Oil: is price hike justified?

International Energy Agency: Oil supplies sufficientWalid Khadduri Al-Hayat - 18/05/08.

In its monthly report that came out last week, the International Energy Agency (IEA) announced that oil supplies were sufficient and that the primary cause for the current big hikes in prices are the result of the attempts by industrial countries to secure sufficient oil reserves along with meeting domestic consumer demand. The International Energy Agency represents oil-consuming industrial countries in international economic circles.The IEA also indicated the growing calls to increase oil supply as the price of oil reached $125 per barrel. But do we really need more oil? The answer to this question according to the IEA lies in the fact that a closer look at the balance of supply, demand and future risks, it becomes clear that the reason behind the price hike is the increasing demand and not supply shortages.The report also indicated up to date data and forecasts confirming a surplus in oil markets during the past two months. It expected this surplus to persist throughout the year in case OPEC decided to maintain the same level of production. The IEA also added that demand rates in the US are dropping gradually and expected this decline to continue, and the same with the patterns of high demand in China and the Middle East.However, it also pointed out that consuming countries are calling up on OPEC to increase production to reduce prices. This is true, according to the IEA, since increasing production will raise the level of available reserves in consuming countries which in turn will lead to improving the performance of refineries and hence the prices of oil products. OPEC, however, asserts that supplies in the market are sufficient and that the current situation suits the increase in reserves.The IEA concluded its discussion of the subject by confirming that the past 18 months have been dedicated to the discussion of the subject: are the oil reserves of consuming countries sufficient, and is the timing of the decision to raise the reserves appropriate? It is generally believed that the market can only express its need for sufficient reserves through price. Hence, if supplies allocated for reserves run short, prices increase, and if a few consuming nations insist on a certain level of reserves, they would have to compete against consumer demand which in turn would raise prices.In addition to reserve levels, the IEA also added another factor influencing prices, namely the perceptions of traders in futures, that is, speculation.In this context, it is worth referring to what the IEA casually mentioned, namely the impact of speculations on the rapid price hikes. The New York-based Integrated Oil Update bulletin indicated that crude oil futures dealings (speculation) at New York's NYMEX and London's ICE were up from about $9.5 billion per day five years ago to almost $86 billion barrels a day last year, then to $140 billion per day earlier this year.Once again, these figure are a reminder of what OPEC ministers continue to say and confirms the credibility of their claims and arguments, namely that the record hikes in oil prices are not caused by supply shortages, and that a major factor behind these hikes is the element of speculation which does not take into consideration the demand and supply market fundamentals but rather responds more to rumors and future political and economic fears more than any other element.Speculators and investors benefit from positive or negative price speculations, depending on the nature of their investments and bets, and market dealers increasingly respond to reports published by research departments at financial institutions such as the report recently published by Goldman Sachs which warned about the possibility of prices rising to the $150-$200 range within six months to two years.