Re: Demand destruction


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(an email exchange)

On Thu, Jun 19, 2008 at 10:38 PM, Russell wrote:
>   
>   
>   SUV sales may be falling off the cliff in the US, but in China, they are red hot.
>   Sales of the large vehicles in China rose by 40% in the first four months of this
>   year. That is twice the growth rate for the Chinese passenger car market.
>   
>   Its no surprise why: The costs of petrol and diesel in China is as much as 40%
>   cheaper than US levels (which are nearly half of European prices).
>   
>   China, the second-biggest fuel consumer after the U.S, has been encouraging
>   SUV purchases via subsidized fuel.
>   
>   That now appears to be changing: The Chinese government will “increase
>   gasoline and diesel prices by 1,000 yuan ($145.50) a ton, the National
>   Development and Reform Commission said,” according to a Bloomberg report.
>   This represents a 17% price increase for gasoline and 18% for diesel. China is
>   also scheduled to raise jet-fuel prices by 1,500 yuan a ton (~25%).
>   
>   The response in Crude futures was immediate: Crude Oil fell almost $5, spurring
>   gains in the broad averages.
>   
>   Demand Destruction is now clearly upon us. Its a cliche, but its true: The best
>   cure for high prices are high prices.
>   
>   

Yes, but…
   
This also means rationing by price which means only the world’s richest get to drive SUV’s and the lower income groups have to take the bus.
   
Distribution of consumption gets skewed towards the top.
   
Interesting that much of the political left wants higher prices to discourage consumption, as its counteragenda regarding their distributional desires.

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Reuters: Look who’s buying commodities now…


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Dubai commits $250 million to shariah commodity fund

by Pratima Desai

(Reuters) A Dubai government agency said on Thursday it committed $250 million (127 million pounds) to a shariah compliant fund investing in a range of commodity hedge funds, a move that will open the way for other Islamic investors.

More efficient to leave it in the ground than pump it out and buy it back?

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2008-06-19 US Economic Releases


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Initial Jobless Claims (Jun 14)

Survey 375K
Actual 381K
Prior 384K
Revised 386K

Holding in the ‘new’ range, far from recession levels, not getting worse. Not bad population adjusted, and fiscal package just now kicking in.

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Continuing Jobless Claims (Jun 7)

Survey 3135K
Actual 3060K
Prior 3139K
Revised 3136K

Spike may be over with fiscal package kicking in, too early to tell.

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Philadelphia Fed Survey (Jun)

Survey -10.0
Actual -17.1
Prior -15.6
Revised n/a

Worse than expected, still looks to be moving off the bottom, weakness and higher prices continues.

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Leading Indicators MoM (May)

Survey 0.0%
Actual 0.1%
Prior 0.1%
Revised n/a

Slightly positive. In line with modestly growing gdp forecasts.

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Leading Indicators YoY (May)

Survey n/a
Actual -1.8%
Prior -1.8%
Revised n/a


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Re: Some crude facts


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(an email exchange)

On Wed, Jun 18, 2008 at 4:24 PM, Bob wrote:
>   
>   Warren,
>   
>   Do you have any view as to why the Saudi feel a high current oil price is in
>   their best long-term interests?

Not sure it is. They may have a political agenda of destabilizing the west.

The other possibility is that they know they have the only excess capacity, and are trying to get the price up cool demand so that they have a bit more ‘slack’ to deal with real supply shocks.

>   Obviously they make more money in the short run with a higher price, but all oil
>   consuming countries will:
>   
>   1. Reduce consumption
>   
>   2. Legislate higher fuel economy requirements on new vehicles
>   
>   3. Accelerate development of alternative fuels (wind, solar, mining H3 from the
>   moon, etc.)
>   
>   4. Expand domestic production (given that high cost oil extraction methods are
>   viable)
>   
>   5. Expand domestic production (e.g., Bush & McCain seeking access to outer
>   continental shelf)

Yes, and that would mean Saudi exports would fall, which also might be a good thing for them if they plan on increasing domestic consumption.

