Friday, June 06, 2008

Update: Some Speculate that Speculating is the Problem

WaPo Article Here

According to some lawmakers and some deep-pocketed investors, speculating on the futures markets is at least contributing to the higher prices. Apparently the regulations restricting futures trading to those who actually have a stake in the market (e.g. airlines, farmers, etc.) were lifted at the behest of companies (including Enron) in 2000. So, let's see, if we account for the policy lag, let's give it about, oh, 7 to 8 years, and here we are. Look's like the neo-cons' economic policies are about as useful as their foreign policies.

Basic law of economics: if it's cheap, demand goes up; demand goes up, price goes up; price goes up, supply goes up, price goes down. Ah, but what happens when the supply doesn't go up, or actually goes down? What happens when some players think they can manipulate the market to their own ends? A bubble, that's what.

If you read the article linked above, you'll see that the main concern of a commodities bubble is the effect it might have on financial institutions. So, what does this mean to the average consumer? Did it hurt your wallet when Bear Stearns collapsed? Is Wachovia's struggling margin really making it hard to put food on the table? No.

The real fear is that there will be a run on the banks like the one that happened during the Great Depression. If people don't have confidence in their banks, those people will take their money out of the banks. However, we have the FDIC that is supposed to insure runs on banks (or at least assure those who make deposits).

No, what is going to happen, and is already happening in the mortgage markets, is that credit will become more and more difficult to obtain. This is because we have become accustomed to living beyond our means and the financial institutions that have supported our habits are running out of suckers who will buy our debt.

Ultimately, when all is said and done, I expect to see a moderate adjustment in the standard of living for the average American, the poor will suffer the most (as they always do), and the concentration of wealth that has been building over the past decade will recede a bit. Then the banks will feel a little more comfortable lending us money, and the cycle will start all over again. Welcome to the bubble-bust economy. Without fundamental changes in the way we see money and credit, it will be a self-perpetuating phenomenon.

7 comments:

Weaver Beaver said...

Sounds like a good basis for a long term energy policy.

The Blue South said...

A bubble-bust economy doesn't look so bad, so long as it affects outlying or unnecessary sectors (e.g. the ones that aren't fundamental) and as long as we appear to be on an upward trajectory. The problem is that oil is about as fundamental as it gets in this economy and volatility in the market can have disastrous effects on our ability to do basic things like heat our homes, drive to work, etc.

I doubt that oil speculating has as much to do with high prices as increased worldwide demand and that weak dollar, which is why I'm not overly concerned with calls to over-regulate the market. I wouldn't mind seeing oil investors actually get a barrel of oil for their $120 instead of a detached security, just for comedic purposes, but ultimately I think that market trading can be a good thing so long as it isn't allowed to succumb to the pressures of the herd.

If you watch the DJIA and its progeny, every time oil spikes people dump even cash-cow stocks (google, for example) and I suspect a lot of that money is flooding into the oil futures markets.

Weaver Beaver said...

A bubble-bust economy is nothing new. As for what portion of an economy the bubble will strike next, well, that's the million dollar question. It is certain however that God uses a sector rotation strategy:

One day tulips;
http://en.wikipedia.org/wiki/Tulip_mania
The next oil.

Fortunately for the smart people, there isn't anything the dumb people can do to stop bubbles, and thus, there is nothing the dumb people can do to avoid having their money taken by the smart people.

The Marxist-Leninists put a stop to the smart people taking money from the dumb people, meaning they put an end to bubbles, but they accomplished that by implementing price controls - on everything.

Were it not for those controls, the smart people would have successfully taken money from the dumb people and the Soviet economy would have worked. But then they wouldn't have been Marxists anymore.

For a good model of what happens when Marxist-Leninists lift price controls and permit smart people to take money from dumb people, examine China.

By the way, I find it fascinating that you describe Google as a cash cow stock. Its multiple is 40 and it yields 0.

Also, sellers have the option to deliver a barrel of oil or an ounce of AU, at least in Chicago.

The Blue South said...

Google has been outperforming the market for a while now. It fell to around 520 a couple of months ago and has been steadily building itself back up to the astronomical figures it was enjoying before the markets went haywire.

The company itself is in a good position to become the next Microsoft and is making good business decisions and constantly expanding and diversifying.

Google is one of the better stocks out there if you can afford the buy-in.

Weaver Beaver said...

Google lost 7 billion on its investments in the last year.

Google 52 wk. high: 750

Google beta: 2.17

Comparing Google and "the market" is as pointless as comparing a cigarette boat to a battleship.

You should go back to posting about subjects that require no quantifiable knowledge, like the philosophy of the slippery slope.

Anonymous said...

For a good model of what happens when Marxist-Leninists lift price controls and permit smart people to take money from dumb people, examine China.

Now, I'm confused. I would say that China, who had price controls on its currency, was the smart one in taking trillions of dollars US, who would then be the dumb one.

If you watch the DJIA and its progeny, every time oil spikes people dump even cash-cow stocks (google, for example) and I suspect a lot of that money is flooding into the oil futures markets

You've got it backwards; the tail is wagging the dog, and to call it "speculation" is understating the magnitude of the economic landscape. Speculators tend to make money off of fundamental changes, and not move markets themselves. Sure, supply and demand is an issue, but as most of OPEC has stated, there are no supply pressures. The bigger issue is the confluence of the fall of the dollar and the flight to quality. Unfortunately, the solutions to these two problems requires admission that our economic system has been broken for about 30 years.

Normally, the equities and bond markets move opposite of each other; when people fear a recession, they move from equities to "quality," which has generally been US treasuries. Unfortunately, because of the housing crisis and the upcoming recession, the Fed and the Congress have been printing money like it's nobody's business; the Fed through its alphabet soup lending facilities and Congress through its bailouts and stimulus crack. Additionally, the Fed has been trying to increase investment by lowering its short term rates, now down to 2 percent. All of the extra money is causing serious inflation. To maker matters worse, the government, trying to contain social security, which is indexed to inflation, has been systematically understating CPI.

In the past, the other central banks would have been willing to offset our printing presses (e.g. security reasons during the cold war), but no longer. The US can't continue to finance its twin deficits with more borrowing. It's like paying an IOU with another. Pretty soon, the world wises up.

The combination of inflation and the pounding of the dollar has led to negative real interest rates, which means that holding "quality" in the form of US treasuries means actually losing money. That leaves only one place to park cash: commodities.

Weaver Beaver said...

You sound like a series 6 annuity salesman.

Explaining the spike in commodities pricing as a function of non-existent core-inflation and a flight to quality is the dumbest thing I've ever heard.

The commodities spike was already underway when the FED was tightening and debt positions hedge rates and inflationary pressures using currency and rate derivative instruments, not commodities.

Have you been reading Wall Street Journal articles from the 1930s?