Funny how oil falling below $40 is now seen as a bad sign.
For months and months we've heard from "economic experts" how the oil price was inflated and being manipulated, that they were crippling the economy, destroying families. Now those 'experts' appear to say the opposite.
How is it that people refusing to waste gas a bad thing?
Guess what: the market worked on that one!
Stocks are falling because of reasons unrelated to oil: housing bubble burst, recession, bailouts.
Megan/everyone else: I'm not sure about this connection, please explain it to me. How is oil falling linked to stocks? How is using less gasoline a bad thing for the US?
BF writes: "Stocks are falling because of reasons unrelated to oil"
You're looking at it the wrong way, it's more like oil prices are falling because of reasons linked to stocks. If the demand for products is low, then so is the demand for the oil to make the products, and therefore the price of oil falls.
I think the signal is that low oil prices suggest that future oil demand will be low resulting from slow economic activity and industrial production in the coming years.
At least falling oil prices make people (who don't sell oil) richer and help spur economic recovery. A declining stock market doesn't help much of anyone, except short sellers and very young people who are saving for old age.
This decline in oil prices will definitely reduce the pain that many people feel. Not only was it nice to get gas for $1.45 a gallon yesterday, it's also lets businesses I deal with pass the transport cost cuts on to me.
We could deal with $200.00/barrel oil. We'd adapt and overcome. When efficiency actually pays, we become more efficient. When substitutes are less expensive, we substitute. (If recycling were actually worth it, recyclers would pay us for our trash. Witness aluminum cans.)
What really messes us up is that all our investments to cope with high oil prices look foolish when the price goes back down. Continued volatility leads to uncertainty.
How smart does the Chevy Volt look when gas is $1.45/gallon?
I don't think that a decrease in demand is the only thing going on here:
"Traders said the pending expiration of oil futures contracts for January delivery at Thursday's close added to the selling pressure by pushing those who own the contracts purely for financial reasons to sell to avoid taking possession of actual oil. The pressure to make such trades has been growing lately because of rising inventories at U.S. storage facilities.
'There's no place to put the oil'"
So in other words, speculators (who we were all trying to blame for $147/bbl but were told it wasn't their fault) are having to sell contracts to raise cash, increasing supply.
Sorry, Staash, I would think oil prices fall because the dollar gains--since we're buying the oild from foreign countries, who deal in their own currency. Put another way, it would seem the rise in gas prices last year directly coincided with the falling dollar---but then again, I'm no economist or MBA.
If oil falls, wouldn't that mean that there will be cheaper prices on goods--because transportation costs and industrial costs (cost of production) will fall because the price of the fuel for transportaion and industrialization will fall? And if prices are cheaper, wouldn't demand rise?
Stock markets aren't falling simple because demand is low. the stock market has fallen for a variety of reasons---credit crunch, housing price burst, mortgage-backed securities, Madoff (perhaps), general ebb and flow. Predicting a market's rise or fall is always tenuous because it is so subjective, not objective.
Zach:
"I think the signal is that low oil prices suggest that future oil demand will be low resulting from slow economic activity and industrial production in the coming years."
---Perhaps, but couldn't also be the dollar's rise? It's gone up 20 cents against the Loonie and the Euro (roughly).
And are we really saying that the high oil prices of last summer were just market speculation that the future would be red hot? Because in that case, the prediction was dead wrong.
I think we're seeing a lot of correlation here but no concrete causation.
And are we really saying that the high oil prices of last summer were just market speculation that the future would be red hot?
I think many people were thinking this. There was this huge bet that the BRIC countries would drive demand going forward. However, all indications are that the BRIC countries will be as hurt, if not more so, by the economic crisis than the US.
Basic Fact writes:
"Stock markets aren't falling simple because demand is low. the stock market has fallen for a variety of reasons---credit crunch, housing price burst, mortgage-backed securities, Madoff (perhaps), general ebb and flow. Predicting a market's rise or fall is always tenuous because it is so subjective, not objective."
The appreciation of the dollar probably has some role in the falling prices, and people are correct in suggesting that the price was inflated by speculation. Oil has declined to less than a third of its summer peak. Has the dollar appreciated by 300% since then? Is world GDP a third of what it was over the summer? The answer to both those questions is no, so that points to speculation playing a major role as well.