>   I would assume the objective function (in an operations research sense) would
>   be to maximize the total revenue earned on the sale of all oil in their
>   possession.

Yes, though the current King is probably over 80 years old and may have other agendas, as above.

>   It would seem to me the current effort to push up the prices could be
>   short-sighted for it may backfire if it brings more supply online, generates
>   research which produces a breakthrough in alternative energy development, or
>   radically reduces demand.
>   
>   Bob
>   

Yes, might be the case. But sure seems like that’s what they are doing!

warren

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Competing for fuel


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Here’s what I see happening at the macro level:

The US, for all practical purposes, was able to successfully compete for the world’s fuel supply such that nearly everyone in the US could afford to drive.

Now other populations/regions of the world where almost no one could afford to drive are increasing their ‘wealth’ and competing with us for fuel.

In these nations, like China, India, Brazil, much like in the west, the majority of the ‘wealth’ flows to the top.

These people at the top are increasingly able to afford to outbid us for fuel as they bid up the price.

Our lowest income individuals get outbid first, and it works its way up from there as total world fuel output stagnates.

This process continues as their wealth increases and a larger number of their ‘rich’ outbid our ‘poor.’

A small percentage of their much larger populations gaining wealth means a larger percentage of our smaller population gets out bid.

And rising fuel prices/declining real terms of trade further foster this effect.

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2008-06-12 US Economic Releases



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2008-06-12 Import Price Index MoM

Import Price Index MoM (May)

Survey 2.5%
Actual 2.3%
Prior 1.8%
Revised 2.4%

The Fed sees this as imported inflation pouring through the $ channel.

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Import Price Index X Petro (May)

Survey n/a
Actual 113.8
Prior 113.2
Revised n/a

Just in case you thought it was all oil.

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Import Price Index YoY (May)

Survey 17.2%
Actual 17.8%
Prior 15.4%
Revised 16.3%

The Fed sees this as a relentless assault on inflation expectations.

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Import Price Index X Petro YoY (May)

Survey n/a
Actual 6.6%
Prior 6.6%
Revised n/a

[comments]

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Import Prices TABLE (May)

[comments]

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Advance Retail Sales (May)

Survey 0.5%
Actual 1.0%
Prior -0.2%
Revised 0.4%

Another better than expected report, and the previous month revised up as well.
If anything, the Fed sees the downside risks to growth are diminishing.
Rebate checks may be doing more than the Fed anticipated.

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Advance Retail Sales ALLX (May)

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Retail Sales Less Autos (May)

Survey 0.7%
Actual 1.2%
Prior 0.5%
Revised 1.0%

Seems to be broad based spending, though still moderate.

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Retail Sales X Auto, Building Materials, & Gas Stations (May)

Survey n/a
Actual 247.7
Prior 245.7
Revised n/a

[comments]

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Initial Jobless Claims (June 7)

Survey 370K
Actual 384K
Prior 357K
Revised 359K

Back up to the higher end of the ‘new’ range, as the 4 week average remains very steady.

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Continuing Jobless Claims (May 31)

Survey 3118K
Actual 3139K
Prior 3093K
Revised 3081K

The highest report of this cycle, but still far below recession levels. Also, with GDP prospects looking up, the Fed is getting concerned that unemployment isn’t high enough to keep inflation in check.

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Business Inventories (April)

Survey 0.3%
Actual 0.5%
Prior 0.1%
Revised 0.2%

Higher than expected and prior month revised up as well. At the point in the cycle this probably indicates inventory is being built to meet higher sales expectations, rather than inventory accumulating due to sales falling short. Inventories have been on the low side, and rebuilding them adds to GDP.

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May 2008 Saudi oil output up


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2008-06-06 Saudi Oil Production

Saudi Oil Production

This does not bode well for oil prices.

Increased Saudi output means demand has increased at current prices, and the Saudis (and Russians, etc.) remain firmly positioned as ‘price setter’.

