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Don’t blame the Kingdom

Last updated: Friday, January 18, 2013 2:15 AM

When it was first revealed that Saudi Arabia’s oil production last December had dropped by some 700,000 barrels per day to nine million bpd, the reaction of some international commentators was that it was an attempt by the Kingdom to ensure that the price of oil stayed above $100 a barrel.

It has now become clear that a  fall in seasonal demand was actually responsible for the cut in output. This may sound counterintuitive, since it is during the winter in the northern hemisphere that liftings of oil have generally increased. Analysts admit that they still have not figured out why underlying demand appears to have dropped, over and above the obvious impact of the European recession, full storage tanks around the world and no major purchases by strategic reserves, most notably that of China. 

Nevertheless, it was instructive that Saudi Arabia was effectively accused of seeking to manipulate the price of crude for its own advantage.  What short memories people have! They forget that when the price of oil was surging to levels that would have damaged the health of the world economy, the Kingdom pumped every barrel of oil it could in order to stabilize the price. No one blamed us then for seeking to protect the interests of the wider financial and business system by manipulating the price downwards.

But then the markets are greedy and insensitive animals that feel no gratitude when they win, but  considerable anger when they find themselves losing money.  Moreover, the accusation that the Kingdom is using production flows to maneuver the oil price upwards is a bit rich, coming from the trading community. 

One major source of the sharp spikes in the oil price has been the activity of speculators most obviously those who trade in the futures market and pursue investment strategies that are predicated upon significant price rises. These people often do everything they can to push the price in the direction of their own contracts. Markets move on rumor and rumors are easily disseminated. Bidding top dollar for a relatively small number of oil futures can have the effect of pushing the price up for the whole market, thus moving those who have speculated on a higher price ever further “into the money” as market jargon has it.

None of this bears any relation to the ultimate use of crude oil, which powers the greater part of the global economy.  It is everything to do with a group of sharp-suited individuals, who buy and sell oil-related derivatives like chips in a casino. Moreover, the  trading exchanges around the world warmly welcome this constant flow of deals into and out of oil derivatives, as indeed they welcome any trading business that can appear to be properly regulated and that will produce significant volumes of trades.

The reason such business is so sought after is that with every single new trade, brokers and the exchanges on which they deal make a small fee. With millions of trades a day, these small fees become big money for the exchanges. Nobody there cares about the wider significance of the way that speculators are so often forming prices with which the wider world will have to live. Nobody indeed cares whether the market is moving up or down. All that matters is that the market is moving and therefore generating income for the brokers and their exchanges.

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