Are Speculators to Blame for High Gas Prices?

June 8, 2012

In a CNN editorial, Senator Bernie Sanders (I-Vt.) accused vile "Wall Street speculators" of causing a steep recent increase in crude oil and gasoline prices, arguing that were it not for their antics, American consumers would be paying significantly less for this vital resource.  Sanders never explains exactly how speculators cause high prices, nor does he offer evidence for his case, says Tyler Watts, an assistant professor of economics at Ball State University.

This depiction demonstrates a fundamental misunderstanding of the role of speculators in the market for commodities, and the important function they serve in that regard.

  • Commodity prices are volatile, especially for goods like corn and oil, where supply can vary with the weather or the geopolitical situation.
  • Producers and consumers would like some degree of price certainty so they can make reliable plans.
  • Futures markets allow sellers and buyers to hedge against the risk of price swings by locking in the future price of the good.
  • For example, an oilman whose projected costs of production are $100 per barrel could lock in a profit by selling a contract to deliver a thousand barrels in December for $109 per barrel.
  • Likewise, an oil refinery could buy the same futures contract to ensure that its cost of crude doesn't rise.
  • Speculators attempt to profit from a price movement by contracting with these parties seeking protection from risk.
  • Of crucial import, however, is that one speculator's profit is another's loss, meaning that they have little net impact on commodity prices.

Such speculators are the focus of Sanders' wrath.  His implicit argument is that they bid up the price of oil by buying lots of futures contracts, hoping to close out their speculative positions at inflated prices and take massive profits.  This depiction begets that for every futures buyer there must be an equal and opposite seller, whether a hedging producer or a bearish speculator.

In this way, speculators provide a crucial financial service: they offer information and insight regarding future prices.  Though their occupation can be characterized as a form of gambling, their actions help to check price volatility and provide risk protection to natural hedgers.

Source: Tyler Watts, "Speculators Are to Blame for High Gas Prices?" The Freeman, June 2012.

For text:

http://www.thefreemanonline.org/columns/it-just-aint-so/speculators-are-to-blame-for-high-gas-prices/

 

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