Oil Prices and State-Run Corporate Incompetence

Over the last year or so, I have been relatively optimistic for a relatively significant drop in oil prices over the next 2-4 years followed by a number of years of price stability at this lower level.  This would be a direct analog to what happened in the 80's after the 1978 oil price spike.

One argument readers have made against this scenario is that a much larger percentage of the world's oil potential is controlled by lumbering state oil companies than was the case in 1978, particularly given the US Congress's continued cooperation with OPEC in keeping US oil reserves off-limits to drilling.  The theory runs that these state run oil companies have a number of problems:

  • they move and react very slowly
  • they don't have the technical competence to develop more difficult  reserves
  • they don't have the political will to divert oil profits from social programs (including oil industry over-employment and patrimony) to capital spending

This latter issue is a big one - even keeping current fields running at a level rate requires constant capital and technological infusions.  I have written about this issue before, and I am sympathetic to this argument.  Here is Jim Kingsdale on this issue:

Events in Iran since the Revolution are an eery echo of what has
happened in Venezuela since the advent of Chavez.  Skilled workers and
foreign capital and technology have fled.  Corruption has become
rampant  along with incompetence.  Production of over 6 mb/d fell to
below 3 mb/d after the Revolution and is currently about 3.8 mb/d.  The
pre-revolutionary head count of 32,000 employees has grown to 112,000.

Since the Revolution Iran has exported $801.2 billion of oil but
nobody knows where that money has gone.  "Certainly none of it was
invested in Iranian oil infrastructure which badly needs renovation and
repair, upstream and downstream."  The author claims the Iranian
petro-industry is "on the brink of bankruptcy" although such a claim is
not documented.

It is clear that Iran, Venezuela, Mexico, Nigeria, and Iraq together
represent an enormous percentage of the world's oil deposits and
production that is being mismanaged.  The political and management
dysfunctions in all of these countries simultaneously is a major reason
for the world's current energy crisis.  If these countries all operated
in a standard capitalist mode, I suspect oil would be below $50 a
barrel and the ultimate supply crisis might be five or ten or even
fifteen years beyond when we will see it fairly soon
.  There seems to
be little hope that any of these countries will make a dramatic change
in their oil productivity soon.

I am coming around to this argument.  I still think that oil prices are set for a fall, but lower prices may not last long if this analysis is correct.

Update: Of course Maxine Waters would like to add the United States to this list of countries with incompetent government management of oil reserves.

  • We will get lower oil prices - but it won't be because of supply increases. It also may take a little longer than 2-4 years (my gut tells me its 5-6). There will be reasonable alternatives for oil at several different usage profiles.

  • bbartlog

    In the short to medium term I agree with this analysis. I think I would also add a fourth element to your list: the government actors are not profit maximizers in the same way corporations are. The fact that they've experienced a surge in oil revenues is enough to keep them relatively satisfied - not that they might not like more, but when they can expect to continue to have massive revenues even if (or especially if!) their production decreases by 10%, why would they expend a lot of effort to increase the amount they can pump?
    And indeed, if only one oil producer had this attitude I guess they would get hurt. But with so many of them, they basically have the Cartel of the Lazy and/or Incompetent going - there is no need to restrict production explicitly when almost everyone's production is gradually decreasing naturally if they don't spend a lot of effort fighting it.
    Because of this I expect we have a few rough years ahead of us. However, we (and by 'we' I mean the capitalists of the world, but mainly the US of A) have already loosed the hounds, in the form of massive VC investment in alternative energy (alongside established companies), renewed drilling across the US. By 2013 I expect both a big increase in US oil production and a substantial reduction in gasoline consumption (but not miles driven). Ultimately our own increased production will overwhelm the shortfalls from Mexico, Iran, Venezuela et. al.. This will probably bring the cartel of the lazy to ruin; they will have been relying on inelastic demand to make their own decreased production profitable, and sitting on crappy infrastructure and hard-to-drill reserves when the price drops back down to $50 per barrel is going to leave them in a bad situation.

  • check out the chart on this link

    GOLD vs CRUDE OIL

    Oil producers normally find it in their best interest to add steadily to productive capacity. Gradual addition of capacity year after year keeps oil supply in rough equilibrium with demand as the global economy grows. Mild shortages and surpluses sometimes arise, but they are quickly addressed by market forces so long as monetary policy is anchored properly. It was really a monetary error that began throwing the oil market out of whack three years ago, one we wrote about at the time in forecasting a sharp decline in the price of oil. Specifically, it was the sharp deflation of the U.S. dollar which began in 1997-98. As the value of the dollar rose into deflationary territory -- as measured against gold, the best proxy for commodities, many countries were forced to break their dollar links and devalue their currencies. This triggered major global disruption, first in Asia and then in Latin America.

    As global economy slowed, oil demand plunged, leaving an excess of oil on the market, which caused oil to fall harder and faster than gold or the currencies tracing the dollar. As the oil price fell to $10/bbl in 1998/99, oil producers at the margin were driven out of business. Those that remained stopped investing in infrastructure and production. Once the world economy adjusted to the deflation, in 1999, global growth resumed. Governments in Asia and Latin American began to find the keys to growth, stabilizing their currencies and jettisoning some of the austere fiscal policies pressed upon them by the IMF and World Bank. The rebound in commerce quickly increased the need for oil. Demand began to exceed available inventories, pushing prices up and out of their traditional trading locus. Had oil producers at the margin not been totally destroyed by the 1997-98 commodity depression, no supply shortages would have emerged.

    The oil price should come back down as high prices pull capital towards higher relative returns, which implies more production -- but the process will take a while. The 1997/98 oil price plunge had a searing effect on producers, who obviously do not want to be burned again, should another deflation be right around the corner. Oil producers may not have identified price swings as monetary deflation, but they certainly grasped the concept that committing to new fixed capacity is more risky in an environment where the nominal price is highly volatile. As long as the dollar is not fixed in terms of gold, its volatility will continue to throw off misleading signals of capital shortages and surpluses, inevitably leading to booms and busts.

