"Panel I of a Hearing of the Subcommittee on Oversight and Investigations of the House Energy and Commerce Committee - Energy Speculation and Regulation Part II
Statement
Thank you.
I first want to thank Chairman Stupak. Nobody in Congress has done more than Bart Stupak to really peel away the layers of the onion that are really hiding this explosion of speculation in the oil futures market. I appreciate his work and his work on the Pump Act that was introduced last week to really bring some sunshine to this.
I want to make four points: First, when the Saudi oil minister tells you you have a problem with prices, you know you've got a problem. When Jose Canseco tells you have a problem with steroids in baseball, you know you have problem. When the Saudis tell you you have a problem in the oil markets, you know you have a problem. So I'm happy we're here today to discuss that.
Second, the approach that we have taken -- both with this hearing and Mr. Stupak's Pump Bill -- is to actually do something that can have an affect on prices in the relatively short term. Some people have suggested drilling in some of the most pristine areas of the country. Even if it succeeded, it is 20 or 30 years away. Something our grandchild could possible enjoy, but we would not.
Ending rampant speculation in the oils future market has the capability of doing something for us who are approaching AARP age and above. And that is why it is appropriate for us to get to something that could actually have an impact today, this year, rather than something several decades hence.
Third, those who have argued that somehow we need to have all of this enormous liquidity in the market in order for the markets to function ignore the charts that Mr. Stupak has put up showing that the markets are drowning in liquidity. To argue that we need more liquidity is something like arguing the Iowa farmers need more liquid -- more liquidity in Iowa right now. We have a flood of liquidity in the market. We've had an explosion of speculative positions in these markets, as opposed to real physical risk associated with this. And it is clear that we have a problem, in part because of the Enron loophole.
And this is the fourth point I want to make. We really have seen this movie before. I'm from the Seattle area and a few years back, because Congress willfully turned an eye -- more importantly, the administration turned a blind eye -- to manipulation of markets in the Enron scandal, it cost my constituents literally a billion dollars on the West Coast of the United States.
And we remember very well arguing with the administration that the executive branch of the government had some obligation to rein this speculative manipulation of the market that was taking place in the dark. And the response by the administration is, no problem. There is no problem.
And I was reminded of a conversation, when I heard Secretary Bodman yesterday say -- or day before yesterday saying, there's just no evidence of speculation in this market. And so a little bell went off in my head, where have I heard that before?
Well, I heard it when we went to Vice President Cheney years ago and I pled with him to take action in the original Enron scandal because it was obvious that there was a problem in these markets. It was obvious somebody was gaming the system, and that speculation found a way to -- in fact had a price result. And I showed him a piece of paper showing that actually 32 percent of all the generating capacity in the United States was turned off one morning when there were brownouts in California. And I asked him for relief. I asked the vice president to do something to reign in this speculative manipulation that was obviously going on. And I'll never forget because he looked at me and says, "You know what you're problem is? You just don't understand economics."
Well, I think it turned out that we did understand economics, and I think we do understand liquidity, and we do understand excessive speculation, and we now understand what happens when we remove the protection of the consumers by creating this Enron loophole. And we are experiencing the results of that today. So I am very appreciative of the chairman's peeling back and shedding a little light. We know, one thing -- here's one economic principle that I know, "Bad things happen in the dark." And that's where these markets are right now, in the dark. And it's time to shed a little light on them, and I'm looking forward to this hearing. Thank you.
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EP. INSLEE: Thank you.
Mr. Masters, from my opening comments, you may have noted that I have minimal high regard for this administration's capability of dealing with this problem. And I note that it was something like nine days after you put out a suggestion in Senate testimony that we needed information to have a more transparent market. Is there any reason for the CFTC not to have engaged in this information-gathering before your Senate testimony?
MR. MASTERS: Not that I can think of, no.
REP. INSLEE: And tell me what tools with existing statutes do you think the CFTC has to at least go in the right direction in this regard?
MR. MASTERS: One of the things which I read earlier in my oral testimony that's also in my written testimony is the Commodity Exchange Act enforcing that agreement. I won't read it again, but we feel like that if you treat index speculators, which are effectively acting very much like each other -- they look like one large speculator -- if you enforce the provisions of that act through the CFTC -- and maybe that would be through the FTC; I'm not sure -- but effectively you would greatly reduce their ability to engage in index speculation. So that's certainly something that you could do right away, without -- I'm not sure you really need much congressional action there at all to accomplish that.
REP. INSLEE: But isn't it true that the CFTC for years has been issuing exemptions for these index positions with the full knowledge that there were massive positions being taken in these indexes?
MR. MASTERS: That's correct.
REP. INSLEE: Could you -- and this is an open question -- could you gentlemen compare and contrast the situation? Mr. Masters used the term "demand on demand," I think, as I understood his testimony, about the (pernicuous ?) effects of this. Does this demand-on-demand problem exist in other commodities? And could you compare this to other commodities? Should we compare it to other commodities?
MR. KRAPELS: I think a similar syndrome affects every commodity that's subject to the GSCI. The demand for paper barrels, if you will, or for paper positions or for paper contracts is a separate issue from the demand for physical barriers. And for many years we've looked at the demand for paper barrels and just asked the question, "What does it take to balance that market?"
