Supply Up, Demand Down, But Oil Prices Rise

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Recessions usually bring cheap oil and gasoline.

But not now. And that has analysts worried that another fuel-price spike could be on the way.

Crude oil, the lifeblood of the global economy, costs $61.67, even as
the world struggles through the worst recession since World War II. And
prices are rising, climbing 26 percent in the last month.

Gas prices have jumped as a result, rising 12 cents in California last
week to reach an average of $2.62 for a gallon of regular.

Compared with last year’s record oil price of $145.29 per barrel, for
oil sold on the New York Mercantile Exchange, $61 may not sound like
much. But it’s twice the historic average for petroleum, which used to
trade from $20 to $30. Prices briefly fell below $34 in December and
February, but they’ve rebounded with a vengeance.

The economy hasn’t. But oil traders are betting that the recession is
at or near its worst, meaning a recovery could start later this year
and drive up global demand for oil again. They’re trading on the
possibility of a recovery, rather than a recovery itself.

To many analysts, the current high price is a bad sign.

The worldwide oil market is awash in petroleum, because countries stuck
in recession don’t need as much to fuel their cars, factories and power
plants. So if oil costs this much now, when demand is low and supplies
are high, what happens when the economy improves?

Another record-setting price spike? Gasoline rising back above $4 a gallon?

"The fact it’s going up now on nada is proof that speculators are still
in control," said Judy Dugan, research director with the nonprofit
group Consumer Watchdog. "Unless there are curbs in place, it obviously
could shoot through the roof again."

Changing the rules

That fear is fueling efforts in Washington to change the rules of the
oil market. A global warming bill wending its way through Congress
includes provisions designed to limit the role of speculative oil
investors, whom many politicians blame for last year’s runaway bull

"We need to look no further than today’s oil prices, which have doubled
since December, to see the effect speculators have on energy prices,"
said Rep. Bart Stupak, D-Mich., who wrote those provisions. "We are in
the middle of a recession, supply is at a 20-year-high, demand is at a
10-year low, yet oil prices are up 70 percent since the beginning of
the year. This cannot be explained by simple supply and demand."

However, even if the legislation doesn’t pass, another major price spike is hardly certain.

Due to the recession, the world has a glut of oil in storage, with
supplies in the United States at their highest level in 19 years. An
estimated 100 million barrels worldwide are sitting in tanker ships,
which companies have been using as floating storage bins. As the price
rises, more of that petroleum will pour onto the market.

"That’s definitely going to be a headwind against the price of oil as
it moves up," said Allen Good, an analyst with the Morningstar market
research firm.

In addition, Saudi Arabia and the Organization of the Petroleum
Exporting Countries may try to keep oil supplies high enough to prevent
a price spike, said Amy Myers Jaffe, an energy research fellow at Rice
University’s Baker Institute. The worldwide recession cut demand for
their oil, they want the recession to end and high prices could hinder
a recovery.

‘Speculative bubble’

"I liked $45 (per barrel), and I think the Saudis have the ability to
bring it back down to there if they want to," Jaffe said. "To me, we’re
having a little speculative bubble right now, and it’s going to fizzle

The last time oil rose above $60, in March 2007, America’s economy was
growing, China’s was soaring, Chrysler was still solvent and few people
outside the financial world had ever heard of mortgage-backed

Back then, $60 was considered frighteningly high, a price capable of
causing serious economic harm. The decade’s rising oil prices were
already having a clear effect on drivers, who were buying less
gasoline. Gas sales in California have dropped for the last three years
in a row.

Even after last summer’s economic meltdown ended the bull market for
oil and sent gas prices tumbling, drivers kept buying less. Americans
used 2.7 percent less gasoline in the last four weeks than they did
during the same period last year, according to the Energy Information
Administration, part of the U.S. Department of Energy.

Such weak sales should be keeping oil prices low. But traders have been
gambling that the recession has finally bottomed out, with a recovery
perhaps starting later this year. That would increase worldwide demand
for petroleum.

In addition, China’s thirst for oil may be picking up again. After
falling through the winter and spring, China’s oil consumption rose
about 4 percent in April compared with the same month of 2008,
according to the Platts energy information service. China’s increasing
need for oil was one of the main reasons – some would say, excuses –
for last year’s price spike.

Some politicians argue that the country remains far too vulnerable to a repeat performance.

Limiting trades

The climate change bill includes provisions that would ban some types
of oil trades and regulate others that don’t take place on a formal
market. Limits on the number of oil contracts a speculator can hold
would be extended to cover those trades as well as trading on
electronic exchanges and overseas markets.

"I think there’s no question that supply-demand fundamentals are not
reflected in the current (oil) price," said Tyson Slocum, director of
the energy program at the Public Citizen watchdog group, which supports
cracking down on oil-market speculation. "Is this a preview to $145
oil? I don’t think so. But I think this underscores the need to
increase oversight of these markets."

E-mail David R. Baker at [email protected]

Consumer Watchdog
Consumer Watchdog
Providing an effective voice for American consumers in an era when special interests dominate public discourse, government and politics. Non-partisan.

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