As for why stocks are low, the reasons you listed above all create a lack of demand. For the last 8 years, our economy was built on credit, credit that turned out to be bad. Now that credit has dried up and cheap funds are no longer available. People can't spend what they don't have (or can't borrow), and that's what is driving demand down.
It's not speculation (well it is a little bit) it's all about the elasticity of demand. If the demand for oil is slightly above the supply the price soars, if the supply is slightly higher than demand the price plunges.
For example, if the price of gas goes from $1.59 today to $1.69 next week no one is going to change their behavior. It took a rise to $3 and $4 a gallon before people started to drive less.
With the unemployment rate going up 2% that means 3 million fewer drivers heading to work each day. Gas prices had to plunge by more than 50% to stimulate the required demand to absord the excess supply - specifically it had to plunge enough to prod OPEC to reduce supply to meet demand.
Oil has declined to less than a third of its summer peak. Has the dollar appreciated by 300% since then? Is world GDP a third of what it was over the summer? The answer to both those questions is no, so that points to speculation playing a major role as well.
No it doesn't, as jmo explains. Gasoline demand is not proportionate to change in prices or income. Gasoline demand is fairly inelastic.
Gasoline went up to $3 and $4 a gallon and we had an absolutely historic decrease in miles driven. What does "historic" mean in this context? It means about a 3.5 decrease, up to 5% decrease in the worst months (also summer months, with lots of optional vacation travel. That's an amazing amount historically, but notice that a doubling or tripling of prices only made people drive about 5% less. The same thing is true when prices go down. People drive more, but not a ton more.
Gasoline demand is thus relatively inelastic; the percentage change in demand is small compared to the percentage change in price. Like most things involving durable goods, it's more elastic over the long run, as people buy new cars or move closer to work.
When things are inelastic, we expect that the price swings a lot in response to supply changes. The price had to go up a lot to get people to use 5% less; if the economy goes down and people use 5% anyway from having less money, then the price will fall sharply as well.
Note that the same thing happens to housing prices in places where lots of planning and zoning restrictions mean that you can't build houses rapidly. An increase in demand means that prices zoom up; when demand falls off they crash back down. This is as opposed to markets like in TX and NC, where increased demand causes more housing to be built, and the price stays close to construction costs. (Of course, since housing is not easily destroyed, it can fall below construction costs, as in Detroit.)
But--the job losses certainly affect gas prices, but what about our responses?
This summer, I saw more SUVs/trucks/gas guzzlers parked in front yards with for sale signs than I ever have before. People were buying smaller cars and demanding fuel efficient ones. And people started car pooling again. And the emphasis on public transport and biking kicked in, too. Now everyone wants a prius--the memories are still fresh.
And let's not forget it's wintertime, when people drive less, so oil should have fallen a bit.
And then last summer's numbers were abnormally high, for whatever reason.
I think that consumer's reacted quickly--so quickly it caught OPEC off guard. OPEC stubbornly refused to increase production (remember?), and are now paying the price--a bottoming out market.
I thinkif gas prices stayed this or lower for a year, we'd start buying bigger cars again. But we went from $2 to $4 gas in a 5 month period. That kind of sting in the wallet takes a bit to forget.
The replies above make sense to me, but the underlying assumption is that oil demand is largely dictated by the consumer gasoline demand.
I'm curious to know what % of oil actually goes into making gasoline that's used by people to fuel their personal vehicles. I've always thought far more oil was used by industrial production and transportation.
I woudl agree with your ineleastic argument, except that merely because it took a huge percentage leap to create any small change in behavior doesn't necessarily mean that demand is inelastic.
I think an opposite argument is that gasoline was always cheaper than the demand. That would explain why american public transport systems and bicycle waysare so little used/developed as compared with European and Asia--there simply was no impetus on the majority to use them, because driving was always cheaper here. Europe and Asia extracted higher taxes to force people to change.
$4 seems to be the point where demand slightly falls and people react by demanding more efficiency--not a bad thing, in my opinion. But I could see that being the beginning---I think $6-7 would be the point when I would buy a bike for nominal trips to the convenience store. In other words, I could see demand falling rapidly at that point for most Americans, thus gasoline being elastic in demand.
I think we're seeing a lot of correlation here but no concrete causation.
Basic Fact,
I think you're absolutely correct about that. In cases such as these, people are way too quick to attach causation. It irritates me every time I hear something like "Stocks rose this afternoon on news that Obama appointed person X to position Y." It's as if the reporter went around and asked all the traders why they were buying and that was the prevalent answer. Although, since I've never been on any trading floor, it's quite possible that this actually happens. It would be news to me.