The Saudis continue to have the only excess supply, with about 1.5 million bpd excess capacity.

The Mike Masters sell off seems to be over. Actual legislative effort could cause a subsequent temporary sell off but will not dislodge the Saudis from total control.

The only thing that can dislodge their ability to set price is a net supply response in excess of 5 million bpd, which is highly unlikely in the near future.

Any efforts to increase aggregate demand to support growth will also function to support prices.

My twin themes remain:

  1. Weakness (low domestic demand supported by exports) as GDP muddles through. No recession yet, but could happen down the road should exports falter.
  2. Higher prices as Saudis remain as price setter, continuously hiking prices, and inflation continues to march higher, and our real terms of trade and standard of living continues to deteriorate.

‘Solutions’ remain:

  1. pluggable hybrids – this switches demand from crude to coal, and dislodges the Saudis from being price setter.
  2. dropping the national speed limit to 30 mph for private ground transportation. (Just heard JKG dropped the national limit to 35 mph during WWII)

Biofuels continue to link crude to food, and the political response to food shortages and markets allocating life by price is likely to continue to be ‘cash’ payments regardless of inflationary consequences. The body count is likely to exceed that of WWII over the next few years and is probably already in the millions.


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Bernanke comments


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The FOMC can’t possibly believe that a 2% Fed Funds rate is the ‘right’ rate given current CPI of about 4%, core at about 2.5%, GPD moving back up towards 2%, unemployment ‘only’ about 5%, and inflation expectations showing signs of elevating.

The 2% Fed Funds rate is only appropriate if their forecasts show as sufficiently high probability of economic deterioration and increased ‘slack’.

As Fisher and other have put it, they all believe low and stable inflation is a necessary condition for optimal growth and employment.

The Lehman issue will pass with a lot less drama than the Bear Stearns issue.

Q2 GDP forecasts are being revised up as most numbers are coming in better than expected.

Inflation continues to move higher.

The ‘Mike Masters sell-off’ in commodities will run its course, with commodities subject to competitive markets underperforming, and crude moving higher (when the smoke clears – they try not to make their position too obvious as with the Goldman sell off of August 2006) as Saudis continue as price setter.

2008-06-04 Crude Sell Off in 2006

2006 Crude Sell Off

I expect the sell off to be less than the approximate three month sell off from the Goldman index change in 2006.

Obama is looking strong, but it has been historically problematic to propose tax hikes and win the election.


News reports of Bernanke’s speech:

“Some indicators of longer-term inflation expectations have risen in recent months, which is a significant concern for the Federal Reserve,” Bernanke said in a speech to graduating students at Harvard University.

Yes. To the point. They are concerned their own actions might indicate a higher tolerance for inflation and thereby elevate inflation expectations.

“We will need to monitor that situation closely,” he said, but added there was little sign a “1970s-style wage-price spiral, in which wages and prices chased each other ever upward,” might be starting.

The 1970s were all about oil prices working through the cost side of the economy, just as they are today. And there are still many nations with weak domestic demand, weak currencies, and continuously high levels of inflation.

He said the impact of soaring oil prices has been “relatively muted” because the amount of energy used to produce a given amount of output — a gauge known as energy intensity — has fallen markedly since the 1970s.

This only extends the delay between food/energy prices and core CPI.

He also said policy-makers learned a lesson in the 1970s, in particular that they must keep long-term inflation expectations anchored to achieve low and stable inflation.

Yes, the FOMC and the mainstream truly believes this. In fact, it’s all they have regarding ‘inflation’ vs. relative value changes in their models.

“If people expect an increase in inflation to be temporary and do not build it into their long-term plans for setting wages and prices, then the inflation created by a shock to oil prices will tend to fade relatively quickly,” he said.

Again, they all do truly believe this. They see inflation as a ‘monetary phenomena’, where somehow ‘too much money chases too few goods’. That makes ‘inflation’ a demand-side issue. Price pressures on the supply-side are only ‘relative value stories’ until ‘inflation expectations’ shape ‘long-term plans for setting wages and prices’.


