My discussion on the economics of war yesterday appears to have been timely. Everyone now seems to be addressing the issue.
Martin Wolf had a discussion of the subject in the FT yesterday. His concern was not so much with the cost of military action, or its human impact. It was instead focused upon the consequence for the price of oil.
So far markets have not reacted in any significant way to the weekend aggression by Iran. Instead, they appear to have been following the diplomatic line of waiting to see what Israel does next. But, if there was a marked escalation, Martin Wolf is worried about the impact of any increase in the price of oil on global financial stability.
It is his suggestion that the savings buffers that protected the economy in the immediate aftermath of the Covid crisis (others suggest fuelled inflation) have now dissipated. As a consequence, he thinks that the margins for the management of an oil shock are small.
We also all know that oil and other traders have an enormous propensity to hike prices at the least provocation, always presuming that the merest hint of a shortage provides them with an opportunity for excess profit taking.
The latter worries me at least as much as any cost of military action, given that the human impact cannot be directly measured in monetary terms. Saying so, do recall that the majority of the inflation that we saw in the period from late 2021 until early 2023 was not caused by shortages in supply. It was, instead, created by financial speculation. The consequences were dramatic, and are continuing because of the increase in interest rates that could never have addressed the speculation that caused the price hikes, but which central bankers now wish to be a permanent feature of the economic landscape.
Another bout of speculation of a similar sort is now possible, no doubt with the likelihood that it will be reinforced by the desire of central bankers to at least maintain interest rates, or even increase them. The likelihood that such speculative price increases might be necessary to address any real shortage of oil is extremely remote, as was proved in 2022. But if they happen, and the need for price increases and their happening are nit related events, then we know that central bankers are as irrational as market traders, and they will find any reason, justified or not to hike interest rates.
The risk that the threat of war could give rise to another round of recessionary inflationary activity is very real, but is utterly justified at present by any real events actually occurring in the world. The problem is that market speculation takes place in its own make believe world where we all become the collateral damage.
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“the consequence for the price of oil.”
Pricing will have an impact given transport is still largely oil-fired.
The case for gas?. UK/EU uses a combo of own (North Sea), USA (LNG) and Gulf States (LNG). At the moment in the EU, gas reserves/stores are at 90% & heading for 95%. Gas is used as chemical feedstock and for power generation. TTL Rotterdam Prices were Euro22/MWh (Feb) now Euro33/MWh. Traders will have bought futures (I say could you order me another case of Bolly) & it would be fair to say that generators also bought gas futures (the balance is usually bit of spot, 25% 3 months ahead, 50% six months etc). Thus I agree that it is speculation that is driving the price rises (given that gas demand as per normal is falling off a cliff as we head towards erm.. “summer”.
The answer (minimise specualtive impacts), at least for electricity, is to push hard to build out renewables (coupled to hydrogen production).
In the case of transport – it is possible that an avalanche of low-cost Chinese EVs will hit the market – real soon – this would leave UK own oil reserves/production as petro-chem feedstock – perhaps with gov’ regulated prices. The above would insulate the Uk from events in far-away lands.
None of this will happen either with a Tory or LINO gov’.
Commodities markets are small compared with other financial markets; the size of the US Treasury bond market is roughly 50 years of US oil consumption (at current rates/prices). So, any small reallocation can have an outsized impact… and it’s worse than that. In practice, supply is quite inelastic in the short term – you can’t transport oil or “turn on the taps” instantly – so any speculative activity can have a huge impact. Oil for immediate delivery has traded as low as -$40 (yes MINUS, if there is no storage capacity you can’t just pour it down the drain) to almost $200.
However, if you want to see where the price gouging is going on we need to look at the crack spread (the difference between oil prices and the prices of refined components) and the last few years have seen refiners doing very nicely; reduced capacity in this industry boosted margins and they have managed, on the whole, to hang on to those gains.
And, if you think it’s a problem in oil then it far worse in other markets for metals and foodstuffs.
All agreed
With the possible exception of places like Norway, it seems to be an observable reality that great oil wealth and the propensity for instability and violence are always found in the same places. The USA currently looking as if it could be in the process of succumbing to the same problems.
How wonderful it would be to live in a world run on sustainable energy where places like the Middle East could be left to sort out its own problems.
@Paul Langston,
“it seems to be an observable reality that great oil wealth and the propensity for instability and violence are always found in the same places. The USA currently looking as if it could be in the process of succumbing to the same problems.”
As a Yank, I must respectfully disagree. The propensity for political instability and violence is all due to themany culture wars. The culture wars are present at every level of government in the USA: Federal, State and Local. The USA can be divided into roughly three groups. I will use Britt terms to describe though it is not an exact match. Roughly 49% of the US electorate are in varying degrees what Richard calls Social Democrats, 26% are hard core MAGAts (White Christian Nationalist though they only attend church Christmas, Easter and one time at random), the other 24% are the ‘I really got give a damn” damners. This 24% couldn’t care less about anything political as long as their local property tax does not increase. Also, membership in any of these groups is NOT tied to the amount of wealth or income one possesses.
The old Republican party of Nelson Rockefeller, Ronald Reagan and John McCain is DEAD.
The USA is currently a net energy EXPORTER. The world price of a barrel of crude oil is NOT effecting the propensity for political instability and violence no matter what the professional and non-professional “Talking Heads” on television and social media may spout out for 90 seconds of attention.
I know this as I live in Florida which is exactly politically split 49%, 26% and 24%. A good UK example of this split would be BREXIT. Let us not forget that the BREXIT referendum was fought on culture fear NOT economics.
Thanks
Robert Reich has been quoting that 60% of inflation has been down to price gouging and excess profit taking as far as the US corporate sector goes..
Not sure how he has extracted this figure. He blames monopoly and oligopolistic power.
US corporate profit margins are over 15% and at an all time high.
The average profit margin for the top 10% of UK firms has risen from about 19-28% since 2005.
Any pseudo oil crisis will simply feed into this greedflation mindset.
I recall he did cite his sources….