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Energy is top political issue

Sam Fletcher
Senior Writer

From a record intraday high of $135.09/bbl May 22, the contract for benchmark US light sweet crudes closed at $127.35/bbl May 30, down 3.7% during the four trading sessions following the May 26 Memorial Day holiday on the New York Mercantile Exchange. For the whole of May, however, the price of crude was up 12%.

By the end of May, the average retail gasoline price exceeded $4/gal in more than a dozen US states, with the national average just a few cents below the same mark. "Prices have never been this high. California has become the first state where diesel fuel prices average $5/gal" said analysts at Pritchard Capital Partners LLC, New Orleans.

Because of public outcry against high energy costs, said Olivier Jakob at Petromatrix, Zug, Switzerland, "The price of oil has now become the No. 1 issue for politicians." Under pressure from Congress to change the limit rule or at least bring more transparency to the futures market, the Commodity Futures Trading Commission is investigating possible manipulations of energy futures prices. However, Jakob warned, "Any change of regulation on index trading will likely not materialize overnight (although the current political pressure is making for quicker than usual developments), but it exposes the long-term passive investors (pension funds) to a new risk; basically that the rules change by the time they want out, or force them out of positions." Such "system risk" should start to price a higher premium, he said.

Hundreds of British truck drivers tied up traffic in London, and fishermen blockaded ports in France in protests against high fuel prices. French President Nicolas Sarkozy proposed a European Union cap on fuel sales tax. UK Prime Minister Gordon Brown met with oilmen in Aberdeen to discuss to how to maximize production from the UK's depleting North Sea fields, including possible tax reductions. Brown increased taxes on North Sea production when he was chancellor. Two years ago, he joined other European leaders in increasing taxes on large vehicles, fuel, plastic bags, and air travel in an effort to reduce carbon emissions 60% by 2050. Now Brown pledges global action on high oil prices will be the top topic at the Group of Eight (G8) July summit in Japan.

With the current public push to reduce energy prices, some observers are saying—perhaps prematurely—that the political power of the Green Party and other environmentalists may be broken. A recent poll sponsored by the National Center for Public Policy Research, a conservative think-tank and policy institute, found 65% of US residents don't want to spend even a penny more for gasoline in order to reduce greenhouse gas emissions.

Demand destruction
"Higher prices are causing demand destruction, but only in regions where consumers see price signals," said Richard Berner, co-head of global economics at Morgan Stanley & Co. Demand for crude within the Organization for Economic Cooperation and Development in 2008 is expected to decline for the third year in a row, although perhaps by less than 1 million b/d. However, Berner said non-OECD demand led by China and the Middle East is likely to remain strong even if oil hits $150/bbl.

Demand destruction "is a much abused term, which refers to demand that is not only lost when prices rise, but that stays lost even if prices fall back to their original levels," said Paul Horsnell, Barclays Capital Inc., London. "It is a concept about an asymmetry in demand response to price movements. The reduction in OECD power and heavy manufacturing sector use of oil in the early 1980s was genuine demand destruction. However, there is no suggestion as yet that demand destruction is currently taking place, and, by definition, what was destroyed in the 1980s cannot be destroyed twice." Instead, he said, "What we are looking at in the numbers is straightforward demand reduction with no necessary implication that lower prices would not price that demand straight back in."

Jakob said, "On the demand side, Taiwan is added to the list of countries going through the process of price revisions with an increase of 16% on diesel and 13% on gasoline. India should be the next country in line to lower internal subsidies. The problem is that these budgetary imbalances have not been created by $130/bbl but by $100/bbl oil and will likely be followed by more revisions."

The South Korean government is considering cutting more oil taxes, including the tax on diesel, to help ease price pressure on households. The government lowered oil taxes by 10% in March.

(Online June 2, 2008; author's e-mail: samf@ogjonline.com)


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