind said...

yes, but that speculation is the speculation about the value of the paper currency issued by the government.

nutwit said...

namaste Aravind,

Can u plz explain this business of speculation for novices like me.

dhanyavAdaH

Arvind said...

nutwit,

most transactions are speculative in nature. when someone buys a home, they speculate that the neighborhood will not deteriorate into a slum or a ghost town.

the speculation on crude oil we see now is due to the fears of the government in USA printing more amounts of money and releasing it into the market. so blame the government and not the speculators.

there is also the good kind of speculation which is the speculation on the actual price of the commodity and not the worth of paper currency. this contributes to price stability. the advantage of this type of speculation is that it allows farmers and merchants to focus on their business and transfer the risk to a professional risk-taker.

for example, if you are a farmer and sell your produce 90 days in advance to a speculator and the price goes up 90 days hence, you will not make the extra cash, but you are also protected from the price collapsing. the speculator keeps the profit as well as the loss.

professional speculators also do not place their bets in vacuum. they analyze the conditions (in the above case, they research the weather, demand and supply, etc.) and so the price they bid or ask contains information built into it.

the onion crisis could have been avoided if there had been a futures market in india. each time the supply is estimated to be on the lower side, the speculators see an opportunity to make money. they start bidding on the futures and the farmers have an incentive to grow more onions and increase the supply.

the other side works in a similar manner. as the supply goes up, the speculators are able to find farmers eager to sell their produce at lower prices. as the price shows a downward trend, the farmer can decide to grow some other crop and the market avoids the glut.

for the most part, the wide range of prices too is avoided through competition between speculators who thus being stability to the prices.

of course, none of this has anything to do with speculation on government printed currency which is based on the whims of politicians. that kind of speculation is not based on anything rational. the only escape from that is to take away the power of printing currency from the government.

nutwit said...

dhanyavAdaH Aravind!!