Demand for Oil to Drop?

Indications are starting to appear that the demand for oil is expected to drop.

The International Energy Agency Tuesday cut its five-year forecast for global oil demand, saying booming oil prices are causing wealthy countries' drivers to park their gas-guzzlers.

The agency also said there is "little evidence" that large investment flows into the oil futures market have sparked an imbalance between supply and demand and the surge in oil prices. In its Medium-Term Oil Market Report, the IEA forecast global demand will rise to 86.87 million barrels a day in 2008, down 1.4 million from the 88.27 million barrels it projected in last year's report. It also lowered its demand forecasts for the years 2009 to 2012, citing weaker economic growth and the sharp rise in oil prices.

I always tell my students that fixing an economic problem is a lot like treating a physical illness. You can't properly cure the illness until you accurately figure out what it is in the first place. Otherwise, you are just kidding yourself and wasting time.

I know it is popular these days to blame speculation for the rise in oil prices. Human nature loves conspiracy theories, plus it suggests that the solution to high prices is fairly easily attainable. Just regulate the speculation and you are done, with no changes required by the consumers. But unfortunately, reality does show that there is little if any evidence of speculation driving up the prices. There are as much if not more "short contracts" in the market than long positions. No, the problem has been demand surpassing supply, so price is bid up.

Well, now that prices have escalated, the Law of Demand (the more something costs the less you demand, the less something costs the more you demand) is taking effect. People are changing their consumption behavior as the price of fuel escalated and they are finding way to conserve. As time passes, you will see more and more adjustments by the consumers to their consumption behavior to cut their consumption. I ride my bicycle past several used car lots every day and I see them choked with large pick-ups and SUV's now marked way down. I see more people riding scooters and bikes. I know of several people now who have started ride sharing. Anecdotal evidence to be sure, but I think indicative of the fact that the consumer is starting to adjust.

Don't be surprised if at some time in the near future you see the price of oil plummet on the spot market. Of course, if that happens, nobody in the media will be talking about speculators doing that. No, you can find the reason for high oil prices is looking right back at you in your rear view mirror.