Thursday, July 26, 2007

Danger Signals

As of this morning, oil prices are approaching $77 per barrel after reports of low inventories in the U.S., gold prices are inching up toward $700 per ounce, the dollar is near its all time lows against the Euro and other currencies, a leading mortgage lender has declared that they are seeing growing numbers of defaults among their "prime" home equity loan portfolio, and "volatility" has returned to the stock market (i.e., it's gyrating pretty wildly, including some rather steep downward falls such as two days ago when the Dow lost over 200 points). The war in Iraq grinds on with few signs of hope that we can "win" or with any sensible prospect of withdrawing without leaving a broken and bloody mess in our wake.

One can find all these pieces of news scattered throughout the newspaper, but they are in fact intimately connected. Interest rates are rising as a consequence of rising inflation. Rising interest rates is the major contributing factor to the drop in housing prices, on the one hand, and the growing inability of debtors to pay back their adjustable mortgages - often gimmicky loans that began as "low monthly payments" and have now adjusted to punishing amounts on houses in which they have negative equity. Higher interest rates are beginning to dry up the "liquidity" that most pundits agree has been the driving force behind the recent all-time highs of the various stock indices (note that the big jumps upward have tended to be announcements of leveraged buy outs of various companies by private equity pools, i.e., "hedge" funds. While the economy is giving various signs of sputtering, the party has been almost wholly a creation of Wall Street cheap money shenanigans, with a bill coming due for some wild bets in the subprime lending market).

Inflation would seem to lie at the heart of many of these current danger signals, though official "economic indicators" tell us that inflation is largely under control. Of course, these government figures are doctored: inflation figures ("core prices") exclude energy and food prices, those basic staples of every American's budget that have been consistently rising at a brisk pace - as anyone who has been to a gas station or a supermarket can tell you. So, while the official figures tell us that inflation is within "normal" levels, the Federal Reserve continually tells us that they are concerned about elevated levels of inflation, revealing that they can't exclude energy and food any more than the average American. To even separate these two products is somewhat laughable, since the rising cost of food is largely a result of a rise in energy costs - an increase that has prompted the diversion of a significant percentage of our agricultural stock to the production of inefficient alternative fuels. Corn is a basic feedstock for meat and dairy, a primary sweetener, and underlies a lot of other unpronouncable ingredients in our mechanized food system. It's also a net energy loser as a fuel source, but the farmers aren't complaining. So, we're now sending a good amount of food through our exhaust pipes and paying a higher price for what remains on supermarket shelves.

As economic danger signals continue to rise, and the national debt balloons especially as a result of the cost of running an empire, other nations are scrambling to unload their massive portfolios of U.S. bonds (a.k.a., U.S. debt) and the dollar is tumbling as a result. Oil producing nations - predictably, Venezuela and Russia, but even our "friends," including the nation the U.S. once liberated, Kuwait - have announced that they will accept currencies other than the dollar for payment of oil. Gold prices correspondingly have risen as nations and individuals look for a currency that will retain its value in these inflationary and economically precarious times. The empire is especially so costly since the declaration of the "Carter doctrine" in 1980 that stability in the Middle East is considered to be in America's vital national interest. Stability would be bought either on the sly - by propping up various monarchs, tyrants and dictators (whose form of government we once fought to overturn in this nation), and as a consequence fomenting a backlash of resentment and hatred among native populations - or more brazenly, in the form of successive invasions and military interventions. Since that decade, America has gone from being a producer nation to a debtor nation - both publicly and privately - largely as a result of our transferral of treasure overseas.