    Gold and oil traditionally have had a 15-to-1 relationship, only slipping out of congruence for short periods of time. When the gold/dollar relationship is anchored, the oil/dollar relationship remains stable as well. (See the chart of oil pre 1970 – it barely budged for years at a time.) When the dollar/gold relationship is malfunctioning, as it is now, capital is wasted as producers try to protect themselves from the damaging impact of inflations and deflations, which ultimately weaken the entire pricing system. The upshot is that prices will eventually come down. But in the meantime, we’ll all be getting squeezed at the pumps.

    Dr. Jude Wanniski

    19 June 2000

    Reprint Permission courtesy of http://www.polyconomics.com

    Why the price of oil is so high Al Jazeera 10/19/04
    by Jude Wanniski

    Before the US abandoned the gold standard on 15 August 1971, there had been a traditional relationship between gold and oil: One ounce could be exchanged for 15 barrels.

    The relationship had held steady for decades as the US fixed the dollar price of gold at $35 and the world oil price fluctuated narrowly around the $2.50 a barrel mark.

    Since 1971, the gold/oil relationship began to vary as the US dollar "floated" on international currency exchanges, but until recently it still moved around that 1-to-15 ratio.

    Now, an ounce of gold at $420 (when this essay was written) buys only eight barrels of oil at $52 a barrel (bbl). Around the world, industrial and financial analysts are puzzling over why this has happened.

    Does it mean a new, permanent shift in the traditional relationship? Is it the result of a coincidental series of supply interruptions due to hurricanes in the Gulf of Mexico and strikes in Nigeria, compounded by the geopolitical threats in the Middle East?

    Is it the sudden demand for energy in the rapidly growing economies of China and India, where two billion people have developed a great thirst for energy? Is the world running out of easy-to-get, cheap oil?

    None of these questions lead to satisfactory answers.

    During the two world wars, there were even greater demands on oil supplies. There was never any extraordinary price spike because there was always a ready reserve in the oil-producing nations, roughly 10% of world consumption.

    With oil consumption now at 80 million barrels per day, that would mean a reserve of 8 million bpd on tap.

    But it is clear there may be no world reserve at all. The Saudi oil industry has 275 billion barrels of proven reserves and a production capacity of 10.5 million bpd, but it takes time and capital investment to translate proven reserves into ready reserves.

    The Saudi oil ministry has accelerated plans to develop those reserves, but why was that 10% cushion allowed to disappear in the first place?

    "Why is the price of oil so high? It is because the US dollar is floating, free of gold or any commodity anchor"

    It can't be that the world is really running out of oil. The Club of Rome warned 25 years ago of oil depletion by the end of the 20th century when proven reserves were at 643 billion bbl. Today they are at 1.2 trillion bbl. Yes, China and India are now serious consumers of oil, but they have not yet been explored to any significant degree.

    In fact, the world as a whole has not been explored for liquid oil, let alone for heavier oils.

    In the entire history of the world oil industry, a total of 4.6 million wells have been drilled, with the US accounting for 3.2 million of those!

    Africa is four times the size of the US (minus Alaska), yet in the last eight years there have been only 6,280 wells drilled on the continent while 209,400 have been drilled in the US.

    There is undoubtedly as much oil in Africa undiscovered as there has been produced in the history of the world oil industry.

    The same can be said for Latin America. As for the Middle East, Saudi Arabia has drilled only 1,000 wells in the past eight years, almost all of them production wells, not exploratory wells.

    Iraq, with the second highest total amount of proven reserves - 110 billion bbl - has drilled only 100 wells over that period.

    "Oil is of course the most important commodity in the world. For the world oil industry to stop investing in its development for almost three years was a shocking lapse"

    Which brings us back to the original question: If there is so much oil in the world, why is the price so high? The answer, simply, is that from 1998 to 2001, the world energy oil industry went on vacation.

    New capital investment in the infrastructure required to lift oil out of the ground and get it to the hands of consumers practically stopped dead.

    Why did that happen? It was of course because it was not economic to make investments when the price of oil had fallen from $25 bbl, where infrastructure investment could make a profit, to $10 bbl.

    At that price, returns on investment would be negative. But why had the oil price fallen so sharply?

    The answer can be found by looking back at the price of gold.

    In November 1996, gold was at $385 an ounce. By January 2001, it had declined to $265 an ounce. From 1971 to 1973, the quadrupling of gold prices to $140 when the US left the gold standard preceded OPEC's quadrupling of the oil price from $2.50 to $10.

    The decline in the gold price from 1996 to 2001 preceded the decline in the world oil price from 1997. Instead of a dollar inflation, the US Federal Reserve - it's de facto central bank - was unwittingly presiding over monetary deflation!

    It seems clear in hindsight what happened, but in early 1997 I foresaw what was going to happen and warned both Federal Reserve Chairman Alan Greenspan and the Clinton administration that the decline in the gold price was evidence of the beginnings of deflation, and that we would soon experience a decline in the dollar price of oil and all other commodities.

    They waved aside my concerns, but oil and all commodity prices soon began the long slide. At the January 1999 bottom, Texas crude sold at $8 bbl with reports of distress sales in the Rocky Mountain states at $5 bbl.

    "The Club of Rome warned 25 years ago of oil depletion by the end of the 20th century when proven reserves were at 643 billion bbl. Today they are at 1.2 trillion bbl"

    Oil is of course the most important commodity in the world. For the world oil industry to stop investing in its development for almost three years was a shocking lapse.

    It was caused not by the industry, but by the intellectual failures in the US that led former president Nixon to abandon the gold standard and along with it the precious signals that standard supplied in guiding capital investment to where mankind needed it most.

    In a speech he delivered on 15 October in Washington, DC, Greenspan tried to calm the financial markets and their anxiety about the impact high oil prices are having on the economy, at home and abroad.

    "The signals provided by market prices have eventually resolved even the most seemingly insurmountable difficulties of inadequate domestic supply in the United States," he said.

    Eventually!! When the dollar was as good as gold, the signals were instantaneous. This is how the oil industry could consistently supply product at a stable price and earn reasonable returns on its investments.

    Chairman Greenspan knows full well the errors that were made on his watch at the Federal Reserve in producing such volatility in the global economy, but suggests things do turn out for the best in the end.

