Libya, Where We Find Out If Barack Obama Is Smart (But Even Better, Lucky)

-by Doug Kahn

There’s a 99% chance the United States is going to use military force in Libya unless Quadafi leaves soon, and the oil-exporting capacity of the Middle East returns to normal. The leap in the price of gasoline in the United States threatens the reelection of Barack Obama, and he’s not about to let that happen.
 
The sticking point, the delay right now, is related to the bubble in oil futures. Futures in crude oil have gone from $85 a barrel to $106 in the last three weeks, a 30% increase, while the price of regular unleaded averages $3.50 a gallon in the United States, up 15¢ in the past week. Please don’t ask why the expected price of oil in the indefinite future affects the price of gasoline today, because it doesn’t. The rise in price is a combination of profiteering by the oil companies and their monopolistic control of the refining and gasoline delivery system in the United States. We should understand that the oil companies have decided that Quadafi has to go, therefore the inflation if a win-win situation for them. The price of gasoline goes up, Obama’s reelection is threatened, the United States gets rid of Quadafi, it’s that simple. If gas stays high, the economy slows down, so the spot price of crude has to settle down, or else. 

What do oil futures have to do with the timing of our intervention? An immediate intervention would cause the bubble to pop. You can’t have prices go down that fast without some risk of another crisis in the world financial system. The perception of that risk causes money to flow to gold, dragging up other commodities, and so on and so forth. Here we see the danger of not quickly instituting controls on derivative trading, despite the recognition that uncontrolled speculation was the major cause of the housing bubble and its subsequent collapse. Until a solid global recovery takes hold, there will continue to be a staggering amount of cash sloshing around looking for opportunities. Since the economies of China and India are bound to keep growing, because of the raised expectations of billions of people in those countries, the prices of most commodities can’t help but increase for years to come.  

A rising market is a perfect place to make short-term bets, which is what futures do; they’re unprotected wagers on the future price of a commodity. If you’re confident there’s a floor to oil prices, you imagine there’s less risk in futures. (Actually, a great deal of the speculative pressure on prices comes from options on futures, a ‘safer’ bet because your potential loss is limited by the price of the option.) And these traders are extremely confident of a floor, based upon the insatiable need for gasoline in China and the rest of Asia, where the pent up desire of hundreds of millions of people for a first car is not going to go away. It’s a story that we don’t see in the U.S., where consumers are putting off the purchase of replacement vehicles. 

Add to that the uncertainty over the stability of governments in oil-producing countries like Saudi Arabia, which pumps over 10% of the world’s oil, and it’s almost guaranteed that a small reduction in supply (half of Libya’s usual production, about 1% of the world oil market) is enough to cause everyone with a substantial amount of cash, and nowhere to put it where it’s safe, to at least think about buying on the way up. Once prices start rising quickly, the money piles in from everyone who doesn’t want to miss a lucrative rally.  

This is ‘stupid’ money. If there’s a floor, you buy on the way down and sell on the way up; buying on the way up risks a sudden drop, which is sure to occur if we extract Quadafi too quickly. If all the bubble were due to futures buying, the worries over the world economy wouldn’t be so severe, because for every loser in that kind of wager there’s a winner; the market matches buyers and sellers. If, on the other hand, hundreds of billions in options (and hedged positions, which aren’t so different) suddenly become worthless, you have a transfer of wealth from individuals to financial institutions, who have an extremely poor record of investing in job-production, especially recently. The world economy tanks again. If income distribution hadn’t become so incredibly top-weighted in the past 20 years, we might avoid this problem. We’ve got way too many stupid people with way too much money to burn.
 
The administration’s new position that regime ‘alteration’, not regime change, is better for countries in the Middle East, makes sense in this context. Best not to give either the entrenched dictator or his opposition an immediate incentive to sabotage national income by destroying the country’s oil production capacity. When and if the transition is completed, the incentive for increased production will be overwhelming, in my opinion, anyway. The new rulers, whether they’re a recycled old guard element or the leaders of some kind of actual democratization movement, will have to ‘spread the wealth’. The price of a barrel of oil is so far above the OPEC target price already that noone is going to complain about a country pumping more than its scheduled allotment. 

I guess it’ll take another week for Quadafi to go, and a no-fly zone may not be necessary. Obviously, Obama’s preferred scenario is an orchestrated build-up of expectations for a no-fly zone without the actual imposition of such. Imagine the danger to his reelection if planes go down and pilots are captured and mistreated. This is one of those times when we could use a President with the consummate luck of a Bill Clinton, who waged an air war over Kosovo for 10 weeks in 1999 without a single plane being shot down, by official accounts; one helicopter went down by accident, not in hostile territory. Kevin Reichert and David Gibbs, the pilots, were killed.