Speculation Accusation

Story Highlights:

• Speculation has become yet another scapegoat for today's high oil prices.
• Policymakers are contemplating taxes, regulations or dissolutions of commodities futures markets.
• Speculation isn't bad—it's just a normal part of markets.
• Whatever the role of speculation, today's oil prices appear to be driven by continued strong demand and currently constricted supply—nothing that warrants extra government intervention.

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Nobel Laureate Milton Friedman once said, "If you put the federal government in charge of the Sahara Desert, in five years there'd be a shortage of sand." Friedman's admonition rings especially true today as politicians scramble to propose solutions for today's high oil prices.

In Congress' seemingly endless arsenal of blame, yet another scapegoat has been pinned for oil prices' upward march: speculators. From Capitol Hill to political bastions across the globe, policymakers are contemplating taxes, regulations or dissolutions of commodities futures markets.

Germany in Call for Ban on Oil Speculation
By Ambrose Evans-Pritchard, Telegraph

Lieberman Makes Risky Bet in Speculation-Ban Bid
By Kevin Hassett, Bloomberg

Politicians worry speculation is pushing prices beyond what is supported by supply and demand, portending an inevitable systemic collapse. But no one can say with any certainty to what extent financial speculation actually affects current prices. And, speculators don't organize to move prices—even in today's oil futures markets, some speculators are betting oil will fall.

The term "speculation" frequently takes a negative connotation today. But speculation isn't the bogeyman many fear. In fact, speculation is just a normal part of markets. Speculation in commodity markets provides transparency and reduces risk, especially in otherwise ambiguous environments. Contract sellers and buyers are brought together in a unified market. Their agreement to a certain price signals to the public what commodities are "worth." Otherwise, prices could become more volatile as buyers and sellers have to guess the true values of goods. In the real world, futures contracts help businesses of all types rationally plan investments and capital expenditures—an important function.

Yes—speculation can get out of control for certain individuals. But government intervention isn't an ideal solution. Government action just creates imbalances—perhaps driving prices even higher! And, if governments want to "ban" speculation, how would they even define it? When does normal trading become "speculation"? And who gets to make that call?

Speculation can boost or depress prices in the very short term, but the overall driving determinant of prices is the market, i.e., supply and demand. Whatever the role speculation plays, today's oil prices appear to be supported by continued strong demand and currently constricted supply—nothing that warrants extra government intervention. Treading down the path of speculation bans is a dangerous, slippery slope with uncertain consequences—now that's a speculative risk better avoided.