Gas prices are much too high for most Americans. It costs upwards of $60 to fill your tank, and that hurts. Obviously, it’s time to do something about it.
Today, President Obama lashed out at oil speculators. He thinks they are manipulating the price of oil and reaping huge profits at the expense of American families. He wants more money to police speculation, higher penalties when manipulation is detected, and requirements that speculators put up more money before engaging in a transaction.
The President’s comments show there is nothing new under the political sun. Years ago, Senators from grain-growing states blamed “grain gamblers” at the Chicago Board of Trade for volatility in grain prices and enjoying excessive profits at the expense of farmers. They depicted the traders as if they were the Whore of Babylon and called for increased regulation. It’s easy, you see, to blame unnamed greed-addled speculators for market volatility that, at times, is produced as the law of supply and demand operates in capitalist markets.
Does President Obama really understand how markets work? Does he know who participates in futures markets, and who might want to protect their businesses and livelihoods against potential price volatility in certain commodities?
The beauty of such markets is precisely that they give businesses a chance to hedge their bets. Consider airlines. The cost of fuel has a huge impact on their profits and losses. They’d like prices to stay stable forever — but of course, that doesn’t happen. So, they protect against higher fuel prices by buying future contracts that bet on higher prices in the future. If the prices shoot up, and airlines have to pay a lot more to fly, the profits they collect on their futures contracts offset those costs. If the prices stay at lower levels, their profits are reduced by their losses on futures contracts — but they’ve protected themselves against potentially catastrophic loss. And remember: for every airline, or municipality, or package delivery service that wants to protect against higher prices, there must be a party willing to bet, instead, that prices will go down. “Legitimate” traders can only trade if someone –one of those awful speculators — is on the other side of the transaction.
So, let’s not be too quick to blame speculation for prices that are the product of reduced supply and increased demand. Futures markets play a vital role in our economy, and allow many businesses to obtain a kind of insurance against the risks of price volatility. If they didn’t exist, we would need to invent them.