This morning the President announced that the US would release 30 million barrels from the US Strategic Petroleum Reserve. At the same time, The International Energy Agency announced that it would release 30 million additional barrels of oil from global stockpiles. In February we worked with Rep DeLauro on a letter, later signed as well by Reps Markey and Welch, to the President asking for consideration of an SPR release to deal with the loss of production from Libya. Libya’s 1.9m bbls a day of production was being significantly reduced due to the insurrection that was beginning at that time and continues to this day.
Given the turmoil in Tunisia, Egypt, Bahrain, Libya and other nations in North Africa, calming the markets by reassuring them that between increased production and/or releasing stockpiles into the markets the loss of Libya production would be replaced made some sense. So why do it now, five months later?
The timing of this move comes just days ahead of the end of the Federal Reserve’s second quantitative easing program. The Fed’s intervention in capital markets by pumping billions of new dollars into the financial system and driving down the value of the dollar has been a driver of devaluing the dollar and inflating food and energy commodity prices. Ending quantitative easing means a stronger dollar, which can reduce energy and food commodity prices. The SPR release will be small and short-term, as the 2 mil bbls a day of crude will be on the market for 30 days against roughly 85 mil bbls a day of world production. Hence, the impact of this SPR release will likely calm markets but not have a significant impact on prices.
The thing is, crude prices were already headed down after the Bernanke non-press press conference this week and the Fed’s dim view of the economy and its immediate future. The announcement of an increase in first-time jobless claims added to the dim view of the economy. Markets viewed Bernanke’s comments as bearish and commodity markets reacted accordingly, and headed downward.
In explaining the move, the IEA said the releases would amount to 2 million barrels per day. The IEA said the intent is to replace Libyan crude missing from the market, adding that it said there is increasing likelihood of summer oil supply shortfalls, especially in China, where petroleum demand is up 9% over last year and chronic electric power shortages have forced Chinese to turn to diesel generators. Some economists have predicted that shortages this summer could drive crude up to record highs.
The coordinated nature of this move indicates that planning has been underway for some time. Last week came the revelations that Saudi Arabia had in the weeks running up to the recent contentious OPEC been in secret talks with the Obama administration to balance Libyan outages by swapping light crude out of the SPR in exchange for cut rate Saudi heavy crude. The light crude released into the U.S. market by the SPR will free up crude for delivery elsewhere in the world. That deal fell through, or so it seems.
Recently the Saudis seemed willing to significantly increase their production, in part to put the screws to arch-rival Iran. With Iran inching ever closer to succeeding in its nuclear weapons ambitions, the U.S. and Saudis will necessarily be looking at all options short of outright military action to bleed the mullah’s power. The Saudis, for months, have been working to increase their oil trade with China, in order to reduce Chinese reliance on Iranian crude.
The Saudis talk a good game about being able to dramatically boost their output by as much as 4 million barrels per day if need be. If that’s the case, then why didn’t they? And what happens after this initial 30-day release period is over? There’s plenty more oil in the SPR–more than 700 million barrels–and the administration says it might extend the releases. But for how long? Eventually the stockpiles need to be replaced by newly pumped crude. Maybe Libya’s production will be back on line by then. If not, and if new supplies don’t materialize, the only thing that will keep prices from shooting back up will be the demand destruction that comes with a recession.
Short-term supply interruptions, such as with Libya, can be met with increased production from existing world suppliers or by existing stockpiles. We recommended last February to consider an SPR release due to Libyan production reductions that were beginning to effect supplies, as were other political events in North Africa and the Middle East.
This is not a substitute for the longer-term requirement of the United States to unshackle the productive capacity of this country to produce more domestic energy.
Currently there is an estimated $30 per barrel fear premium of speculation in the $90 barrel of crude. Goldman Sachs own estimate being roughly the same [See http://thinkprogress.org/green/2011/04/13/174989/sachs-speculators-gas-prices/ ], it is clear that the financial markets view speculation as a major driver of increases in crude prices since late January. Washing that speculative premium out of the price of crude is what will drive down prices more certainly and for the longer term, in addition to improving US domestic production and its benefits for our economy.