We investors in oil companies seem to be a lot less bipolar than those who speculate in the commodity itself. Compare, for example, a chart of crude prices over the last six months with a chart of, say, XOM over the same period.
"I'm curious to know what % of oil actually goes into making gasoline that's used by people to fuel their personal vehicles."
According to this article in The American, "Why Gasoline is Still King" refiners produce about 20 gallons of gasoline out of a 42 gallon barrel of crude (the writer doesn't specify what grade of crude).
Ehh, Dave, I guess I was a bit unclear. What I really want to know is what % of _all_ oil ends up in the fuel tanks of personal-use vehicles, what % is used in industrial applications, and what % is used in shipping. I think the last two categories are way more elastic WRT the overall economic climate.
I dunno, The Economist had a famous cover story when oil was at $10 or so. When the trend turned, a relieved OPEC sagely agreed on keeping the price in a $30-35 band. Well.
I don't have an exact number for you, but I'd guess the gasoline component would be a fairly good proxy for personal use (i.e., driving), since most commercial trucks probably use diesel and not gasoline.
And are we really saying that the high oil prices of last summer were just market speculation that the future would be red hot? Because in that case, the prediction was dead wrong.
Remember when everyone kept buying all those houses and condos thinking that the price was always going to rise and they'd be able to sell in the near future for a big profit?
The January West Texas Crude contract ended trading yesterday in the $38 area. The Feb contract however was around $42. Brent crude is in the $47 area.
I do not know where crude is trading on the cash market.
What I am saying is that the sub 40 number was a technical matter having to do with the experiation of a futures contract. What surely happend is that there were a lot of small speculators with losing long positions who waited till the moment to get out.
This AM the Feb contract, the new lead month is trading near $42. All in all a bunch of quibbling I suppose. The important thing is that after a brief rally oil is testing the lows made two weeks ago. US oil, not world oil. We could very well go lower from here but then too this could be a solid intermediate low. Breaking some even number, 40 in this case is interesting, not important.
Oil could to to 20, who knows. The nature of commodities is that they always drop to the bottom where the last marginal trade occurs in the cash market. The rise to 150 was driven by speculators in what was the last bubble, the echo bubble, or the age of bubbles, which is now over for a generation,
This does not mean peak oil isn't true. It just means a few percent drop in demand because of world wide recession has left the world with a tiny surplus in the cash market.
One thing about this is that it has absolutely devastated the Russia which 4 months ago was supposedly back on the rise.
Keep in mind that both Clinton and Obama were proposing economic plans last summer that relied rather a lot on stinging the oil companies for their "windfall" profits.
Now that those profits are likely to be much, much smaller for the next couple years (if not negative), President-elect Obama is probably going to have to rethink his entire plan.
except that merely because it took a huge percentage leap to create any small change in behavior doesn't necessarily mean that demand is inelastic.
Actually, it does. That's what "inelastic" means.
However, I agree with your later point that elasticity of demand could be inelastic in certain ranges (say $1.50-$3.00) but more strongly elastic in other ranges. Perhaps indeed as gas gets from $4 to $6, the percentage quantity demanded decreases more rapidly.
And the long term elasticity is always greater-- someone may just suck it up if it's a "typical summertime increase" that they expect to go back down, but if the expectation is "the era of cheap gas is over," they may sell their SUV and buy a Prius.
The oft-cursed "speculation" was largely people speculating in the ideas that:
1) Peak oil is right, and
2) Demand was inelastic, so people wouldn't change their quantity of oil demanded easily.
However, demand changed more quickly than the speculators assumed, which is a large part of why prices have crashed. Oil demanded is still inelastic, but more elastic than some people thought.
There is a negative feedback mechanisms here-- people choosing to drive less reduces quantity demanded, which in turn reduces prices and causes some people to drive more. That's why personal virtue is unlikely to have a strong effect, as the oil you save will be used by others. To really reduce quantity demanded, you need higher prices. To really conserve more than what's available requires a tax. (Or a hidden tax, like an effect cap-and-trade.)
KM: Funny how oil falling below $40 is now seen as a bad sign.
For months and months we've heard from "economic experts" how the oil price was inflated and being manipulated, that they were crippling the economy, destroying families. Now those 'experts' appear to say the opposite.
