Wednesday, July 02, 2008
I read the article by Martin Feldstein, one of President Reagan's economic advisers, linked by the headline above last night, and I thought it was a powerful argument.
Unlike perishable agricultural products, oil can be stored in the ground. So when will an owner of oil reduce production or increase inventories instead of selling his oil and converting the proceeds into investible cash? A simplified answer is that he will keep the oil in the ground if its price is expected to rise faster than the interest rate that could be earned on the money obtained from selling the oil. The actual price of oil may rise faster or slower than is expected, but the decision to sell (or hold) the oil depends on the expected price rise.
That seems common-sensical; and if he's right, his solution makes sense:
Now here is the good news. Any policy that causes the expected future oil price to fall can cause the current price to fall, or to rise less than it would otherwise do. In other words, it is possible to bring down today's price of oil with policies that will have their physical impact on oil demand or supply only in the future.
In other words, massive new drilling, such as the north shore of Alaska and offshore, also major improvements in fuel economy, also the "flex fuel" idea that would mandate or incentivize auto makers to build their cars so they can run on a variety of fuels, even mixed together -- so that we don't have to wait until we have a network for distributing and selling alternative fuels first before we expect to sell cars that run on them. Instead, build cars that run on many fuels, then sell them; they can run on gasoline, while we build the service stations that sell the alternatives.
Read the entire article, then I invite you back to offer your take on the argument. Maybe there's a flaw in it I missed.