    Alas, a lot of blood has been shed and a great many bankruptcies have occurred in the process.

    Why is the price of oil so high? It is because the US dollar is floating, free of gold or any commodity anchor. As long as it is, the entire world will be forced to somehow accommodate this wholly unnecessary volatility in energy supply and price.

  • So why isn't oil trading around 64$ per bbl? Some of the differential is due to demand. Growth in the world has demanded more oil to fuel economic development. The just-in-time delivery of oil, similar to other manufacturing supply chains, is unable to meet those demands. The rest of the price difference is due to risks to production. The price shoots up every time Iran is threatened or another country nationalizes it's oil. The price has yet to come down because the risk to production remains.

  • bbartlog

    Assuming some sort of intrinsic 15:1 ratio between gold and oil prices is bizarre magical thinking. Does the fact that oil is a finite resource that we are gradually using up, while gold is a perpetual store of value, have no economic significance to you?

  • The 15:1 ratio is backed up by historical facts. The ratio was not created out of thin air. Did you follow the link I posted that has the chart of the oil-gold price ratio from Dec 1948 to 1998? Also, everything except human ingenuity and my wife's patience is a finite resource. Peak oil is myth for all practical purposes.

  • Yoshidad

    This discussion ignores peak oil -- never mind the denial of climate instability provoked by burning more petroleum.

    As Coyote writes, previous predictions of that peak have been erroneous, but the science of exploring for oil is much better than during the times when previous predictions were made.

    And not all such previous predictions were erroneous. Shell Geologist M. King Hubbert correctly predicted the U.S. oil production peak (1971) by adding 40 years to the peak in U.S. oil finds -- the bell-shaped curve of production lags the bell-shaped curve of discoveries by that 40 years.

    So when was the peak in world discoveries? About 40 years ago (1964).

    See http://www.peakoil.net/, for just one of many such sites discussing this. Take a little time to look at the peer-reviewed articles, etc. It's not just some guy's opinion.

    Is it significant that famous oilman T. Boone Pickens is trying to develop Texas wind farms? Apparently someone who knows a little about the business appears to believe we're facing a supply-based crisis, regardless of undependable overseas suppliers' governments.

    Says Pickens: "The country has been in denial for a long time. I'm doing what I'm doing for the country. It's that simple. I think I know more about the oil industry than anybody else around. These [presidential] candidates do not understand. They don't understand how critical this all is." The entire Pickens interview is available from: Chicago Tribune at http://www.chicagotribune.com/news/opinion/chi-oped0710pickensjul10,0,4329070.story

    Coyote's initial post in this thread is in error about the "price spike" in oil, too. That occurred in 1982 ($42/bbl), not 1978, as stated above. (It occurred during Reagan's, not Carter's presidency.)

    The subsequent reduction in oil prices occurred because a) the U.S. was in a pretty bad recession (Paul Volcker was squeezing the inflation of the 1970's out of the economy by raising interest rates. The prime rate in 1982 was 21%), and b) because Alaska's North Slope came online. So both supply was more and demand was less.

    This gave cover for the ever-prescient Ronnie Reagan to end Carter's conservation and solar subsidy programs, pull the solar collectors off the White House, and roll back the gas mileage conservation (CAFE) standards.

    Incidentally, conservation is much cheaper than producing ever more oil.

    As evidence of how successful his administration was, when Reagan came into the White House, the U.S. was the world's largest creditor. When he left, it was the world's largest debtor. When he came into office, the U.S. had a trade surplus. When he left, a deficit.

    So he was a big hit, right? Of course he made government smaller (whoa, that's not true!), and deregulated things. Well, Carter deregulated airlines and trucking. Ronnie deregulated the S&Ls. That turned out well too, don't you think?

    Here's what one author says about the S&L situation:

    "The theft from the taxpayer by the community that fattened on the growth of the savings and loan (S&L) industry in the 1980's is the worst public scandal in American history. Teapot Dome in the Harding administration and the Credit Mobilier in the times of Ulysses S. Grant have been taken as the ultimate horror stories of capitalist democracy gone to seed. Measuring by money, [or] by the misallocation of national resources...the S&L outrage makes Teapot Dome and Credit Mobilier seem minor episodes."

    "...the swindles, like the industry itself, were a backwater, and, worse, the subject was inherently technical. As the Bush bailout bill moved through congress in the summer of 1989 P.J.O'Rourke wrote...that the story was 'an awful example of what's replaced democracy in modern America-- dictatorship by tedium....This allows the boring government officials to do anything they want, because any time regular people try to figure out what gives, the regular people get hopelessly bored and confused, as though they'd fallen a month behind in their high-school algebra class."

    "The S&L story is desperately important not for the reasons usually given but because its development, maturity and crisis raise profound questions about American society. In the light of this bonfire, we must ask whether our great professions are still capable of self-regulation, of giving honest service, and of accepting fiduciary duties in an age when all costs and benefits are reduced to monetary measurements and all conduct that is not specifically prohibited has become permissible. Watching the obedient dance of our officials and politicians when their patrons pipe a tune, unrebuked by a public that attends this show as it might any other, we must ask whether this generation of Americans remains capable of self- government." --from Martin Mayer's "The Greatest-Ever Bank Robbery: The Collapse of the Savings and Loan Industry"

  • Yoshidad

    A nice encapsulation of the peak oil stuff is in their media guide at http://www.aspo-usa.com/index.php?option=com_content&task=view&id=409&Itemid=91

  • Wow! I appreciate your resourcefulness! If we are going to drag Presidents into this discussion, I'll give you my take. For many years I blamed Carter for what happened during the 70's with inflation and high gas prices etc. I came around to understand where the blame truly belongs and that is squarely upon the head on Nixon and the Phillips Curve eggheads that believed (and still believe) that abandoning a stable currency would be a good idea.

    An unstable currency has a direct influence on the price of commodities. I see fiat money and it's incumbent limitations as the unifying theory that can explain everything from gas prices to Enron, the S&L debacle and Sarbanes-Oxley.

    I recommend you read Wanniski's papers and see the basis of his thinking. You will find reasoned arguments that may give you a different perspective on almost everything you wrote about.