There are several things going on here:
- firstly, bad news catches people's attention, so the media tends to report bad news preferrably. Thus when prices are high, the media has an incentive to find experts who will say that this is a "crisis" and when prices are low, the media has an incentive to find different experts who will say that this is a "crisis". This tendency is not confined to oil. Both set of experts may be genuine in their beliefs and all that differs is which one gets reported. And of course some commentators may give alarmist quotes for the conscious purpose of getting their names in the paper.
- secondly, the difference in prices is extreme. Prices in July 2008 were $147/barrel. Prices now are below $40/barrel. This leaves a large area in the middle where any given expert could pick a price which they believe balances damage to the economy from high energy prices versus incentives for long-term investment in alternative energy sources. If such an expert has such a view, then a price too low can be as bad as a price too high, like people can die from both very cold temperatures and very hot weather.
- thirdly, to some extent this drop is apparently a reflection of views about the economy for the near future. Which is just depressing even if you don't think that there is a sweet spot for oil prices as in my second point.
Basic Fact is wrong. We're wasting more fuel than before, that's a big part of why the economy is down. We've been getting less fuel efficiency these last three years, since prices went up. People don't respond well to excessive penalties, just like excessive rewards. An extreme example is Learned Helplessness.
The correlation of gas prices and efficiency has gone negative. We only see reductions in consumption due to forgone economic activity. We actually get less done with the same amount of fuel when gas prices go up, for several reasons.
1.People are at their limit of how much driving they will tolerate. This means we get giffen behavior when gas prices increase. People spend more time driving for work, when there’s lot’s of traffic, just to get ends to meet, and shift driving away from less congested times.
2. People have big misconceptions about what is efficient. Driving slower saves fuel, when your driving above 55mph. Below 40mph, driving faster is more efficient. Accelerating faster is about the same, or slightly more efficiency, than accelerating slowly. Typical car engines don’t see efficiency drop off until after 3000rpms.
3. Tragedy of the commons. About the most fuel efficient behavior you could adopt is avoiding braking. However, if you do this during congestion, you prevent cars from clearing into your queue and create more bottlenecks. Starting from a stop is the big gas waster. A stop can take 6 times more fuel than a rolling stop.
4. Unfortunately, when times are lean (which happens when gas prices are high) people return to more conservative dress and traditional work hours to compete for jobs. Keeping a job becomes even more about shitty office politics.
Gas demand is inelastic in the short term, but I think this is just because it is the most basic input of economic activity. It takes a long time for the effects to ripple out to the point that prices rise and incomes fall and people stop working and investing.
Finished motor gasoline supplied is what they call gasoline consumption.
Diesel is called Distillate Fuel Oil. That's primarily industrial use and enegry production, commercial transportation, railroads, and then individuals. According to a 2005 study, commercial vehicles make up about 7.5% of vehicle miles traveled on roads an highways (commercial vehicles get about 6.5-7mpg, so their diesel consumption is probably about 23% the size of gasoline consumption).
Wikipedia would probably give you global oil extraction. EIA might have something on how much oil is used getting it to the US.
Re: People spend more time driving for work, when there’s lot’s of traffic, just to get ends to meet, and shift driving away from less congested times.
That makes no sense at all. When gas prices go up (high enough that is) some people will shift away from driving and use public transportation. I know that's true because I did it, and so did many others. S Florida's TriRail trains had a huge surge in ridership during the gas price spike. (And now living in Baltimore, I mainly use my bike for the two mile trip to work). And what possible economic advantage does driving more often at rush hour peak times confer on anyone? Most people really don't have much choice about when they are expected at work and when they can leave (though some people are offered work at home days).
Re: Unfortunately, when times are lean (which happens when gas prices are high) people return to more conservative dress and traditional work hours to compete for jobs.
As I just mentioned above most people don't have a choice about their work hours: they are what they are. And I don't see what workplace apparel has to do with how much people drive (making more trips to Macy's or something?)
And looking at recent layofs at our firm, I don't see that traditional attire or work hours does anything for job security, Our layoffs were all about money: individuals whose salaries exceeded the norm for their responsibility level were the ones who got the pink slips. The moral is not, Don't wear khakis, but rather, Don't ask for a raise.
Funny how oil falling below $40 is now seen as a bad sign.
For months and months we've heard from "economic experts" how the oil price was inflated and being manipulated, that they were crippling the economy, destroying families. Now those 'experts' appear to say the opposite.