That's why a recent report from the investment firm Goldman Sachs might be further cause for concern among those who are connecting these dots and seeing in them signs of the tottering of the American empire. If many of these danger signals are a result of rising oil prices - itself a consequence of shrinking supply in the face of growing demand - then one can draw little comfort from this analysis from a leading Wall Streeet firm. Goldman Sachs, and numerous other financial analysts, opine that $100 per barrel oil may arrive in only a few month's time. U.S. Energy Secretary Samuel Bodman is quoted as saying "There are questions about whether the oil industry can keep up with demand." Options traders are increasingly betting on a rise of this magnitude, which would compound the 50% rise of energy costs the world has seen since only 2003. While many analysts would have expected "demand destruction" by this time - a decreased use of energy in the face of rising prices - demand has actually increased even as prices have risen to unprecedented levels. A large part of the demand is coming from China and India, but demand has even increased by 3.6 million barrels per day in the U.S. "It appears that high prices are acceptable to the American consumer," said Robert Ebel, chairman of the energy program at the Center for Strategic and International Studies in Washington. "People want the house with a yard and white-picket fence so they are moving further and further out of the cities. They have to just get up earlier and drive further." What Mr. Ebel failed to mention is that growing numbers of these people are finding that ends don't meet. A sizeable number of these people are walking away from their houses and their mortgage payments, lowering the value of the houses of their neighbors and contributing further to downward pressure on the U.S. economy. Ironically, all that commuting has made the fuel scarcer and more expensive, leading to the untenability of far flung housing. We will someday marvel at the stupidity!

Some analysts acknowledge that consumers will not be able to absorb these rising costs indefinitely, and offer some investment advice - go long on Exxon and PetroChina, and short the airline industries. While one might think of this solely as an investment opportunity, the consequences in the real world are signficant: "growth" will decrease and possibly cease, and travel especially will be restrained. Our easy assumptions about a globalizing world is facing a looming obstacle of limited and increasingly expensive resources. One of the major implications of this analysis - which acknowledges that these high prices are likely to remain with us for years - is that "globalization" may simply be a temporary condition that was made possible by the last big collective chug of cheap oil. We're not going to be able to afford to travel as much, and the falling dollar will mean that we're going to have to make more stuff here at home. This is not a "postmaterialist option" (pace Peter Lawler), but an increasingly inescapable necessity. We're going to have to wake up to the fact that "postmaterialism" was a fantasy made possible above all by cheap oil, and that we're much more dependent on material than we've realized of late. While it won't be pretty, the signals suggest we're about to discover that we're not "post-" much of anything.

T. Boone Pickens - an old fashioned oil tycoon - has argued that we can only expect prices to increase, as he believes we have reached the peak of worldwide oil production. Supplies will only continue to drop, and prices will continue to rise (or "demand destruction" will occur, and the worldwide economy will go into a massive recession if not a depression.) He's made billions on this "theory." Here's what he says: "A pullout from Iraq may be the event that pushes oil to $100 a barrel." Today he is looking for $80 within six months, and he says growing chaos in Iraq would be a bad sign. "That could run prices pretty high," he said. If so - and one has to concede he certainly seems right - then it makes George Bush's unwillingness to withdraw more comprehensible, and should force us to wonder how the Democratic candidates now calling for withdrawal will handle the economic fallout of such a spike in oil prices (certainly not a call for sacrifice). Not one of our "leaders" is willing to tell us this truth, however - Bush tells us this is about WMD or democracy or fighting terrorists over there (anything but oil), and the Democratic candidates argue for withdrawal without mentioning that there may be unpleasant consequences for us, not to mention the Iraqis, as a result - because that would disrupt the consumer's desire to "own" the house with the white picket fence with three or four garages in which to park the SUVs. In the meantime our soldiers continue to die in defense of our liberty to own such big houses and drive such big cars.

So we are left for now with the steady accumulation of seemingly disconnected news items and a conspiracy of silence at the heart of which lies our loss of self-governance. We want to continue to buy liberty on the cheap, but will find that it's only going to get more expensive, and that we lack some of the necessary good habits to pay the bill.

ADDENDUM (3:20 p.m.): I guess I should watch what I say. The market is down 300+ points with a half hour remaining in the trading day. The reasons: credit market concerns and an earnings report from Exxon that showed lower crude production. As they say in the business, "past performance is no guarantee of future results..."


Nozzle said...

