Recovery on several levels

Go ahead, say it: The oil market is recovering. In the middle of last week, the futures price of light, sweet crude oil on the New York Mercantile Exchange was approaching $19/bbl. Members of the Organization of Petroleum Exporting Countries seemed serious about their Mar. 23 agreement to trim production. Inventories were falling.

For the oil and gas producing industry, these are welcome signs. But nobody wants to say it. Industry leaders act almost superstitiously reluctant to take public notice of recovery.

They have reason to act that way. The painful slump just past caught them and everyone off-guard. No one expected oil demand to stall in Asia and Latin America, effectively denying the market a year's worth of growth and promising slower growth afterward. No one wants to risk being wrong again by prematurely declaring the worst to be past.

It happened once, the industry prudently notes. It can happen again.

Reason for surprise

There's nothing wrong with caution. But the industry shouldn't get carried away with it.

Oil prices rise and fall for reasons. Demand for oil rises and falls for reasons, too. Industry leaders should not focus only on OPEC and inventory numbers to see what's happening in their market and wait nervously for "it" to happen again. Developments outside normal market calibrations have the potential to reduce chances for a repeat of last year's market crash.

The surprise Asian demand slump began in international financial markets. Unstable currencies in countries overburdened by debt came under speculative pressure and collapsed when governments gave up efforts to defend them. The devaluations shocked local economies in a process that began in Thailand and quickly spread through Asia and into Latin America. Growth in demand for oil sprawled among the casualties.

It is easy to see now but was not so at the time that the currency pressure signaled a turn in oil's high-growth market. Demand was as overleveraged as the economies underlying it. A correction had to occur. And the first manifestation of the 1997-98 correction was the series of devaluations of currencies officially linked-or pegged-to international benchmarks.

That helps explain the jolting nature of the slump. Pegged currencies camouflaged economic problems and forestalled adjustment. When the overdue adjustment occurred, it was sharp and painful.

This is the area of potential improvement now receiving attention in official quarters. Pegged currencies played villainous parts in the Asian economic drama. Indeed, countries with pegged-and ultimately devalued-currencies seem to have suffered most. Countries managing currencies in other ways, mainly through currency boards, fared better. Currency boards generally try to hold currency values within ranges rather than lock them against benchmarks. Their actions are more continuous and visible than the often secret decisions of governments with pegged money-and thus less shocking to economies.

In response to Asia's financial collapse, the International Monetary Fund plans to give preference in crisis relief to governments with sound currency management. It is emphasizing visibility of official decisions related to currency values.

In a related trend, several governments are discussing the outright adoption of solid currencies for domestic use-"dollarization," as it is called in Latin America. The proposition raises interesting issues of national pride but shows healthy concern for the soundness of money.

Shock factor

Improvement to the international financial system would help the oil and gas industry. Pressures masked by secretive efforts to defend pegged currencies aggravated the shock factor of an oil-price slump from which the industry is, indeed, recovering. Understanding those pressures and the efforts now under way to keep them from building again can help keep superstition out of the industry's analysis of its market, in which nothing ever happens without a reason.