Oil Prices

Oil prices were extremely high in mid 2008, and finally dropped drastically in late 2008. In the midst of a recession, it is common to have cheap prices for oil and gasoline; that is not the current scenario. Although oil prices have not reached what they were in 2008, they have climbed steadily over the last several months. The Law of Demand suggests that when supply is high and demand is low, the price will be low to force the market back to equilibrium. If this is true, then why are oil prices continuing to rise?

Speculation is believed to be the main cause for the high prices. Continuous decreases in sales should keep the prices low, but traders are relying on the fact that they believe the worst of the recession is over. Speculations of recovery from this recession are driving the prices rather than actual proof of recovery. Many believe that the price of oil is dictated too heavily by speculation which explains why the prices of oil are not what the Law of Demand would suggest they should be.



Daniel said...

Interesting point Kalie; a free market structure is certainly not without its faults. The “invisible hand” is lauded for heightening competition and facilitating innovation, but this recession has certainly highlighted abuses that come with a “free market.” In fact, it can be argued that this recession was largely caused by the same phenomenon that is allegedly propping up oil prices – namely speculation. Can a free market exist while tempering the damaging effects of speculation? Speculation and greed can unquestionably distort true value and cause serious economic problems.

Rachel said...

Today higher Oil price is an interesting issue. I think this is not good sign. Today in this recession oil demand decrease day by day but oil price increase day by day. I think there is no change in supply and demand law. In this case some factors effective like inflation, politics, and environment problem. Inflation is very effective for higher oil price at lower demand. Today Government pumping trillion dollars in the world market by different package, according to economy principal value of money falls. I do not agree higher oil price is sign for anything about recession.

Dr. Tufte said...

-1 on Daniel for a spelling error.

-2 on Rachel for multiple errors.


This is a popular viewpoint in the media. It has been repeatedly examined and dismissed by economics experts.

The primary reason is that oil is a fungible commodity with a lot of price volatility. In order for speculation to work, you need to be able to store the oil, and you need to be able to get it out of storage quickly to take advantage of price spikes. There simply isn't any evidence of this sort of storage or transportation. We know about all the storage and transportation facilities, and we can account for their use without any recourse to speculation as an explanation.

All commodity prices went through the roof as the expansion ended. There are a lot of reasons: China, India, Thailand, Malaysia, Indonesia, ...

No one was talking about things like coffee or cement speculators. Yet these commodities had much bigger price increases than oil did.

Generally, commodity prices spike (and rumours of speculators abound) when interest rates are very low. In this environment, people start trading in commodities because they make better returns than trading in financial assets. This is called "carry trade" and economists were talking about it spiking many months before the recession.