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Brooks Wilson's Economics Blog: Speculators

Monday, May 9, 2011


Every time oil prices rise rapidly, politicians seeking to curry support from beleaguered consumers blame speculators, a nebulous gang of ne’er-do-wells.  If speculators have the power to drive up oil prices, why would Brent crfe prices fall by 13.3% and U.S. crude fall 14.7% for the week (“Oil falls again, gutted in record weekly drop”)?

The price of oil is determined by the interaction of supply and demand.  The demand for oil has been growing because consumers in developing countries like China, India and Brazil have more income.  Supply of oil has largely stagnated.  It is not just that the supply of oil beneath the earth’s surface is finite, in many countries governments restrain exploration and production.  Policies that limit production when demand is growing cause to higher prices.

The expectation of future price affects both the demand and supply for oil.  If buyers expect prices to increase in the future, they buy now.  If sellers expect prices to increase in the future, they sell later.  Profit motivates speculators.  If they guess the direction of prices correctly they can make hefty profits.  If wrong, they will face similar losses.  On the whole, speculators act in future markets to adjust and smooth prices over time, providing an important service to producers and consumers.

Oil prices will remain volatile because both supply and demand are not particularly responsive to price and much of the production for export markets is in politically unstable countries (For more information on the function of speculators see “Oil Speculators: Bad or Good”).Replace this text with...

1 comment:

  1. One of the inconsistencies of Keynesian economics is the attempt on the one hand to increase demand, while on the other hand decrying price increases. While it might be asserted that the "economy as a whole" has not yet received enough incentive to increase production and instead simply raised prices to find equilibrium, if we dis-aggregate, can't we see some sectors that may have seen the incentives to increase production, and yet found themselves faced with government regulations that are barriers to increased production?

    How great must dis-incentives be before they work? I would say, overall, that the work by the current administration to limit oil production are simply quite successful. And coupled with Keynesian stimulus? What should be the outcome when reported as price?