Monday, July 06, 2009

The American Free Market System

I thought the American Free Market System was based on supply and demand. That's what they taught me in school, but in an excellent article for Rolling Stone, Matt Taibbi explains how Goldman Sachs, a bank holding company, has been behind every financial bubble in the last century: The Great Depression, the internet stock bubble, the housing craze, and rigging the bailout. But the one thing I didn't think any financial institution could do was turn the oil market into a betting parlor:
While the global supply of oil will eventually dry up, the short-term flow has actually been increasing. In the six months before prices spiked, according to the U.S. Energy Information Administration, the world oil supply rose from 85.24 million barrels a day to 85.72 million. Over the same period, world oil demand dropped from 86.82 million barrels a day to 86.07 million. Not only was the short-term supply of oil rising, the demand for it was falling - which, in classic economic terms, should have brought prices at the pump down.

So what caused the huge spike in oil prices? Take a wild guess. Obviously Goldman had help - there were other players in the physical-commodities market - but the root cause had almost everything to do with the behavior of a few powerful actors determined to turn the once-solid market into a speculative casino. Goldman did it by persuading pension funds and other large institutional investors to invest in oil futures - agreeing to buy oil at a certain price on a fixed date. The push transformed oil from a physical commodity, rigidly subject to supply and demand, into something to bet on, like a stock. Between 2003 and 2008, the amount of speculative money in commodities grew from $13 billion to $317 billion, an increase of 2,300 percent. By 2008, a barrel of oil was traded 27 times, on average, before it was actually delivered and consumed.
If you've been following the revelations about regulators destroying regulations, then you won't be surprised that there is a government agency, the CFTC, in charge of protecting the market from fraudulent conduct in the trading of futures contracts. But of course, Goldman Sachs convinced the CFTC that regulations were bad, and the agency gave Goldman and other companies exemptions.

So when you read about the recent volatile swings in oil prices, and you start paying $4 a gallon at the pump again, don't believe it when Wall Street insiders say "who knew?" I think they know exactly what they're doing.

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1 comment:

Trung said...

i guess neoclassical econ didn't take greed or corruption into account this time. i wonder if goldman sachs people sat around a table during their meetings plotting out supply and demand curves; nah, i seriously doubt it :P