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Reuters: Saudi Arabia Pumps Extra Oil to Match Demand


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Saudi Pumps More Oil

(Reuters) Top oil exporter Saudi Arabia has boosted supply to help meet the world’s need for fuel and may further increase output later if needed, a senior Gulf OPEC source said on Wednesday.

Yes, they set price and then sell all that’s demanded at their price. The fact that they are pumping more means demand has increased at current prices.

OPEC’s 13 members, especially core Gulf producers, are taking their output cues from global oil demand rather than sticking to production targets, said the source familiar with Saudi thinking.

“Whenever there is demand it will be met by OPEC,” he said. “The majority of OPEC producers definitely don’t like this high oil price because it is neither in their interest nor in the interest of the global economy, and it’s especially painful for the developing world.”

U.S. crude hit a record above $135 a barrel last week, prompting consumer countries such as the United States to renew their plea for more oil from the Organization of the Petroleum Exporting Countries.

OPEC’s leading producer Saudi Arabia has been adjusting supply to match demand since August last year when prices were around $60 and it was pumping around half a million barrels per day (bpd) less than now.

Saudi Oil Minister Ali al-Naimi said earlier this month output would rise by 300,000 bpd and hit 9.45 million bpd in June. Riyadh is pumping about 9.1 million bpd this month, the source said.

Global demand is likely to increase this year by about one million bpd, with demand picking up in the third quarter, the senior Gulf OPEC source said, which explains the current Saudi production increase.

Last September OPEC agreed a 500,000 bpd increase in its formal output targets, with Saudi Arabia providing the greatest share. The group holds its next official conference on Sept. 9 in Vienna.

That’s a long way off.

Most OPEC members would like to see lower prices, but there was little they could do as the market was responding to factors beyond supply and demand, the source said. If those fundamentals dictated the price, oil would cost around $60 to $70 a barrel, the source said.

And the pundits believe this ‘source’.

The world oil market balance is similar to that in 1999, when the price was less than $20, he added.

The oil market has risen in large part because of increasing doubt over production capacity and global oil reserves, the OPEC source said.

That concern was unwarranted, he said, but helped to explain a roughly $5 premium for crude prices for delivery in 2016 compared with the prompt contract now trading at about $126 a barrel.

A wave of investment activity has also been fueled by the weakness of the U.S. currency and lower U.S. interest rates, which adds to the appeal of dollar-denominated commodities.

“This big rush to oil futures is definitely leading to higher and higher prices,” he said. “So adding more or taking less oil from the market will not change the oil price since the sentiment of investors in the futures market is pushing for higher prices.”

Everything but the obvious: Saudis are swing producers, setting price and letting quantity adjust.


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Reuters: Congress passes bill to sue OPEC for antitrust violations


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Didn’t know this would be enforceable?

House passes bill to sue OPEC over oil prices

by Tom Doggett

(Reuters) The House of Representatives overwhelmingly approved legislation on Tuesday allowing the Justice Department to sue OPEC members for limiting oil supplies and working together to set crude prices, but the White House threatened to veto the measure.

The bill would subject OPEC oil producers, including Saudi Arabia, Iran and Venezuela, to the same antitrust laws that U.S. companies must follow.

The measure passed in a 324-84 vote, a big enough margin to override a presidential veto.

The legislation also creates a Justice Department task force to aggressively investigate gasoline price gouging and energy market manipulation.

“This bill guarantees that oil prices will reflect supply and demand economic rules, instead of wildly speculative and perhaps illegal activities,” said Democratic Rep. Steve Kagen of Wisconsin, who sponsored the legislation.

The lawmaker said Americans “are at the mercy” of OPEC for how much they pay for gasoline, which this week hit a record average of $3.79 a gallon.

The White House opposes the bill, saying that targeting OPEC investment in the United States as a source for damage awards “would likely spur retaliatory action against American interests in those countries and lead to a reduction in oil available to U.S. refiners.”


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