Sorry, I still don't get this:
How is it that people refusing to waste gas a bad thing?
Guess what: the market worked on that one!
Stocks are falling because of reasons unrelated to oil: housing bubble burst, recession, bailouts.
Megan/everyone else: I'm not sure about this connection, please explain it to me. How is oil falling linked to stocks? How is using less gasoline a bad thing for the US?
Oil can't be falling. I saw Bill O'Reilly say the speculators were coming back in and driving oil up so they can make money.
And O'Reilly knows because he said it was he that drove oil prices down by exposing the speculators when they drove oil up to $150.
The scary thing is that there are people that think Bill O knows anything about markets.
BF writes: "Stocks are falling because of reasons unrelated to oil"
You're looking at it the wrong way, it's more like oil prices are falling because of reasons linked to stocks. If the demand for products is low, then so is the demand for the oil to make the products, and therefore the price of oil falls.
KM, BF & MU:
I think the signal is that low oil prices suggest that future oil demand will be low resulting from slow economic activity and industrial production in the coming years.
At least falling oil prices make people (who don't sell oil) richer and help spur economic recovery. A declining stock market doesn't help much of anyone, except short sellers and very young people who are saving for old age.
This decline in oil prices will definitely reduce the pain that many people feel. Not only was it nice to get gas for $1.45 a gallon yesterday, it's also lets businesses I deal with pass the transport cost cuts on to me.
We could deal with $200.00/barrel oil. We'd adapt and overcome. When efficiency actually pays, we become more efficient. When substitutes are less expensive, we substitute. (If recycling were actually worth it, recyclers would pay us for our trash. Witness aluminum cans.)
What really messes us up is that all our investments to cope with high oil prices look foolish when the price goes back down. Continued volatility leads to uncertainty.
How smart does the Chevy Volt look when gas is $1.45/gallon?
I don't think that a decrease in demand is the only thing going on here:
"Traders said the pending expiration of oil futures contracts for January delivery at Thursday's close added to the selling pressure by pushing those who own the contracts purely for financial reasons to sell to avoid taking possession of actual oil. The pressure to make such trades has been growing lately because of rising inventories at U.S. storage facilities.
'There's no place to put the oil'"
So in other words, speculators (who we were all trying to blame for $147/bbl but were told it wasn't their fault) are having to sell contracts to raise cash, increasing supply.
Sorry, Staash, I would think oil prices fall because the dollar gains--since we're buying the oild from foreign countries, who deal in their own currency. Put another way, it would seem the rise in gas prices last year directly coincided with the falling dollar---but then again, I'm no economist or MBA.
If oil falls, wouldn't that mean that there will be cheaper prices on goods--because transportation costs and industrial costs (cost of production) will fall because the price of the fuel for transportaion and industrialization will fall? And if prices are cheaper, wouldn't demand rise?
Stock markets aren't falling simple because demand is low. the stock market has fallen for a variety of reasons---credit crunch, housing price burst, mortgage-backed securities, Madoff (perhaps), general ebb and flow. Predicting a market's rise or fall is always tenuous because it is so subjective, not objective.
Zach:
"I think the signal is that low oil prices suggest that future oil demand will be low resulting from slow economic activity and industrial production in the coming years."
---Perhaps, but couldn't also be the dollar's rise? It's gone up 20 cents against the Loonie and the Euro (roughly).
And are we really saying that the high oil prices of last summer were just market speculation that the future would be red hot? Because in that case, the prediction was dead wrong.
I think we're seeing a lot of correlation here but no concrete causation.
I think many people were thinking this. There was this huge bet that the BRIC countries would drive demand going forward. However, all indications are that the BRIC countries will be as hurt, if not more so, by the economic crisis than the US.
Basic Fact writes:
"Stock markets aren't falling simple because demand is low. the stock market has fallen for a variety of reasons---credit crunch, housing price burst, mortgage-backed securities, Madoff (perhaps), general ebb and flow. Predicting a market's rise or fall is always tenuous because it is so subjective, not objective."
The appreciation of the dollar probably has some role in the falling prices, and people are correct in suggesting that the price was inflated by speculation. Oil has declined to less than a third of its summer peak. Has the dollar appreciated by 300% since then? Is world GDP a third of what it was over the summer? The answer to both those questions is no, so that points to speculation playing a major role as well.
