With oil at $135 a barrel - up 463% since January 2001, Washington wrings its hands and says there's nothing it can do to lower the price. I think that's nonsense. There are two things that Washington can do today to get the price down: raise interest rates and close the swaps loophole.

What is the role of speculators in the price of oil and other commodities and what should be done to get those prices down? Some argue that oil prices are set by supply and demand. But if that were true, oil would drop because global demand is forecast to grow 1.2 million bbl/day -- and demand in the U.S. is down 300,000 barrels a day -- while global supply is expected to rise 2 million bbl/day.

Perhaps sixty percent of trading volume in oil is due to speculators -- these traders bet on a declining dollar and a rising price of oil. Raising interest rates would help lower the value of the dollar which has lost 70% of its value relative to the Euro since January 2001. Our Fed Funds rate fell from 5.25% to 2% since last August whereas in Europe, their rate is 4% and expected to rise. This difference makes Euros a more attractive currency for investors. So if the U.S. raises interest rates, people will start to buy dollars instead.

Continue reading Two quick steps to lower the price of oil

Two quick steps to lower the price of oil originally appeared on BloggingStocks on Thu, 12 Jun 2008 10:00:00 EST. Please see our terms for use of feeds.

With oil prices at $130 a barrel, The Washington Post has finally picked up the story about how a regulatory loophole allows hedge funds and other institutional investors to control unlimited quantities of oil contracts. Over the last few weeks, I've posted about this topic here and here. Nobody seems to know how much of the oil trading these speculators control, but I came across one source that put the figure at 60%.

The so-called swaps loophole is promulgated by the Commodity Futures Trading Commission (CFTC) which has exempted investment banks from rules that limit speculative buying, a prerogative traditionally reserved for airlines and trucking companies that need to lock in future fuel costs. The CFTC also waived regulations limiting trading in overseas markets.

The CFTC is complaining that it needs more resources. It claims that commodities trading has exploded in complexity and popularity growing six-fold in trading volume since 2000. But the CFTC's staff has dropped to its lowest levels in its 33-year history. According to CFTC acting Chairman Walter Lukken, "We could hire an extra 100 people and put them to work tomorrow given the inflow of trading volume."

I think the CFTC should close the loophole and get the people it needs to do its job. If the speculators can't find a way around the closed loophole, their share of oil trading volume will drop. Then we'll see what happens to the price of oil.

Peter Cohan is President of Peter S. Cohan & Associates. He also teaches management at Babson College and edits The Cohan Letter.

Why is oil at $130? originally appeared on BloggingStocks on Fri, 06 Jun 2008 08:35:00 EST. Please see our terms for use of feeds.