    BTW, Pickens is a shrewd businessman. Think about what your opinion of wind power would be if you have thousands of acres of land in windy West Texas. I'm all for wind power so I say bring it on. But don't let that fool you into thinking he has nothing to gain by perpetuating the fallacy that "we can't drill our way out of this problem". He merely found a new investment opportunity for the assets he already owns.

  • “He merely found a new investment opportunity for the assets he already owns.”

    And, all those years as a bigshot oilman certainly taught him how to work the regulatory and subsidy systems to his advantage. His argument from authority ignores relevant facts.

    When someone tells you he's working for “the country” or to help you, he is a liar or a fool. If he tells you he's working for himself, and the country will also benefit, he maintains some credibility.

  • Yoshidad

    Thanks for the suggestion, txgolfer, but what little I've read of Wanniski's work seems questionable.

    In that light, I too have some reading recommendations for you, particularly Paul Krugman's "Peddling Prosperity," which exposes the limits of Wanniski's thinking.

    One point Krugman makes is that typical promoters of "supply-side" economics are, with few exceptions, not educated as economists, nor do they submit their papers to peer-reviewed journals. Wanniski was a journalist, not an economist. He is no longer with us, and Wikipedia reports that his "supply-side" economics school is closed.

    There's one for-reals economist on supply-sider's team (Robert Mundell), but Krugman reports there has literally been some doubt about his sanity (a la "Beautiful Mind"). I couldn't make it up.

    Meanwhile, from Wikipedia about Mundell: "According to Mundell's analysis:

    * Discipline under the Bretton Woods system was more due to the US Federal Reserve than to the discipline of gold.

    * Demand side fiscal policy would be ineffective in restraining central banks under a floating exchange rate system. [Note how this adds a significant caveat to Milton Friedman's work]

    * Single currency zones relied, therefore, on similar levels of price stability, where a single monetary policy would suffice for all."

    Here's a shorter bit where Krugman quotes Wanniski (from http://www.pkarchive.org/cranks/goldbug.html):

    " [Wannniski:] First let us get our accounting unit squared away. To measure anything in the floating paper dollar will get us nowhere. We must convert all wealth into the measure employed by mankind for 6,000 years, i.e., ounces of gold. On this measure, the Dow Jones industrial average of 6,000 today is only 60 percent of the DJIA of 30 years ago, when it hit 1,000. Back then, gold was $35 per ounce. Today it is $380-plus. This is another way of saying that in the last 30 years, the people who owned America have lost 40 percent of their wealth held in the form of equity. ... If you owned no part of corporate America 30 years ago, because you were poor, you lost nothing. If you owned lots of it, you lost your shirt in the general inflation.

    "[Krugman:] Never mind the question of whether the Dow Jones industrial average is the proper measure of how well the rich are doing. What is fascinating about this passage is that Wanniski regards gold as the appropriate measure of wealth, regardless of the quantity of other goods and services that it can buy. Since the dollar was de-linked from gold in 1971, the Dow has risen about 700 percent, while the prices of the goods we ordinarily associate with the pursuit of happiness--food, houses, clothes, cars, servants--have gone up only about 250 percent. In terms of the ability to buy almost anything except gold, the purchasing power of the rich has soared; but Wanniski insists that this is irrelevant, because gold, and only gold, is the true standard of value. Wanniski, in other words, has committed the sin of King Midas: He has forgotten that gold is only a metal, and that its value comes only from the truly useful goods for which it can be exchanged. "

    I won't disagree with you about the Nixon years. Try "Nixon and Kissinger" by Robert Dallek for a look at the sausage factory up close and stinky. Dallek is the first historian to have those famous White House tapes as the basis of his writing. Both Nixon & K were truly miserable human beings if their conversations are any indication.

    Finally, about gold. It is a metal traditionally used as a medium of exchange only because of the ease of detecting a counterfeit. "Aqua Regia" (a combination of nitric and sufuric acids) dropped onto a "touchstone" where you scratch the gold coin reacts to any non-gold content.

    The truth about what's "real" money is far more mystical than gold v. non-gold. Money is anything people agree is money. *ANYTHING*...

    And let's just remember that people have agreed that the earth is flat, the sun and planets rotate around the earth, and a lot of other b.s.

    This is true of prices too. So if I say my watch is worth a billion dollars, and you agree to buy it for a billion dollars, then that's the real price. If three people agree, and buy watches this way, then that's the appraised price. Same for 25¢.

    It's like peering into a deep canyon, I tell you, to realize how much "objective" reality is just agreement. But then the root of "credit" is "credere" -- to believe.

  • Yoshidad

    One further bit of reference for those who think drilling ANWR and offshore might make the slightest difference:

    http://www.huffingtonpost.com/joseph-romm/mccains-cruel-offshore-dr_b_111945.html

    You're right! It makes the slightest difference -- but very slight.

  • bbartlog

    those who think drilling ANWR and offshore might make the slightest difference

    I don't have a strong opinion on how *much* of a difference it would make - but arguing that we shouldn't drill there because it *won't help enough* is idiotic. If you're in a hole, the first thing to do is to stop digging. Drilling in ANWR will only help a little bit? OK, cool, that's better than nothing at all.

  • "Discipline under the Bretton Woods system was more due to the US Federal Reserve than to the discipline of gold."

    But the Fed was using gold in order to control the value of the dollar by increasing or decreasing the money supply based on the "gold signal". By using gold as the polaris (another Wanniski term!) the Open Market window (http://www.newyorkfed.org/markets/openmarket.html) either bought or sold bonds to add/remove money from the supply.

    Wanniski would be the first to tell you he was not a trained economist. But that doesn't mean his point of view is automatically lacking credibility. Krugman is not the first to attempt to discredit an argument by pointing out the lack of formal training. Academics like him have a vested interest in defining qualifications so that they are at the top of the list of those deemed credible. Similar to the unions, the AMA, the ABA, the NFL, OPEC et al that seek to limit competition, Krugman is a member of a club that pursues self interest. In this case the club is "trained economists". A Flat Earth, nanny state crowd indeed!