As for why stocks are low, the reasons you listed above all create a lack of demand. For the last 8 years, our economy was built on credit, credit that turned out to be bad. Now that credit has dried up and cheap funds are no longer available. People can't spend what they don't have (or can't borrow), and that's what is driving demand down.
Staash,
It's not speculation (well it is a little bit) it's all about the elasticity of demand. If the demand for oil is slightly above the supply the price soars, if the supply is slightly higher than demand the price plunges.
For example, if the price of gas goes from $1.59 today to $1.69 next week no one is going to change their behavior. It took a rise to $3 and $4 a gallon before people started to drive less.
With the unemployment rate going up 2% that means 3 million fewer drivers heading to work each day. Gas prices had to plunge by more than 50% to stimulate the required demand to absord the excess supply - specifically it had to plunge enough to prod OPEC to reduce supply to meet demand.
Oil has declined to less than a third of its summer peak. Has the dollar appreciated by 300% since then? Is world GDP a third of what it was over the summer? The answer to both those questions is no, so that points to speculation playing a major role as well.
No it doesn't, as jmo explains. Gasoline demand is not proportionate to change in prices or income. Gasoline demand is fairly inelastic.
Gasoline went up to $3 and $4 a gallon and we had an absolutely historic decrease in miles driven. What does "historic" mean in this context? It means about a 3.5 decrease, up to 5% decrease in the worst months (also summer months, with lots of optional vacation travel. That's an amazing amount historically, but notice that a doubling or tripling of prices only made people drive about 5% less. The same thing is true when prices go down. People drive more, but not a ton more.
Gasoline demand is thus relatively inelastic; the percentage change in demand is small compared to the percentage change in price. Like most things involving durable goods, it's more elastic over the long run, as people buy new cars or move closer to work.
When things are inelastic, we expect that the price swings a lot in response to supply changes. The price had to go up a lot to get people to use 5% less; if the economy goes down and people use 5% anyway from having less money, then the price will fall sharply as well.
Note that the same thing happens to housing prices in places where lots of planning and zoning restrictions mean that you can't build houses rapidly. An increase in demand means that prices zoom up; when demand falls off they crash back down. This is as opposed to markets like in TX and NC, where increased demand causes more housing to be built, and the price stays close to construction costs. (Of course, since housing is not easily destroyed, it can fall below construction costs, as in Detroit.)
But--the job losses certainly affect gas prices, but what about our responses?
This summer, I saw more SUVs/trucks/gas guzzlers parked in front yards with for sale signs than I ever have before. People were buying smaller cars and demanding fuel efficient ones. And people started car pooling again. And the emphasis on public transport and biking kicked in, too. Now everyone wants a prius--the memories are still fresh.
And let's not forget it's wintertime, when people drive less, so oil should have fallen a bit.
And then last summer's numbers were abnormally high, for whatever reason.
I think that consumer's reacted quickly--so quickly it caught OPEC off guard. OPEC stubbornly refused to increase production (remember?), and are now paying the price--a bottoming out market.
I thinkif gas prices stayed this or lower for a year, we'd start buying bigger cars again. But we went from $2 to $4 gas in a 5 month period. That kind of sting in the wallet takes a bit to forget.
The replies above make sense to me, but the underlying assumption is that oil demand is largely dictated by the consumer gasoline demand.
I'm curious to know what % of oil actually goes into making gasoline that's used by people to fuel their personal vehicles. I've always thought far more oil was used by industrial production and transportation.
John Thacker:
I woudl agree with your ineleastic argument, except that merely because it took a huge percentage leap to create any small change in behavior doesn't necessarily mean that demand is inelastic.
I think an opposite argument is that gasoline was always cheaper than the demand. That would explain why american public transport systems and bicycle waysare so little used/developed as compared with European and Asia--there simply was no impetus on the majority to use them, because driving was always cheaper here. Europe and Asia extracted higher taxes to force people to change.
$4 seems to be the point where demand slightly falls and people react by demanding more efficiency--not a bad thing, in my opinion. But I could see that being the beginning---I think $6-7 would be the point when I would buy a bike for nominal trips to the convenience store. In other words, I could see demand falling rapidly at that point for most Americans, thus gasoline being elastic in demand.
Basic Fact,
I think you're absolutely correct about that. In cases such as these, people are way too quick to attach causation. It irritates me every time I hear something like "Stocks rose this afternoon on news that Obama appointed person X to position Y." It's as if the reporter went around and asked all the traders why they were buying and that was the prevalent answer. Although, since I've never been on any trading floor, it's quite possible that this actually happens. It would be news to me.
