Priming the Pump: How Wall Street Boosts Gas Prices

Last Updated Mar 21, 2011 9:26 AM EDT

Plenty of research shows that speculation by hedge funds and other investors raises the cost of gas. Said U.S. Commodity Futures Trading Commissioner Bart Chilton in a speech last week that touched on how speculators drove up the price of oil in 2008:
While I am not saying that they were the cruise control on gas or oil prices, I do think they tapped the gas pedal and prices moved up. They were a part of the price rise. Similarly, when they did get out of the markets, as the economy was melting down, prices decreased.
Mohsin Khan of the Peterson Institute for International Economics estimates that three years ago, speculation pushed up oil prices by nearly $70 a barrel. Now that linkage between Wall Street and prices at the pump is more alarming than ever: Speculation on oil futures is at a record high. As Chilton said in another presentation, since June 2008 the number of energy contracts held by such investors has risen 64 percent.

This isn't to say that speculation is inherently bad -- it isn't. It can add liquidity to markets. Short-sellers also sometimes provide an important counterpoint to the prevailing, and often irrational, bullish sentiment. But there is by now copious evidence to suggest that speculation really does boost oil and gas prices. As MIT researchers put it in examining the cause of the 2008 run-up:
The oil price is a speculative bubble.... Just ask a commuter, a trucker or an airline customer and many production and commercial firms.
Politics trumps the pump
And here's where politics and Wall Street intersect (as ever) in a very dangerous way. Although Congress is asking the CFTC to monitor and possibly limit this surge in commodities trading, the financial industry's Republican allies want to cut the agency's budget by nearly a third. This despite the fact that lawmakers on both sides of the aisle are well aware of the adverse impact of speculation on gas prices.

Roughly a dozen Senate Democrats last week urged the CFTC to crack down on oil speculation, noting that investors are flooding the market amid growing conflict in the Middle East. Since protests began in Egypt in January, they said, money managers have increased their long positions in so-called NYMEX West Texas Intermediate crude oil futures contracts by more than 35 percent, or some 75 million barrels of oil. Speculators also boosted their positions on the Intercontinental Exchange, an electronic market for trading energy commodities, nearly 50 percent. The lawmakers wrote:
There is strong evidence the recent surge in gas prices has little to do with the fundamental supply and demand for oil. Government data confirm that oil speculators are driving the price increase.
Rep. Walter Jones, a North Carolina Republican, also recently raised concerns about speculation driving up gas prices. He said in a recent letter calling on the CFTC to intervene, "While there are many reasons for the recent spike in oil prices... most oil market experts agree that excessive, unnecessary speculation by Wall Street traders is part of the problem."
Although other Republicans acknowledge as much, virtually all support the House spending bill that would effectively gut the CFTC's budget. Chilton said that would seriously hamper the agency in implementing new powers it received under the Dodd-Frank financial reform law to curb commodities speculation. Not by coincidence, it would also make it difficult for the CFTC to regulate derivatives, as also required under Dodd-Frank.

It hardly gets more cynical, or zero-sum, than that -- speculators profit by pushing up gas prices, while consumers and businesses pay though the nose. Wall Street's gain is America's loss.

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  • Alain Sherter On Twitter»

    Alain Sherter is an award-winning business journalist who has written for The Deal, MarketWatch and Thomson Financial Media.

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