    Another interesting point regarding oil, did you know the vast majority of the oil wells ever drilled have been drilled in the good ol' USA? Quoting you-know-who "In the entire history of the world oil industry, a total of 4.6 million wells have been drilled, with the US accounting for 3.2 million of those!" The reason? Mean old profit motive and private property rights.

  • Mesa Econoguy

    Wow. I have no idea where to start here.

    Yoshalist has once again proved himself nearly completely ignorant of all economics in his above posts, but let me pick out just one point illustrative of the abject stupidity of his (and way too many others’) pseudo-thinking:

    "The S&L story is desperately important not for the reasons usually given but because its development, maturity and crisis raise profound questions about American society. In the light of this bonfire, we must ask whether our great professions are still capable of self-regulation, of giving honest service, and of accepting fiduciary duties in an age when all costs and benefits are reduced to monetary measurements and all conduct that is not specifically prohibited has become permissible.

    This quote is so brainless on its face it’s astounding people like this have jobs.

    1) This is not what happened.

    2) The financial industry (which I know a little bit about) is one of the most heavily regulated industries in the world. It is probably the most heavily regulated. Look what just happened and continues to happen – meltdown (to a certain degree). No extant regulation or person prevented it, not even Eliot Spitzer. What makes you think that the next regulation, or the next 50 regulations, will prevent things like this from happening again? What piece of evidence, anywhere, supports this way of thinking? None.

    3) Much of the losses generated by the S&L debacle were caused by late regulators, mark-to-market restrictions, and impositions placed on them during and after the crisis, and the RTC “solution.” Many solvent S&Ls were driven out of business as a result of the solution and subsequent overregulation.

    4) Regulation and government guarantee create the ultimate moral hazard problem, which no regulation can ever prevent. So insisting more regulation will cause fewer problems is an absurd argument on it's face.

    This does indeed raise very important questions, like "Are you paying any attention whatsoever to US economic history, idiot?" but not “Gee, when will we get more regulation, which will fix everything?” That line of thinking is flatly wrong. It is regulation which causes multiple failures, not the other way around.

    It is very dangerous when clueless people start to think like this, and start posting on blogs much like this one.

    Now, this applies to oil as well, and I think I’ll defer to Warren’s original post above. Much of the difficulty we are seeing arises from 1) market interference and 2) our own stupidity.

    Please stop quoting sources which prove the exact opposite of what you are trying to prove, Yoshalist.

    Oh, and Paul Krugman is not a credible economist.

  • Mesa Econoguy

    Yoshidiot's line of thinking also says “restricting speculation in oil futures will curtail oil price increases, and limit volatility.”

    Wrong.

    Also see here.

  • Mike C.

    I'm glad to hear that you are coming around to this opinion because it is 100 % accurate. I've worked for 7 national oil companies on 4 continents now, and you have to see them first-hand to believe them.

    Actually, you see them first-hand and you still can't believe it. And some very long-term colleagues in the business tell me it's absolutely no different in the countries I haven't worked. And believe me when I tell you that you have absolutely no idea what the term "office politics" really means until you've worked for a Middle Eastern national oil company. Oy.

  • Mark

    "Regulation and government guarantee create the ultimate moral hazard problem, which no regulation can ever prevent."

    Probably the most critical example of this statements are the current problems of Fannie Mae and Freddie Mac.

    And, as much as the liberals want to pretend that the only component to the current mortgage/housing crisis is greed, what they conveniently forget is their own culpability to the problem. Not too long ago, their outlook was that housing is a "right" and that mortgage and other financial institutions were "redlining" minorities and not extending enough mortgage loans to poor people so they could also live out the American dream.

    The fact that "redlining" was fictitious (the proof was that minority default rates were much higher than white default rates indicating that the exact opposite problem was happening) was meaningless to these airheads. THey had a cause "seared" into their little minds and they were sticking to it. Liberals are very famous for this, as they shift their positions as the wind blows despite the fact that their statements were recorded. THey understand that their simpleton followers will not even care. My favorite is John Kerry favoring the elimination of taxes on dividends but when George Bush supported such a policy, elimintating the "double taxation" on dividends suddenly was very sinister.

    And, lastly, I want to make a point that is not being stated. In the search for bogeymen in the mortgage default saga, how come the real estate agents are not being held accountable? THe real estate game is one of America's last bastion of monopoly power and work the game with dubious integrity.

    I would wager that in the vast majority of home sales that the buyers utilized a real estate agent who was supposed to act in the best interests of their clients. Often, it is the real estate agent who steers the buyer to a favored lender. When these buyers purchased a property that they "could not afford" and received mortgages that were poorly explained, too complicated, and had unfavorable aspects, why didn't the direct representative of these buyers step in and prevent such poor decisions? Usually the real estate commissions are split between buyer and sellers agents, so these selling agents made significant sums of money in making these transactions.

    And, why aren't the being castigated in the press???

  • Mark

    "Regulation and government guarantee create the ultimate moral hazard problem, which no regulation can ever prevent."

    Probably the most critical example of this statements are the current problems of Fannie Mae and Freddie Mac.

    And, as much as the liberals want to pretend that the only component to the current mortgage/housing crisis is greed, what they conveniently forget is their own culpability to the problem. Not too long ago, their outlook was that housing is a "right" and that mortgage and other financial institutions were "redlining" minorities and not extending enough mortgage loans to poor people so they could also live out the American dream.

    The fact that "redlining" was fictitious (the proof was that minority default rates were much higher than white default rates indicating that the exact opposite problem was happening) was meaningless to these airheads. THey had a cause "seared" into their little minds and they were sticking to it. Liberals are very famous for this, as they shift their positions as the wind blows despite the fact that their statements were recorded. THey understand that their simpleton followers will not even care. My favorite is John Kerry favoring the elimination of taxes on dividends but when George Bush supported such a policy, elimintating the "double taxation" on dividends suddenly was very sinister.

    And, lastly, I want to make a point that is not being stated. In the search for bogeymen in the mortgage default saga, how come the real estate agents are not being held accountable? THe real estate game is one of America's last bastion of monopoly power and work the game with dubious integrity.