We investors in oil companies seem to be a lot less bipolar than those who speculate in the commodity itself. Compare, for example, a chart of crude prices over the last six months with a chart of, say, XOM over the same period.
"I'm curious to know what % of oil actually goes into making gasoline that's used by people to fuel their personal vehicles."
According to this article in The American, "Why Gasoline is Still King" refiners produce about 20 gallons of gasoline out of a 42 gallon barrel of crude (the writer doesn't specify what grade of crude).
Ehh, Dave, I guess I was a bit unclear. What I really want to know is what % of _all_ oil ends up in the fuel tanks of personal-use vehicles, what % is used in industrial applications, and what % is used in shipping. I think the last two categories are way more elastic WRT the overall economic climate.
I dunno, The Economist had a famous cover story when oil was at $10 or so. When the trend turned, a relieved OPEC sagely agreed on keeping the price in a $30-35 band. Well.
Staash,
I don't have an exact number for you, but I'd guess the gasoline component would be a fairly good proxy for personal use (i.e., driving), since most commercial trucks probably use diesel and not gasoline.
Remember when everyone kept buying all those houses and condos thinking that the price was always going to rise and they'd be able to sell in the near future for a big profit?
The January West Texas Crude contract ended trading yesterday in the $38 area. The Feb contract however was around $42. Brent crude is in the $47 area.
I do not know where crude is trading on the cash market.
What I am saying is that the sub 40 number was a technical matter having to do with the experiation of a futures contract. What surely happend is that there were a lot of small speculators with losing long positions who waited till the moment to get out.
This AM the Feb contract, the new lead month is trading near $42. All in all a bunch of quibbling I suppose. The important thing is that after a brief rally oil is testing the lows made two weeks ago. US oil, not world oil. We could very well go lower from here but then too this could be a solid intermediate low. Breaking some even number, 40 in this case is interesting, not important.
Oil could to to 20, who knows. The nature of commodities is that they always drop to the bottom where the last marginal trade occurs in the cash market. The rise to 150 was driven by speculators in what was the last bubble, the echo bubble, or the age of bubbles, which is now over for a generation,
This does not mean peak oil isn't true. It just means a few percent drop in demand because of world wide recession has left the world with a tiny surplus in the cash market.
One thing about this is that it has absolutely devastated the Russia which 4 months ago was supposedly back on the rise.
Keep in mind that both Clinton and Obama were proposing economic plans last summer that relied rather a lot on stinging the oil companies for their "windfall" profits.
Now that those profits are likely to be much, much smaller for the next couple years (if not negative), President-elect Obama is probably going to have to rethink his entire plan.
except that merely because it took a huge percentage leap to create any small change in behavior doesn't necessarily mean that demand is inelastic.
Actually, it does. That's what "inelastic" means.
However, I agree with your later point that elasticity of demand could be inelastic in certain ranges (say $1.50-$3.00) but more strongly elastic in other ranges. Perhaps indeed as gas gets from $4 to $6, the percentage quantity demanded decreases more rapidly.
And the long term elasticity is always greater-- someone may just suck it up if it's a "typical summertime increase" that they expect to go back down, but if the expectation is "the era of cheap gas is over," they may sell their SUV and buy a Prius.
The oft-cursed "speculation" was largely people speculating in the ideas that:
1) Peak oil is right, and
2) Demand was inelastic, so people wouldn't change their quantity of oil demanded easily.
However, demand changed more quickly than the speculators assumed, which is a large part of why prices have crashed. Oil demanded is still inelastic, but more elastic than some people thought.
There is a negative feedback mechanisms here-- people choosing to drive less reduces quantity demanded, which in turn reduces prices and causes some people to drive more. That's why personal virtue is unlikely to have a strong effect, as the oil you save will be used by others. To really reduce quantity demanded, you need higher prices. To really conserve more than what's available requires a tax. (Or a hidden tax, like an effect cap-and-trade.)
And BTW, for any energy statistics whatsoever, the EIA (part of the DOE) is the place to go, for those who are asking questions here.
KM: Funny how oil falling below $40 is now seen as a bad sign.
For months and months we've heard from "economic experts" how the oil price was inflated and being manipulated, that they were crippling the economy, destroying families. Now those 'experts' appear to say the opposite.
