As the graph on the left illustrates there was a sharp spike in the price of oil from February 25, the day after Russia invaded Ukraine, which peaked on March 8, declining from then until yesterday. It has started rising again.
What’s happening? It should be noted that there was a very similar spike in 2008. Back in 2012 Brett W Fawley, Luciana Juvenal, and Ivan Petrella of the St. Louis Federal Reserve Bank identified several reasons for variations in the price of oil:
- Global Supply
- Global Demand
- Oil Inventory Demand
- Speculation
in descending order of importance. Consequently, I would conjecture that there was an initial supply shock after the invasion followed by an increase in oil inventory demand to hedge against Russian oil being offline and considerable speculation.
The editors of the Wall Street Journal remark:
Gas prices almost always rise faster than they fall, as the Federal Reserve Bank of St. Louis explained in a 2014 report. “When oil prices rise after being steady for some time—gasoline prices shoot up quickly,†the Fed paper explained. “In contrast, when oil prices fall after being steady for some time, gasoline prices retreat slowly.â€
Individual retailers set gas prices based on what they expect their future fuel deliveries to cost. But they have no clue right now due to all of the global uncertainty. Oil prices have plunged this past week in part because the United Arab Emirates said it would urge OPEC to pump more. But the cartel might not.
Markets also forecast that China’s lockdowns, if they continue, will dampen global growth and fuel demand this year. But they may not. Ukrainian President Volodymyr Zelensky also raised hopes on Tuesday that peace talks with Russia were beginning to “sound more realistic.†But the war could go on for weeks. Who knows what crude prices will be a week or even a few days from now.
By the way, the vast majority of the nation’s 150,000 gas retailers are mom-and-pop operations. Fewer than 5% are owned by refiners. Profit margins are only about 10 to 15 cents a gallon even when prices shoot up. These small businesses aren’t padding their profits. They’re trying to hedge against big losses if oil prices spike.
In econspeak we would say that oil prices are highly elastic upwards and downwards relatively inelastic.
My old blogfriend, James Hamilton, an oil economist, provides this analysis:
After a wild ride up to $130 a barrel, the price of oil has come back down to its level from before Russia invaded Ukraine. Russian oil may be finding buyers despite the sanctions, and U.S. production continues to recover. But the situation remains very uncertain, and a big disruption in the quantity of Russian oil that reaches world refineries is a very significant possibility. In my previous post, I examined the causes of the run-up in the price of oil that had already occurred before the invasion and discussed the implications for U.S. inflation. Today I comment on the possible implications of further supply disruptions for U.S. real GDP.
What follows is an interesting discussion of the likely prospects for the U. S. and Europe. He’s optimistic about the U. S. economy, pessimistic about Europe.
It should be apparent from the graph above that the long term trend for oil prices is up. Jim’s other post linked above is an interesting explanation of that.
In my experience most commodities have that asymmetrical price rise and fall pattern, for the reasons cited. In addition, oil refined today will have been purchased at higher oil prices. Inventories and production cycle.