    I would wager that in the vast majority of home sales that the buyers utilized a real estate agent who was supposed to act in the best interests of their clients. Often, it is the real estate agent who steers the buyer to a favored lender. When these buyers purchased a property that they "could not afford" and received mortgages that were poorly explained, too complicated, and had unfavorable aspects, why didn't the direct representative of these buyers step in and prevent such poor decisions? Usually the real estate commissions are split between buyer and sellers agents, so these selling agents made significant sums of money in making these transactions.

    And, why aren't the being castigated in the press???

  • Solar Lad

    ...for those who think drilling ANWR and offshore might make the slightest difference...

    You're right! It makes the slightest difference -- but very slight.

    At current market prices, drilling offshore and in ANWR would produce $ 7 TRILLION worth of oil.

    To call that "a very slight difference" is at best retarded.

  • WWS

    One of the factors which makes the future price of energy in dollars so difficult to predict is the effect of the loss in value of the dollar. This is purely a financial problem, and yet it is quite large. I beleive (quoting off the top of my head, forgive me if I'm wrong) that the American dollar is down 10% against a representative basket of currencies so far this year. Since oil is 70% imported, this drives the price continually higher. The fed this weekend is dealing with the Fannie Mae and Fredddie Mac crises, and it appears they are going to open the fed's discount window. While this will probably get them through the credit crisis short term, this is yet another inflationary stimulus (creating billions of dollars out of thin air to prop up bad debts) and we will probably see the results in another round of higher oil prices. The cause of this will not be supply of oil, it will be oversupply of dollars.

    This is what makes it so hard for me to believe that oil prices will fall soon. For that to happen, this government has got to get control of the currency and quit inflating it willy nilly. And so far I do not see any sign of that happening.

  • Yoshidad

    Hail, hail, the gang has all responded to my previous posts. This is the usual assortment of ill advised invective compounded with half truth. In the spirit of reaching out to my Con brethren (they can't truly be called "conservative"), I offer the following correctives, for which I'm sure they will be grateful...8^)

    bbartlog says: "I don't have a strong opinion on how *much* of a difference [drilling in ANWR] would make - but arguing that we shouldn't drill there because it *won't help enough* is idiotic. If you're in a hole, the first thing to do is to stop digging. Drilling in ANWR will only help a little bit? OK, cool, that's better than nothing at all."

    If the options you have are a) "Drill ANWR," and b) "Do nothing," then you are absolutely correct. But other alternatives exist, like c) "conservation," d) "building pedestrian- and transit- friendly cities," and e) "increasing fuel efficiency in autos" -- all of which would be cheaper and more effective at providing available energy than drilling in ANWR. This is not at all controversial. It's not even controversial to believe that other, better places to drill exist, for which oil companies don't have to get permission (but the Bush administration is such a pushover, they feel compelled to try while they have the chance).

    For example, simply increasing the CAFE (auto fuel efficiency) standards a couple of mpgs would deliver more energy sooner than ANWR -- and unlike ANWR it would never run out. You can quote barrels and dollar amounts available in ANWR until you're blue in the face, but where is the vaunted "conservative" rationality here?.. or do y'all get some kind of prize for parroting the oil companies' line?

    The scope of the problem is vast, too. I know it's hard to conceive of 10 billion barrels of oil (the most optimistic projection of ANWR's capacity), but that's a drop in the bucket, and the other solutions are far cheaper and more effective. And if we implement them, and ANWR runs out, we won't be beholden to some nut-job in the Middle East for the oil to fill the ANWR void.

    Mesa Econoguy: (ME)

    ME doubts I [Yoshidad] know what happened in the S&L bailout, saying "No extant regulation or person [could have] prevented it, not even Eliot Spitzer. What makes you think that the next regulation, or the next 50 regulations, will prevent things like this from happening again? What piece of evidence, anywhere, supports this way of thinking? None."

    Yoshidad replies: As a person who was either selling homes (yes, a Realtor) or writing mortgages during this period (yes, a loan officer -- both mortgages and SBA loans), I think I bring more direct knowledge of the facts on the ground to the table than even someone who "knows a little bit about the financial industry."

    The origin of the S&L bailout was not regulations, but the loosening of S&L loan underwriting and accounting standards so that any previously well-known standards simply evaporated. S&Ls were making loans so far afield from their expertise because they were "de-regulated" in a completely foolish way.

    Because of disintermediation (CDs and money market funds), the S&Ls were failing as early as the late Carter administration. The trouble began when Reagan insisted they could "grow" their way out of trouble, so following the laissez-faire mantra, his administration loosened the accounting rules and underwriting standards so that S&Ls could make really bad loans, and carry them as though they were assets even though they were bad loans. As you might imagine such bad loans fester and grow worse if they are "rolled over" and more money is advanced to pay the accrued interest. The amount of festering was $150 - $500 billion, depending on how you count the interest, the largest political / financial scandal in U.S. history.

    You'll be gratified to hear that Enron / Worldcom / Adelphia totted up $600 billion in losses, though, and the Telcos lost $6.5 billion in market valuation since they were "deregulated" ... so private can still outdo public, even when it comes to scandals.

    Reagan / Bush 41 deregulated the S&Ls without removing FDIC (and at the time FSLIC) guarantees, or even charging larger insurance premiums for the added risk. This is not sound business practice, or good regulation, either one. It was wishful thinking, or if you like, denial, pure and simple. This fact answers the "moral hazard" objections.

    The other cause of the awfulness of the S&L bailout was the 1986 tax "simplification" in which the Reagan administration removed (retroactively!) all of the passive loss provisions from the income taxes. This meant investors owning properties could no longer write off the depreciation unless they were "at risk," -- i.e., liable for losses as a member of a partnership, not as a limited partnership or corporation, which were the bulk of real estate investment vehicles at the time.

    The meaning of this last paragraph is that virtually all real estate limited partnerships and REITs that made sense with a depreciation write-off were no longer viable. The lucky ones gave their properties back to their banks. Banks that got so many give-backs and foreclosures began suffering, and ultimately failed.

    This is exactly the same kind of thing that has happened with the sub-prime mortgage crisis too, BTW. The underwriting standards controlled by the quasi-governmental FNMA and FHLMC were loosened to permit lending to people who had no business getting loans.