You could not wait to throw out the "peak oil" boogyman. I remember back in the seventies when Jimmy Carter was saying that we would run out of fossil fuels by the year 2000. Peak Oil is the new "standard" for the chicken littles of the world. Get over it...As oil becomes more expensive new technologies will begin to replace oil. Wind, solar, nuclear, and various bio-fuels have been waiting in the wings for nearly half a century. Maybe, just maybe, they will finally get their chance!

Patrick Deneen said...

Nozzle, "peak oil" doesn't mean we're running out of oil - just that we've burned through all the easy-to-get and cheap stuff. But, it's kind of funny how you start by calling it a "bogeyman" and then pretty much acknowledge that oil's going to get more expensive. FYI - that's called "peak oil." I'm sure you're right, and I'm actually glad that we'll be using lots of other (renewable) energy sources, but they don't have the same concentration of energy as oil - that's why oil became the fuel of choice. Those other energy sources aren't so much "waiting in the wings" as waiting for oil prices to get high enough to justify the smaller return on investment (smaller EROEI ratio, basically - energy returned on energy invested). Also, it's going to be hard to break our oil habit where agriculture is concerned - we basically eat oil in the form of pesticides and fertilizers, and so it's going to continue to get more expensive and possibly even scarcer. So, we're going to have to get by with less, and that will mean "shrinkage," to quote George Costanza.

By the way, I've been writing about this likely scenario for well over a year now (and many others for longer), so it's less "throwing out" a bogeyman in response to today's financial news (I wrote this entry at 4 a.m. this morning) than watching a train wreck that one could see coming two towns ago.

Nozzle said...

My point is that "peak oil" sounds a lot like the predictions made in the seventies that we would run out of oil by 2000. I personally got that information in the sixth grade around 1974. As we know, it never happened. I see peak oil as another prediction based in fear. How can we even talk about a peak unless we believe that our ability to find and recover oil will never be any better that it is today??? The peak will always be a moving target because it will evolve with production technology, hence the definition does not make any sense...

As for the end of cheap oil by todays standards, I say bring it on. It will allow new technologies to begin to relegate oil as an energy source to the ash heap of history. If it gets us away from doing business with countries that hate us and our way of life then I'm all for it.



Patrick Deneen said...

The prediction that has been borne out is that of M. King Hubbert, a petroleum geologist who predicted in 1955 that peak oil would occur in the lower 48 United States around 1971. At that point, oil production would decrease year after year, no matter how good the technology got. It would just be more expensive to get out what was left. Turns out he was right. What "never happened" was the U.S. having to cut back on gas consumption (other than the embargos in the 70s and early 80s), but the reason for this was our increasing reliance on imported oil. So, while there was some confusion in the information you received in sixth grade (which always seems to be the case), there was some smoke there.

Other geologists - such as Princeton geologist Kenneth Deffeyes - have argued that world peak production is occuring now (he's actually said we passed peak in 2005, and prices would suggest he may have been right). And, yes, technology may increase the efficiency of retrieving what remains, but it can't actually produce more. I guess you agree with that, since you seem to also suspect prices will continue to rise. By the way, the link in the post above was not to the website of some fringe "peak oilers," but investment bankers with Goldman Sachs and the Energy Secretary of the U.S. Government. You'll find more links in previous posts to other mainstream sources, all of whom regard declining energy production with some concern if not outright trepidation. One report you may wish to look at is the recent IEA (International Energy Agency) assessment, which predicts long-term falling oil production in 2010. This is about as mainstream a source that one could find.

I couldn't agree more with your last point - I am eager for the U.S. to wean itself from its addiction to the substances supplied by despotic regimes. However, I think you may be overly sanguine that we can wean ourselves painlessly or without cost. I hope you're right - I don't want my children to suffer deprivation and bear the brunt of intensifying resource wars - but prudence suggests that unbridled optimism may not be the best way to plan for the future. Look what it did in planning for the war in Iraq... (your use of the phrase "bring it on" is eerily reminiscent of the President's invitation to the insurgents). The only true law of politics that I know of is the law of unintended consequences. I think it's foolish to plan for the best case without giving thought to worse and even worst case scenarios.