If you have -- if you remember Econ 101, if you have a sudden increase in demand for a commodity, it's a shift in the demand curve to the right, if you remember those awful charts. And the only way that you can get that market to equilibrate is if prices go up an awful lot. And so a demand shock, which is what Mr. Masters has described for us today, is exactly what's occurred in the oil market as a result of the commoditization of oil.
REP. INSLEE: So is this -- could you explain the financialization of oil compared to the lack of financialization of other commodities?
MR. KRAPELS: Well, I think that other commodities have been financialized. What makes oil so interesting is that it is a global commodity. I think a lot of analysts of the correlation of oil prices with other economic indicators have concluded that oil makes a good portfolio addition for a lot of investors.
So a lot of thought went into the pension funds' movement into commodities. And when they moved into commodities, they moved largely into energy. From their perspective, it's a rational strategy. And unlike other speculators, there's no malice aforethought. They simply do what they have to do to keep their pensioners happy. So it's a kind of an accidental overflow, if you will, into the relatively small commodity market.
REP. INSLEE: Thank you.
Mr. Gheit, I want to ask you as far as the timing of impact. If our options are to drill in some other places we haven't drilled domestically in the United States, which I'm told will take several years or decades, and taking some action to rein in some of this excessive speculation, which will have a quicker response --
MR. GHEIT: Well --
REP. INSLEE: -- price response?
MR. GHEIT: -- we can put an end to speculation very, very quickly. We cannot produce oil out of these untouched areas very quickly.
It will take three to five years, realistically speaking, if we start today to have meaningful impact on our supply or the demand function. But speculation -- we will put an end to it in 30 days. If there is a will and there is a way to do it, we can do it.
REP. INSLEE: There is a will and we're looking for a way. We hope to get both. Thank you.
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REP. INSLEE: Thank you.
We've talked about five action -- this closing three loopholes including the Enron loophole, position limits, margin requirements, but some have argued that if we take what I consider fairly common sense actions that it would simply drive these dark markets, off-shore overseas. This would not solve the problem.
What is the response to that? Why should the United States act even though we don't have total global hegemony over this regulatory climate?
MR. MASTERS: In my opinion there are only two places in the world where you can trade oil in this way and that's the United States and the UK. If those two countries adopt similar policies, there's no other place they can go.
REP. INSLEE: Why do you say that?
MR. MASTERS: Because the tradition of having liquid futures markets has not extended to other countries. People would not park billions of dollars in Dubai.
MR. KRAPELS: I would just make comment. The reason -- you know, when people say that I think it's an empty threat and the reason that is is because the physical delivery functionality that our markets offer is very important. That helps anybody that's doing business in the United States that's transacting and their trading partners stay in the United States. We are the largest producer of food in the world. We are the largest consumer of energy in the world. So physical producers want to use and consumers want to use delivery terminals potentially in our markets. And having the physical people in our markets allows for better price discovery.
If you take away the physical folks and you just operate an exchange overseas, like you can with financial futures, it's a much different proposition. In fact, some of you just get a casino in the sky and it doesn't have any real bearing on what the actual price is of crude oil or other physical commodities should be.
REP. INSLEE: You have all portrayed an incredibly dramatic picture, I mean we're talking about 30 (percent) or 50 percent reductions in the price of oil, the economic ramifications of that are obviously stunning and all of us understand what's on the table here.
I want to contrast that to if we have relatively small increases in domestic production. You've had parameters; each of you've talked about somewhere in the 30 (percent) to 50 percent reduction price associated with excess speculation. If you had increased production, say, in the next 10 years -- a worldwide of, say, 1 percent, which represents -- if everything optimistically was perfect, drilling everywhere in the United States from offshore to the Artic to the National Mall and the South Lawn of the White House, you might get an increase of maybe 1 percent, an increase of crude production in the worldwide market.
How would that, by contrast, decrease the price of oil? Is it anywhere close, I guess the question of 30 (percent) or 50 percent reduction, so we're looking at and dealing with excess speculation.
MR. DIWAN: Well, the question is how much demand is growing, and I could suggest that if it's growing at 1 percent, probably demand will be growing at least at the same level. I mean, prices will equilibrate.
The issue here is really, it's very important to understand that if you do not have spare capacity, you have a problem in this market. And this market basically is inherently bullish because what you're creating, if any problem happening anywhere in the world at any time will mean that you have less supply than what you expected. And every time you have less supply than what you expected, and no matter how your expectations are, it means prices will go up.
MR. KRAPELS: If I put a different take on the question -- and it's a very good one. Is there anything that gives you more bang for the buck in the short term than what we're discussing today in terms of relief for consumers? And the answer is no. I think this is the biggest bang for the buck in the short term. It's where we have misgoverned our own commodity markets, and that's why I used the Pogo quote.
Long term, though, we absolutely have to do things to reduce demand and to increase supply, and I think everyone understands that. But you do that at an $80 price level and not at a $150 price level.
REP. INSLEE: By the way, I think if we really want to increase supply we need alternatives to oil. We haven't talked about that much today. We talked about, you know, a few more holes in the ground.
But if you really want to decrease the demand for oil, provide Americans an electrified transportation system. Use the A123 Battery Company to drive our cars electrically. Use the Sapphire Energy Company, which has found a way to develop ATSM-certified gasoline from algae. If you really want to decrease the price of oil, get an alternative to oil. And I can report to you that's going to happen here, because the U.S. government ultimately is going to drive those innovations. We're going to start work on that shortly.
Thank you.
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