    So the banks have been saying "Sure, we'll give you a loan with no money down, interest only, and no payment for a while, and BTW, we won't be verifying your income, either!" Making a loan like that is simply asking for trouble. And the foreclosures are reaching record levels because of this kind of lax underwriting.

    Q: Why would anyone do something so foolish? A: So the Bush administration could take credit for some miraculous economic revival spurred by the proceeds of these loans.

    Q: Why not rely on the mighty economy to provide jobs and better wages? A: Because the job creation during the Bush years has been less-than-spectacular, and because of the pressing burden of tax increases in recent years.

    Yes, the top brackets have come down on income taxes, but regressive FICA quadrupled in the wake of the Reagan / Bush progressive tax reductions, and states local jurisdictions have had to raise taxes to cover the shortfall from previous federal revenue sharing...

    So Reagan / Bush 41 tax increases left real wages flat, and the real, remaining purchasing power has been in the hands of people with real estate equity. Because wages have been flat, credit = consumer demand.

    Keeping consumer demand strong this way, and creating a real estate bubble as a consequence, is roughly like increasing worker productivity by giving everyone crystal meth. Now the morning after is upon us, and it will be very bad, my brothers. But hey, that's what 30 years of "conservative" economics gets ya!

    "Many solvent S&Ls were driven out of business as a result of the solution and subsequent overregulation."

    Sorry, the opposite is true. They got in trouble because of bad loans. If the FDIC is insuring their depositors, they have to have some standards about when the bank or S&L is viable, or should be closed, but no regulations got these lenders in the spot they were in. The truth is that Reagan waited far too long to close a lot of defunct S&Ls, hoping that the delusional practice of "growing out of the slump" would work. This is not controversial.

    Instead of practicing your insults, read Martin Mayer's book, or any of the others about the S&L bailout. These confirm what I've said, no matter what your assertions.

    Incidentally, the Clinton administration's repeal of Glass-Steagall's separation of investment banks from mortgage lending is also partly responsible for the current sub-prime crisis. But once again, that's de-regulation, not over-regulation.

    "Regulation and government guarantee create the ultimate moral hazard problem, which no regulation can ever prevent. So insisting more regulation will cause fewer problems is an absurd argument on it's face."

    The lenders' moral hazard was sidestepped because no additional charges for FDIC insurance were levied, even though the S&L's (and currently mortgage lenders) were taking on more risk as they lowered underwriting standards. It was half-assed from the start, destined to fail. Sort of like the California electricity "deregulation."

    But I'm not insisting on more or less regulation. Either way, I see that "de-regulation" has been done by the delusional, and the results have been half-assed and very bad.

    For banks, intelligent regulation is actually required. Or do you believe that lenders should have no standards for loans? And if the government is the lender of last resort, as they are with the FDIC (and FNMA/FHLMC, in another way), should they provide no guidance? Or do you just believe no FDIC is really necessary?

    "Oh, and Paul Krugman is not a credible economist."

    So let me get this straight, Jude Wanniski is a journalist, who doesn't submit his conclusions to peer-reviewed journals, and he's credible in his economic pronouncements. And Reagan's budget director, David Stockman (recently photographed as he was led away to face indictment for securities fraud) famously confessed that Wanniski's "Supply-Side" economics was baloney, just adopted as a pretext for the Reagan administration to lower the top progressive tax rates....

    ...but the Clarke-medal-winning Krugman (that's the equivalent to the Fields medal in mathematics, for example) is not credible. I see. On what do you base this assertion?

    And what color is the sky in your world?...8^)

    Finally, demonstrating he is again listening to the voices in his head rather than what I say, Mesa Econoguy says: "Yoshidiot's line of thinking also says “restricting speculation in oil futures will curtail oil price increases, and limit volatility.”"

    First of all, let me express my sympathy for your willingness to resort to invective and insult. Sad, really.

    Second of all, I have no line of thinking -- that would make me an ideologue instead of someone who pays attention to reality -- I said, and continue to say no such thing. You are arguing with people not present.

    Mark writes:

    "Regulation and government guarantee create the ultimate moral hazard problem, which no regulation can ever prevent. ...Probably the most critical example of this statements are the current problems of Fannie Mae and Freddie Mac. ...And, as much as the liberals want to pretend that the only component to the current mortgage/housing crisis is greed, what they conveniently forget is their own culpability to the problem. Not too long ago, their outlook was that housing is a "right" and that mortgage and other financial institutions were "redlining" minorities and not extending enough mortgage loans to poor people so they could also live out the American dream. ...The fact that "redlining" was fictitious (the proof was that minority default rates were much higher than white default rates indicating that the exact opposite problem was happening) was meaningless to these airheads."

    I certainly can't speak for liberals, attempting to avoid ideology as I do, but I've got to wonder what you believe was the source of the sub-prime lending scandal currently in force. What was it really? Over-regulation? The legacy of some misguided racial integration? I've demonstrated that the contrary was true in my reply to Mesa Econoguy above -- and believe I have credentials superior to either of yours or Mesa Econoguy's to know what I'm talking about.

    Mark continues:
    "I would wager that in the vast majority of home sales that the buyers utilized a real estate agent who was supposed to act in the best interests of their clients. Often, it is the real estate agent who steers the buyer to a favored lender. ....And, why aren't the being castigated in the press??? "

    Clearly you don't know the business. The Realtor may have a favored mortgage guy, but he doesn't set the underwriting standards. Loan officers are not (with very few exceptions) the people deciding who gets a loan. It would be a conflict of interest to have the guy getting paid a commission from the mortgage decide who gets it ("Everyone I meet, that's who!" says such a loan officer)

    A different person -- the underwriter -- is the one who assembles the appraisal, the verifications of income and credit, and decides whether the applicant gets the loan. She typically gets these standards from the secondary market (GNMA, FNMA, FHLMC, etc.). The government started the secondary market in the wake of a depression, and continues to be involved.

    The reason that lots of foreclosures are happening now is that someone in the Bush administration said "Loosen those underwriting standards" -- so people were getting loans without having their income verified, without having to pay a down payment, without a credit check, etc. The banks making these loans were relying on property values increasing indefinitely to keep the security for their investment safe.