There are several things going on here:
- firstly, bad news catches people's attention, so the media tends to report bad news preferrably. Thus when prices are high, the media has an incentive to find experts who will say that this is a "crisis" and when prices are low, the media has an incentive to find different experts who will say that this is a "crisis". This tendency is not confined to oil. Both set of experts may be genuine in their beliefs and all that differs is which one gets reported. And of course some commentators may give alarmist quotes for the conscious purpose of getting their names in the paper.
- secondly, the difference in prices is extreme. Prices in July 2008 were $147/barrel. Prices now are below $40/barrel. This leaves a large area in the middle where any given expert could pick a price which they believe balances damage to the economy from high energy prices versus incentives for long-term investment in alternative energy sources. If such an expert has such a view, then a price too low can be as bad as a price too high, like people can die from both very cold temperatures and very hot weather.
- thirdly, to some extent this drop is apparently a reflection of views about the economy for the near future. Which is just depressing even if you don't think that there is a sweet spot for oil prices as in my second point.
Basic Fact is wrong. We're wasting more fuel than before, that's a big part of why the economy is down. We've been getting less fuel efficiency these last three years, since prices went up. People don't respond well to excessive penalties, just like excessive rewards. An extreme example is Learned Helplessness.
I plotted the data here.
The correlation of gas prices and efficiency has gone negative. We only see reductions in consumption due to forgone economic activity. We actually get less done with the same amount of fuel when gas prices go up, for several reasons.
1.People are at their limit of how much driving they will tolerate. This means we get giffen behavior when gas prices increase. People spend more time driving for work, when there’s lot’s of traffic, just to get ends to meet, and shift driving away from less congested times.
2. People have big misconceptions about what is efficient. Driving slower saves fuel, when your driving above 55mph. Below 40mph, driving faster is more efficient. Accelerating faster is about the same, or slightly more efficiency, than accelerating slowly. Typical car engines don’t see efficiency drop off until after 3000rpms.
3. Tragedy of the commons. About the most fuel efficient behavior you could adopt is avoiding braking. However, if you do this during congestion, you prevent cars from clearing into your queue and create more bottlenecks. Starting from a stop is the big gas waster. A stop can take 6 times more fuel than a rolling stop.
4. Unfortunately, when times are lean (which happens when gas prices are high) people return to more conservative dress and traditional work hours to compete for jobs. Keeping a job becomes even more about shitty office politics.
Gas demand is inelastic in the short term, but I think this is just because it is the most basic input of economic activity. It takes a long time for the effects to ripple out to the point that prices rise and incomes fall and people stop working and investing.
No one bought a prius based on economics or finance. It was purely an emotional purchase. A fad.
Staash, Data can be found here: http://www.eia.doe.gov/oil_gas/petroleum/info_glance/petroleum.html
Finished motor gasoline supplied is what they call gasoline consumption.
Diesel is called Distillate Fuel Oil. That's primarily industrial use and enegry production, commercial transportation, railroads, and then individuals. According to a 2005 study, commercial vehicles make up about 7.5% of vehicle miles traveled on roads an highways (commercial vehicles get about 6.5-7mpg, so their diesel consumption is probably about 23% the size of gasoline consumption).
Wikipedia would probably give you global oil extraction. EIA might have something on how much oil is used getting it to the US.
Re: People spend more time driving for work, when there’s lot’s of traffic, just to get ends to meet, and shift driving away from less congested times.
That makes no sense at all. When gas prices go up (high enough that is) some people will shift away from driving and use public transportation. I know that's true because I did it, and so did many others. S Florida's TriRail trains had a huge surge in ridership during the gas price spike. (And now living in Baltimore, I mainly use my bike for the two mile trip to work). And what possible economic advantage does driving more often at rush hour peak times confer on anyone? Most people really don't have much choice about when they are expected at work and when they can leave (though some people are offered work at home days).
Re: Unfortunately, when times are lean (which happens when gas prices are high) people return to more conservative dress and traditional work hours to compete for jobs.
As I just mentioned above most people don't have a choice about their work hours: they are what they are. And I don't see what workplace apparel has to do with how much people drive (making more trips to Macy's or something?)
And looking at recent layofs at our firm, I don't see that traditional attire or work hours does anything for job security, Our layoffs were all about money: individuals whose salaries exceeded the norm for their responsibility level were the ones who got the pink slips. The moral is not, Don't wear khakis, but rather, Don't ask for a raise.