RALEIGH – In the midst of the cacophony of caterwauling that passes for economic journalism these days, there are at least two crystal clear voices of reason one can hear above the din: The Washington Post’s Robert Samuelson and the Wall Street Journal opinion pages. Both have published new pieces that bear on a hot political issue in North Carolina right now, offshore drilling.
At two Monday press conferences, Republican gubernatorial nominee Pat McCrory came out for lifting the federal ban on exploratory drilling off the coast for oil and natural gas. To McCrory’s argument that allowing more domestic production would help moderate prices, defenders of the offshore-drilling ban offered several responses.
One response was that adding to supply won’t help much because speculation has been more important than supply and demand effects in boosting worldwide oil prices. In his latest Post column, Samuelson explains, with extraordinary patience and restraint, that commodity futures are contracts between buyers and sellers. For every speculator betting that prices will be higher in the future, someone must be willing to bet that he’s wrong. Bidding for commodities and futures is a means of discovering information, including the breadth and depth of optimism or pessimism about some future event. To blame “speculation” for price trends, except in the very short run, is to shoot the messenger and mix up cause and effect.
Samuelson points out that the recent run-up in oil prices is part of a larger trend in commodity prices:
Speculator-bashing is another exercise in scapegoating and grandstanding. Leading politicians either don’t understand what’s happening or don’t want to acknowledge their own complicity. Granted, raw material prices have exploded across the board. From 2002 to 2007, oil rose 177 percent, corn 70 percent, copper 360 percent and aluminum 95 percent. But that’s just the point. Did “speculators” really cause all those increases? If so, why did some prices go up more than others? And what about steel? It rose 117 percent – and has increased further in 2008 – even though it isn’t traded on commodities futures markets.
These price increases are acting as signals, telling us two significant things worth doing something about. The first is that, globally, demand for the raw materials of economic growth has been soaring and, more importantly, is projected to outstrip supply in the future if current trends continue. Again, this is true for diesel, gasoline, and other petroleum derivatives, but it’s also true for food, feed, construction materials, and basic metals. It’s essentially good news that China, South Asia, Latin America, and other developing economies (except for, tragically, most of sub-Saharan Africa) are continuing to grow at a rapid pace. It’s bad news if governments use regulations and other interventions to discourage producers from responding to these prices by bringing more oil, food, and other commodities to market.
The second thing we’re being told is that the American dollar is too weak. The Federal Reserve overreacted earlier in the decade and expanded the money supply to engineer an artificial reduction in interest rates, with disastrous consequences. It sucked excessive capital into housing, producing more inventory than consumers could really afford. Because oil and many other commodities are typically traded in dollars, it fueled a worldwide inflation, with disruptive effects across markets and national boundaries. Remember that as the Fed was cutting rates, plenty of U.S. companies, politicians, and pundits were cheering. Now, many of the same folks are whining. Ignorance isn’t necessarily bliss.
Another argument employed against McCrory’s call for drilling (way) off North Carolina’s coast is that it wouldn’t have any effect on prices for decades. This is true only if you pretend that just the present, not the future, matters in market decisions. Actually, expectations rule. As economist Martin Feldstein explains in a new WSJ op-ed, oil producers are rational actors who are influenced by opportunity cost. They can either sell or sit on their stock of oil. It makes sense to sell today if they don’t expect oil prices to rise in the future faster than the investment returns they’d earn on the proceeds of selling the oil today. On the other hand, if they do expect oil prices to outpace the market investment return, they’ll hold onto their oil.
Given that today’s prices reflect expectations about tomorrow, it is simply false to suggest that the prospect of future oil production would have no immediate effects. “In other words,” Feldstein writes, “it is possible to bring down today’s price of oil with policies that will have their physical impact on oil demand or supply only in the future.” Such policies could include supply enhancements, such as offshore drilling, or demand reductions, such as the development of alternative fuels. Or you could mix them.
Thank goodness for Samuelson and Feldstein. Would that more of their op-ed brethren showed similar good sense.
Hood is president of the John Locke Foundation.