"Oil Price Cap" - what do they think it means?

The EU has been at it today, and the G7 will follow, we're told.  We can easily state what they think it means.  Shippers of oil will not qualify for "western insurance and maritime services" if they are buying Russian oil at more than $60/bbl.  

Well, some folks say the Russians can only get ~$50 for their oil on world markets anyway.  But aside from that: since nobody running Russian oil at, say, $65 will feel obliged to, errr, tell this to the authorities - dear me no, guv'nor: $59.95 and not a cent more, look at my paperwork! - the most they'll suffer is presumably that the cargo will only be insured for that lesser amount.  OK, so they'll screw Russia down another dollar for their pains, but no big deal.  Or the Chinese will insure them.   (Good luck making a contested claim on that policy, though.)

All this "capping wholesale prices" in liquid global markets is crazy.  The EU is at it again with gas prices, though that's even less meaningful - they will only be "capped" by governments stumping up the difference between actual import prices and whatever cap they come up with.  And the UK may end up getting subsidised EU electricity, as a delightful quirk of the rules, haha. 

Incidentally, several EU nations are beginning to get fed up with Germany using the power grids of neighbouring countries to keep itself in imported electricity, and are limbering up to take steps to stop them.  Most serious of all is public sentiment in Norway, which hitherto thought it would be great to sell even more of its cheap hydro power into Germany (and other countries, but mostly DE).  Well, the hydro producers and the Norwegian grid (which coins transmission fees) still think that: and the taxman, too.  But Norwegian consumers have noticed that the export of a load of electricity means the import of German power prices!  And on this particular export, they aren't trussed up by EU rules.  Watch this space.

ND

Oil collapse - a gift to the West.

There are some rulesabout the oil market which are being tested to production. One if the economics of sunk costs. It is very expensive to get an oil filed discovered, permitted, drilled and flowing. Literally billions of dollars for the larger fields.

Once this money is spent, then it is gone. Once the oil is flowing it is well under $10 a barrel. So if you have spend the money opening a field, it flows forever. Only accountants look at the overall economics. Countries do not budget like this, they work on a current account only formulae, once money is spent it is gone, worry about income for next year, not last year.

So once a large Petro-state has switched on the oil taps they never ever get turned off. The most an OPEC cartel decision can do really is limit the future expenditure on increasing production and hope that current fields run out.

Of course, with Shale in the USA it matters more whether the companies make money, but not so much more, such is the complexity of debt interest and leverage that overlays the industry. Plus the cost of drilling shale have already been absorbed, you may as well pump it.

Thus, despite a moderation in demand and a huge over-supply of crude oil, the world's petro states keep pumping. They need the money, even Saudi Arabia is likeley to have a 20% budget deficit this year. The oil will flow more and more and the price will keep dropping.

Today the price of crude is back under $50, as noted here before this is bad for the Middle East, Russia, Venezuela and Nigeria (and Scotland...). It is good for USA, Europe, China and India.

With Oil below $50 the inflationary pressures in the West are very benign, allowing the recovery from the Financial Crisis to continue. Russia will have a harder time justifying invading Ukraine and there will be less money to be funnelled to ISIS from its, err, 'enemies.'

Harder today to see is the dynamic really changing, demand in China is increasing more slowly and the West keeps investing crazily in renewables just when conventional prices are weakening. Plus the revolution that is LNG is still yet to come to much of the world and LNG prices make oil look like the liquid diamonds.

A new era of low oil prices thanks to ever increasing technologival innovation and desperation on the part of petro states - justhow the West wanted it.

Oil price is weak on fundamentals

A previous post on oil prices generated a comment on why is this happening. As ever there are several factors, but the outlook for peak oil and ever increasing prices has really changed in the last few years.

Firstly, US production has increased hugely and is expected to further. Imports are down to 9 million barrels a day and production is forecast to grow. Plus growth of shale gas is helping to reduce the need for oil imports. In addition, Europe's slowing economy and changing supply mix is reducing demand. This does not quite offset growth in demand from developing Countries, but demand growth is 0.2 million barrels a day average over the year, which is basically 0.3% annual growth at the moment.

This is whilst Libyan and Iranian supplies are offline, amazingly Iraqi production averages are the same since ISIS invaded, Russia too has maintained output.

Whilst this macro level picture is of a world not flooded with oil, but stable nonetheless, there are a lot of micro factors at work. See today Ryanair buying 100 Boeing MAX 737's. These planes carry more passengers and are 18% more fuel efficient than the planes they replace. Ryanair spends €2 billion a year on jet fuel, so if they manage to replace their whole fleet its a €380 million saving. Equally it is 20 million less tons of jet fuel needed per year - equivalent to 150 barrels of oil per day - which is about 0.3% of global output of jet fuel. And this is just one company.

With the move towards more efficient engines, improved power stations and more renewables, plus the shale oil and gas revolution, it is likely than until war hits Saudi and Qatar, the oil price will remain weaker for some time to come.

Everything's Fixed!

Oh My God! What a Monday. Over the weekend it appears that politicians across the US and UK have realised that,well, market fix prices. Worse and almost unbelievably, people could conspire to try and fix things for their own ends.

This earth-shattering news come at a difficult time. Already Politicians and Regulators have been caught bang to rights in causing the Great Recession we are enduring. Now of course they are seeking to deepen the crisis as much as they can by keeping the euro and refusing all monetary approaches to trying to return the economies of the West to growth.

In the UK, the Leveson enquiry has not been enough to make people forget the stain of the political expenses scandal and the new Libor investigation is trying to see to that.

But now the focus is on expanding this. Many prices in the world economy are set like LIBOR. Nearly all commodities have benchmark pricing, Gold and Silver too (mind you, with allegations of real corruption here this is perhaps one set that could do with an investigation). Indeed, asking market participants for their pricing input is, um, how you would get a price out of a series of private players.

Of course, there are suspicions this is open to abuse, it is why there is much disquiet in the city over the Chinese takeover of the London Metal Exchange. The rise of hedge funds as key players in markets trying to fix things for their own ends is nothing new (see Armajaro Holdings and the Chocolate Finger), It does need to watched and regulated.

Equally though, wantonly saying that most of the Western system for benchmark pricing is corrupt is rather silly thing to do. Just like saying all our banks are bust and crooked. This has not helped the economy recover nor done our reputation any good - in fact things just keep getting worse as the double dip recession proves.

More importantly though, rent-a-gob politicians get to lightly grill some executives from the City in the House of Commons or Congress and get in their class-war inspired jibes about how horrid these people are though. And it distracts from the calamitous decision-making of US and UK regulators and politicians - whose reputation must be upheld above all others of course.