    Making the source of the real estate bubble the Realtor's referred lender, the property buyers, or some supposed liberal need to lend to negros is beyond laughable. It just ain't true. Don't believe me, ask your favorite loan officer if he'd make a loan just to please his referring Realtor. In the vast majority of cases, borrowers follow the banks lead, they don't know whether a loan is viable or not.

    Incidentally, I don't know of anyone who says owning a home is a right rather than a privilege. I do know many people who believe homelessness is shameful, and a legacy of Reagan's 1986 tax law change above that created many, many more homeless than preceded it (it made rental property much more expensive, you see). Again, bad regulation rather than "deregulation" -- the banner under which it was sold.

    Finally Solar Lad weighs in: "At current market prices, drilling offshore and in ANWR would produce $ 7 TRILLION worth of oil....To call that "a very slight difference" is at best retarded."

    Notice the invective again. Really and truly fellows, I am really and truly sorry that your parents called you (or worse, treated you as) idiots and retarded. You are valuable people who are misguided enough to think that if you worship hard enough at the shrine of free markets and deregulation, life will turn out great -- and believe it's OK call anyone who interrupts our daydream an idiot. Idolatry is a sin, but I don't expect you to buy that "conservatism" is idolatry. It is, though. Just as liberalism can be.

    Anyway, people thinking the idolatrous way crucified Jesus too. They put Galileo under house arrest. The truth always takes a beating from such thinking. Taking your insults is the least I can do to bring a little light into the dim region in which you live. I forgive you, for reals.

    Oh yes, and Solar Lad is a big dummy because of what I said earlier about drilling in ANWR being more expensive and less effective than conservation...

    ...8^)

  • bbartlog

    If the options you have are a) "Drill ANWR," and b) "Do nothing," then you are absolutely correct. But other alternatives exist, like c) "conservation," d) "building pedestrian- and transit- friendly cities," and e) "increasing fuel efficiency in autos" -- all of which would be cheaper and more effective at providing available energy than drilling in ANWR.

    Now you are acting as if *I* was the one who presented choices as mutually exclusive, when in fact for your laundry list to make sense as an argument we would have to pretend that somehow your options c) thru e) are somehow incompatible with also drilling in ANWR.

    This is not at all controversial.

    I'm not sure what you mean, but if you are saying that your options c) thru e) are widely accepted as cheap solutions to our energy problems I would have to say that the devil is in the details. Individual conservation measures, or for that matter CAFE, may well be controversial.
    In any case, conservation is already happening. That's the genius of high prices - they're a more efficient force to promote conservation than any law or regulation.

    It's not even controversial to believe that other, better places to drill exist, for which oil companies don't have to get permission (but the Bush administration is such a pushover, they feel compelled to try while they have the chance).

    This I could certainly believe: that oil companies have plenty of reserves that they are developing, but that they're using the political climate of the moment to also push aside obstacles to the development of other reserves that they might not even want to use at the moment.

    For example, simply increasing the CAFE (auto fuel efficiency) standards a couple of mpgs would deliver more energy sooner than ANWR

    And the costs would be hidden and spread out so that it would be harder for people to complain. Really, people already have a major incentive (in the form of high gas prices) to buy fuel-efficient cars. The fact that they do so only to a limited degree suggests that the costs of fuel efficiency are high, and that forcing higher fuel efficiency is not optimal. This is Econ 101. If you want to make an argument for why the regular rules of supply, demand, and time preference don't apply, feel free - but from where I sit, the net effect of CAFE is that it functions as a progressive tax. Carmakers are forced to charge more for their less fuel-efficient vehicles.

  • Yoshidad

    bbartlog: What I meant was that there's no controversy that the conservation measures I suggest would be "cheaper and more effective at providing available energy than drilling in ANWR."

    And you are correct: Conservation and drilling in ANWR aren't mutually exclusive. In fact drilling elsewhere in less environmentally sensitive regions is not prevented by conservation either, and there are more such places available than rigs to drill them.

    The oil companies want to drill ANWR "by and by," not now. They're just lobbying for permission to drill because Bush is a pushover.

    The alternatives I suggested produce none of the environmental damage drilling in ANWR or less sensitive alternatives would produce, they actually reduce our dependence on imports, and don't threaten to produce more C02.

    The big question: Since we cannot do all things at once -- even drilling everywhere at once -- which should we do first? And which should we subsidize?

    How about pursuing the alternatives that produce the best long-term outcome for the public rather than the best short-term profit for the oil companies?

    Just a suggestion...

    And I don't disagree that higher gas prices are better than lots of government programs and regulations. That's why I'm suggesting that the government get out of the business of subsidizing petroleum, so the price can rise to reflect the real costs. I've seen everywhere from $5 to $15 a gallon suggested as the real cost of gas at the pump. The truth is that even if the cost of conservation is high, petroleum costs are kept artificially low by subsidy. Better to face the music now than after we've pumped all the cheap oil and produced earth temperatures comparable to venus...8^).

    Unfortunately, this "subsidy" conversation is not the entire story. The real insanity in the accounting for oil is that it's classified as "income" when oil production is more accurately described as a withdrawl of natural capital.

    To appreciate the distinction, imagine applying for a loan, trying to convince the loan officer that the money in your savings account was your "income." You would be ejected from the bank as a crazy person. But that is how we account for oil production now by calling it "income."

    Note that if oil were classified as a kind of capital, a prudent company (or society) would be constructing the replacement for the capital that was depreciating with the proceeds of that capital's income production. Most factories replace their machinery with a set-aside from the income from the machinery's production in just this way.

    We are not setting aside much from current petroleum production to pay for alternatives, conservation, or anything else -- certainly not much compared to Europe and Japan (or even China!). American public policy is arranged to maximize consumption, not set aside income for that alternative.

    An alternative to the petroleum-centric infrastructure we now enjoy is possible, profitable, and preferred by the market. Buyers pay premiums to live in pedestrian- and transit-friendly neighborhoods.

    Of course the subsidies are all on the side of sprawl -- the opposite of such infrastructure. I'll outline these subsidies if you like, but take my word, they're enormous.