Who Controls the Price of Oil?

Most people do not understand what drives the price of oil but readily accept the explanation pushed by this administration that it is the unbounded greed of oil companies and their “fat cat owners.” Oil companies are publicly traded and many Americans and other foreign nationals or entities can own stock or bonds in these firms. Most economists agree that the oil industry is an oligopoly, a market dominated by a few sellers, synonymous in developed countries with “big business.” An insidious form of oligopoly, which dominates the oil industry, is the cartel. The cartel’s firms join forces to control production, sale, and the price of oil.

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OPEC, the most notable and successful cartel, controls 44 percent of the world’s crude oil production and 79 percent of world’s crude oil reserves. By restricting output, its members, Algeria, Angola, Ecuador, Iran, Iraq, Kuwait, Libya, Nigeria, Qatar, Saudi Arabia, United Arab Emirates and Venezuela, quadrupled the price of oil between 1973-1974 and 1979-1980. OPEC should not be able to burden consumers to the same extent now because large oil reserves were discovered in Alaska, North Sea, Canada, and the Gulf of Mexico. However our business-killing EPA regulations and Obama’s seven-year moratorium on drilling in the Gulf do. When oligopolists organize themselves in a successful cartel such as OPEC, prices will be higher and outputs lower. Cartels are illegal in the U.S. even though some companies such as railroad and gas pipeline transportation behave like cartels under regulations that prevent firms from undercutting prices. According to the Wall Street Journal, Exxon’s margin of profit for both oil and gas ranks #60. There are 59 more profitable industries than the oil industry. Oil and gas firms profit 8 cents per dollar of sales. Pharmaceuticals profit 20 cents and banks profit 18 cents per dollar of sales. According to the Report to Congress made in April 2008 called “Oil Industry and Profit Review,” the factors contributing to high gas prices were:

• world unrest
• increases in the price of crude oil that pushed the spot price of West Texas Intermediate (a key oil price in determining market prices)
• tight market conditions
• demand growth in China, India and other parts of the developing world
• political unrest in Nigeria, Venezuela, Iraq, Iran and other parts of the world
• the decline of the value of the U.S. dollar on world currency markets
• investment strategies of financial firms on the oil futures markets
• volatility of the world oil and financial markets

The refining segment of the market performed relatively poorly during the same period. According to the U.S. Energy Information Administration, there are 148 operable refineries in the U.S., down from 150 in 2009. Only 137 refineries are actually operating, down from 141 in 2009. Eleven refineries are idle for various reasons. The atmospheric crude oil distilling capacity is 16,937,024 barrels per calendar day of actually operating refineries. We have not built new refineries in the U.S. in the past 25 years. The last refinery built was in Garyville, Louisiana and it started in 1976. In the mid 1970s, a refinery construction was proposed in Portsmouth, Virginia. The company canceled the project in 1984 after a nine-year court battle with environmentalists. Even if we drilled more, we could not refine the excess supply of crude. There are three reasons why oil refineries are not built:

• refineries are not particularly profitable
• environmentalists fight planning and construction every step of the way
• government red tape makes the task almost impossible

According to Investor’s Business Daily, the cost of building a new refinery is $2-$4 billion. Twenty billion dollars have to be dedicated over a ten-year period to reducing the sulphur content in gasoline. Additionally, 800 different permits have to be collected. The long-term rate of return on capital is just 5 percent. "I'm sure that at some point in the last 20 years someone has considered building a new refinery," says James Halloran, an energy analyst with National City Corp. "But they quickly came to their senses." The current administration keeps pushing the euphemism “green energy” although there are no plans in the foreseeable future for such affordable energy. Any hybrid or electric car uses electricity generated with fossil fuels, including the maligned coal, which the president promised to put out of business. The electric Volt is only popular with the die-hard leftists since less than 500 were sold so far. Today’s oil prices are twice as high as they were in 2008 and nine times as high as they were in 1998. The price of oil also hinges on the perceived replacement cost of the next barrel of oil and nobody is quite sure what that price will be. In Canada, it costs $40-$60 per barrel to extract the oil from the sands. It costs Chevron $15 per barrel to deep drill crude from the Gulf of Mexico. It is even cheaper in the Middle East. The political and physical risk of extracting the oil in war zones is even higher. The volatility factor depends on the volatility of our economy. None of Obama’s economic stimulus has worked. In March, during intense fighting in Libya, he said that there was no supply shortage and rising oil prices was not a good reason to tap reserves. He changed his mind on June 23, when he released oil from our Strategic Petroleum Reserves under the excuse of turmoil in Libya. Again, it was a failed economic stimulus. Christina Romer, former White House chief economic advisor, told a crowd recently that we are in a “growth-less recovery.” Only in a liberal fantasy world is a recovery without growth. The patient is flat-lined but somehow still alive. Republicans and big business blame Obama’s drilling moratorium as a culprit in the oil price problem. Democrats blame “speculators” on the Chicago Board of Trade for soaring gas prices, particularly Goldman Sachs whose influential analysts move all markets. The Commodity Futures Trading Commission is investigating manipulation when the price of natural gas dropped 8 percent in 14 seconds in after-hour trading on June 8. The commission charged two traders with swindling $50 million in profits by manipulating oil markets in 2008. “They bought physical cargoes they did not need to artificially inflate prices while also buying derivatives so they would profit as the prices rose. They bought other derivatives that would pay off later when the prices fell – which they did after they sold the physical barrels, catching other traders off guard.” Attempting to corner a piece of the market is illegal but can warp prices for a short period, resulting in higher prices for consumers. Current world supply can also be an expression of consumption growth in China and India by more than half a million barrels of oil per day. There is a world spare capacity of 3-4 million of barrels of oil per day, which can shrink, with more consumption growth, thus resulting in higher prices. Liberals believe that supplies should be rationed through deliberate higher prices in order to protect the planet from unnecessary pollution. They are not concerned that it would stifle economic growth. Their main concern is how it would affect the re-election of Obama. To prevent a re-election loss, Democrats want to release more strategic reserves into the market in order to keep the gas price lower at the pump and thus please the voters.