Amid Talk of Stricter Regulation of Oil Trades, Some Commodities Experts Defend Role of Speculators

Commodities traders at work at NYMEX in New York City. (image: newsday.com)

Following the Commodities Futures Trading Commission’s announcement that it intends to tighten regulations on oil speculation, the effect of speculators on oil prices is a hot a news topic as ever.

Many have called speculators the cause of the extreme volatility of oil prices. Opponents of commodities regulation say this isn’t so, and argue that regulation will reduce liquidity in the energy markets, thereby restricting trades. A market may be considered liquid if there are ready and willing buyers and sellers in large quantities. Presumably, futures contracts limits would discourage investors in the same way that bag limits discourage fishermen.

Writing for Forbes last week, Dan Fisher made a provocative comparison. “Are speculators to blame for rising prices?” he asked  “In the past, dictators like Stalin killed peasants for hoarding food. Today, whenever oil or gasoline prices rise, you can count on some member of Congress to demand an investigation.”

Fisher makes the argument that any limits imposed on trading would be based on the assumption that there is an important difference between “speculators,” who are merely betting on the change in prices, and “hedgers,” who have some legitimate reason for playing in the futures markets. Many experts, he says, consider that distinction nonsense. The airline industry, for example, has a “legitimate” reason for hedging (buying futures contracts)—it needs to lock in a specific price for fuel in order to make other important business decisions. On the other side of that trade, frequently, is a speculator. The vast majority of trades on NYMEX close without the commodity changing hands.

Fisher quotes Sharon Brown-Hruska, who was head CFTC in the Bush administration and is now an analyst with National Economic Research Associates in Washington: “Speculative limits go a long way toward quashing needed liquidity, and increase the cost of hedging and using futures markets for everyone. I do not see how they are going to lower the price of oil or gas.”
Fisher quotes several other sources on the issue including Nobel prize-winning columnist, Paul Krugman who wrote, “the fact that someone bought a futures contract (which means that someone else sold one) doesn’t reduce the amount of oil available to consume.”

Given the size of the world energy markets, Fisher says, speculators don’t have the power to successfully drive prices up. “While traders can and do manipulate prices illegally all the time, he writes, “their actions have only a short-term influence and can be distinguished from speculation.”

Gregory Mocek, chief of enforcement at the CFTC from 2002 to 2008, and now a partner at McDermott Will & Emery in Washington, is quoted as saying that, “Excess of speculation is a phrase that has yet to be defined by judges or a jury. The legal challenges to the government’s potential pursuit of excessive speculation would be interesting to watch.”
We’ll be watching and reporting on this developing controversy here on The HEAT Zone.