Strategic Petroleum Reserve and Politics

Saurer 5-Ton Gasoline Tanker Truck (Switzerland)
Creative Commons License photo credit: aldenjewell

This comes to us via my friend J Dwight of Dwight Investment Counsel:

The dramatic and surprise coordinated announcement of the release of some 60 million barrels of oil from reserves in the US and Europe dropped oil prices some $4 yesterday to around $91 per barrel.

This decision was the most political decision made since Roosevelt arbitrarily set the price of gold every morning. There was, there is and there shall be nothing that warranted this decision, except falling poll numbers. Unless there is something truly terrible about to happen geopolitically that we are not aware of. Unless something truly bad does happen, this decision was at best misguided. Otherwise just idiotic.

Crude oil prices dropped in response, but that effect will prove to be a temporary situation.  The reserve amounts to 726.6 million barrels (@$65 billion).  Some 292 million barrels are ‘sweet’ crude and 434 are ‘sour’ crude (high sulfur).  The storage for the SPR (Strategic Petroleum Reverse) is in salt domes in southern Texas and Louisiana.

According to the DOE the average price paid for the crude in question was $29.76/barrel. There will be a ‘windfall’ profit that the government gets when it sells the crude. The DOE says that crude can be withdrawn from the SPR is 4.4 million bpd and it will take 13 days to reach the market.

The context for this decision is overtly political.  This is an act of desperation. The presidents poll ratings are plunging.  The number one concern for the American people is the lack of job growth and gasoline prices.  European politicians are in the same situation and the coordinated release shows that.  Though market participants and economists consider this to be a poor and overtly political decision.  The ‘public’ will love it though.

One must wonder when they will try the same with gold, by selling some from the 8600 tonne hoard (of the 27,000 tonne global reserve) that the US holds.

The trend long term is toward higher oil prices.  Without new drilling policies and new refining capacity, nothing will change that.

So, oil company stocks were and will be effected, short term, but their fundamentals and opportunities remain sound.

Our problem isn’t the price of oil. It is the price of poor political policies.

In other news, weekly jobless claims are showing a spike and persistently above expectations, trend.  This is not good. This indicator tends to show economic tops better than economic bottoms, but the trend is not ‘shinny’.  Bernanke, in his talk this week admitted two things, their efforts to pump start the economy hasn’t worked as well as expected and that his view of the economy is 2% growth for the second half of the year, break even after inflation.

On commodity prices, it seems that the upward trend is stalled, and they are no longer in sync with each other.  Noted commodity specialist, Dennis Gartman believes the trend is not broken, “But first it must steady itself, and secondly so too must we,…that only the pernicious political nature of the Obama Administration has wrought ill.”

 

Was Quantitative Easing A Plot to Save the Federal Budget?

I’ve never been satisfied with Ben Bernanke’s rationale for Quantitative Easing as a way to save the economy.  Did he totally forget the 1970’s where economists had to invent a new term for recessionary inflation now known as stagflation.  To me, Quantitative Easing is a recipe for stagflation.

Drawing from my GMU/public choice roots, I’ve had this hypothesis that Ben Bernanke was under political pressure to keep interest rates low no matter the costs.  In particular,with these unprecedentedly large budget deficits, the federal budget is becoming extremely sensitive to the interest rate.  The chart below, from the Mercatus Center, shows how the interest costs on the debt will absolutely explode if interest rates rise.

Chart of Federal Interests Costs Under Different Interest Rates

But, what is the direct transmittal mechanism for higher interest rates leading to higher interest payments?  That would ultimately be determined by the term schedule on federal bonds, i.e., how much debt is short-term needing to immediately rolled-over versus debt that is long-term with no immediate need for roll-over.  The shorter the term schedule, then the more at-risk is the federal budget to a higher interest rate.

Unfortunately, I did not know where to find the data on the term schedule for federal bonds.  So today I found over at No Money, No Worries a blog post with the term schedule of federal bonds.  And here we find the smoking gun.  Nearly 38 percent of the $9 trillion in marketable federal debt must be rolled-over this year and the next year (2011 and 2012)!  If interest rates were to spike over the next 18 months, it could make the Mercatus chart look downright rosy.

So for all the folks wondering if there will be a QE III they should not be looking at the health of economy.  Rather, they should be looking at factors that would otherwise force the Federal Reserve to raise interest rates . . . like a plummeting dollar for instance.  Ironically, failure to get a grip on the ballooning federal deficit is exactly the kind of event that could trigger a falling dollar . . . which would then spark QE III to lower interest rates to keep interest costs from further ballooning the federal deficit.  Does anyone see anyway off this hamster wheel?  Argh!