What's gone wrong in the oil market? The Ghost of Enron Past

The Obama administration, going into the election, of course needs to push the line that the economy is recovering. Demand for oil products, especially gasoline, is still down significantly from previous years (scroll to the bottom), though it began to tick upwards a few months ago. Yet, we see prices have risen, pushing over $4.00 a gallon in major cities, California, and other places.

Why isn't the law of supply and demand working? Less demand, means prices should be falling, right?

Well, what the public can't see is the hidden demand by speculators and inflation hedgers. Apparently, no one knows exactly how much oil right now is being held by these predators. This has become known among oil market watchers as "dark inventory."

Chris Cook, former director of the International Petroleum Exchange (IPE), explains what's going on in a recent post on Naked Capitalism: The Ghost of Enron Past Explains Oil Market Manipulation. Cook's explanation is highly technical, but fortunately Philip Pilkington steps up to translate:

What follows is a complicated piece by Chris Cook, former director of the International Petroleum Exchange (IPE). While there is no way to improve upon Chris’ own nuance and knowledge of the oil industry, as an outsider I had to study the argument rather hard to make sense of it – reflecting my limited knowledge of the industry rather than anything else. So, I provide a short summary of Chris’ overarching argument for the interested layperson.

Basically what has occurred in the oil markets in the past few years is that oil has begun to be traded as an inflation hedge. Investors trade dollars for oil to ensure that, in the event that the value of the dollar is eroded by inflation, they possess something that holds its value. It’s a bit like the strategy of the gold bug. Fearing inflation they give away their dollars that they think to be declining in value for something ‘tangible’ that they believe will hold its value or appreciate.

Let me interject here that this search for "something that holds its value" is classic rentier / predator behavior. While trillions of dollars of potential projects around the world - projects that will move us out of the age of petroleum - are begging for funding, the powers that be are most interested in preserving their total control of the world economy. "Investors" have no interest in actually investing in what society desperately needs, because "investors"are not quite sure yet how the future non-oil economy will shake out. As soon as it becomes clear to them how they control that future economy, their "investment" dollars will be forthcoming. Back to Pilkington:

On top of this Chris tells us how Big Oil and Big Finance have locked arms in this regard. Each has something the other wants: Big Finance has access to dollar loans that can be used to ensure that, should oil decline in value, Big Oil has ample amounts of dollar liquidity lying around. Meanwhile, Big Oil has plenty of barrels of crude lying around that can be exchanged for dollars, thus allowing Big Finance to hedge against any inflation that may take place.

Such an institutional arrangement has given rise to a highly opaque and unstable market that few can see into. Indeed, no one really knows just how much oil is being ‘held’ as an inflation hedge by Big Finance. These stockpiles have even gained themselves an ominous name within the industry (recently christened by Izabella Kaminska over at FT Alphaville who has been doing some of the best work on this): Dark Inventory.

Read more.