As if We Don't Have Enough Bubbles

Having already addressed, earlier this week, the extent to which the "Internet prosperity" of corporate giants like Google may be a bubble about to burst, I took great interest in the analysis by Beat Balzli and Frank Hornig on SPIEGEL ONLINE entitled "What's Really Driving the Price of Oil?" This article deserves serious extended reading. However, the underlying principle is the case they make that the current price of oil has nothing to do with supply or demand and everything to do with the speculative behavior of futures trading; and this should remind us that economic bubbles are inflated when the "thin air" of speculation displaces those models of value that are based on "hard" commodities or the goods and services associated with those commodities. From this point of view, the key paragraph of the Balzli-Hornig analysis is probably the following:

Enormous amounts of money are currently changing hands in the business of oil contracts. With the American real estate debacle infecting ever larger segments of the capital markets, from stocks to bonds, investors are seeking alternatives worldwide. Oil, with its supposedly straightforward market rules and ever-rising prices, seems to be a perfect tool for spreading risk and maximizing profit. But many investors will have a rude awakening when they realize that an investment in oil, though it may look different, is no less a gamble than other types of investments.

This raises another important underlying principle, which is that any radical economic loss tends to incite desperate behaviors aimed at recovering from the loss as rapidly as possible. Anyone who doubts this principle can see it in action at just about any gaming table in Las Vegas (or at any other gambling establishment): the more you lose, the more driven you are to recover by playing the same game. Now that everyone has lost their shirts by betting too heavily on the financial sector, they are determined to recover them through oil futures. All Balzli and Hornig are doing is reminding us of the most important precept from The Money Game by "Adam Smith:" the crowd is always wrong. The only problem is that these gamblers are rarely the victims of their own bad judgment. The real victims are those for whom, as America Jones put it in a comment on one of my earlier posts, "the stock market represents a comfortable retirement rather than a fancy roulette wheel." Indeed, those victims lucky enough to have a job at all are now faced with an unpleasant choice between no longer being able to afford the commute to work or trying to live off of an enfeebled retirement fund. Meanwhile, our President told this morning's news conference that he "hadn't heard" about the likelihood of a gallon of gas costing $4. So much for all my cautionary remarks about the need for a "sense of reality!"