Chronic suspicion clouds thinking on oil price behavior

Bob Tippee

Unsold oil makes no money for oil producers. This insight somehow eludes adherents to the chronic suspicion that high oil prices can result only from withheld supply.

The suspicion never goes away. It's at work in analyses of current conditions, even though prominent among those conditions are rising production and efforts to increase capacity.

This writer encountered a new twist on these predispositions recently while participating in a radio-show panel discussion.

A Dutch journalist propounded that the Russian government was pushing OAO Yukos toward bankruptcy in order to suspend the company's 1.7 million b/d of production and drive up the price of oil.

To support the theory, a counterpart from Moscow offered data showing how much the Russian economy grows with each dollar-per-barrel increase in the crude price.

Suspicion confirmed. Next subject.

The problem with this analysis, of course, is that in order to bring about the supposed increases in oil price and economic growth, Russia would have to forgo 1.7 million b/d of production.

The arithmetic is discouraging.

If Moscow undertook the production cut with prices at, say, $40/bbl, its maneuver would have to raise the crude price by $9/bbl to compensate for the volume loss�to 7.5 million b/d from recent output of 9.2 million b/d.

In a market already anticipating problems, prices might not rise that much despite the supply loss. Even if they did, the gain would be brief.

In response to the price jump, demand would subside, and supplemental supply would emerge from previously uneconomic sources of production. Suspicious theorists forget that the incentive to produce strengthens as prices increase. This is the bane of cartels.

For now, of course, Moscow has things both ways: The threatened Yukos production remains on stream, and oil prices jump with every sign of disruption.

Yet to suspect that exploitation of market skittishness, rather than politics, explains the Russian government's strangulation of Yukos would require fiendish imagination.

The radio-show panelists didn't stretch that far. Like so many others, they had attached a luscious suspicion to oil prices and saw no need to think further about the subject.

(Author's e-mail: bobt@ogjonline.com)

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