Doomsday reflexivity? ‘Domestic’ political statements and oil prices

June 8, 2008

On Friday, crude oil prices jumped in a new all-time high: the benchmark futures contract of light sweet crude was traded at US$139.54 in New York.

This new record was attributed to a comment by Iranian-born Israeli deputy prime minister, Shaul Mofaz, who said that: “If Iran continues its nuclear weapons program, we will attack it. Other options are disappearing. The sanctions are not effective. There will be no alternative but to attack Iran in order to stop the Iranian nuclear program.”

The news stories did mention that the context for this comments is the primaries in Kadima, PM Olmert’s party, where Mofaz is a contender and that it is likely that the comments were made for ‘domestic consumption’. The reaction to the statement shows that in today’s highly connected markets distinction between the local and the global cannot be made easily. Mofaz’s Israeli political bravado injected volatility to global oil markets. Such effect, in itself is dangerous enough, of course, but the other ‘leg’ of the reflexivity circle is potentially even riskier. In fact, this side of the phenomenon may feed a social loop that can place Iran and Israel on a sure collision course.

How so? Mofaz is now aware of the impact that his words have on markets. However, if anyone may think that this would serve as a lesson and that future comments would be less vehement, then they do not know the Israeli political discourse. Mofaz will now celebrate his influence on global oil markets and will use last week’s price rise as leverage for creating more political capital. Moreover, the reaction to this comment will motivate Mofaz and other Israeli politicians to outdo it and to have even more impact. So, as long as the scandal-ridden Olmert government is haemorrhaging support we should expect increasingly more flamboyant statements from Israeli politicians about Iran, more volatile markets and a steady progress to the brink of a (possibly, nuclear) war in the middle east.

3 Responses to “Doomsday reflexivity? ‘Domestic’ political statements and oil prices”

  1. danielbeunza Says:

    Very interesting. I am particularly taken by the observation that the problem was caused by trader interpreting a “local” comment from a “global” perspective. It’s all in the framing…

    As for the second loop, I’m not so concerned. My bet would be that traders are more sophisticated than you fear… and that they stay still in the face of comments of politicians who only comment for the sake of making them move.

  2. Philip Roscoe Says:

    The oil price is a perplexing issue (although on a commonsense level, it isn’t). The UK, where prices at the pump are hitting £1.30 a litre (roughly $13 a gallon) is currently awash with newspaper comment about the cause of the high prices – tensions in the Middle east, problems of supply and so forth. Those ‘reactionaries’ who blame ‘evil speculators’ are lambasted for neglecting to understand basic economics. But here’s the rub: how, in such a complex second order market, do the laws of supply and demand manifest themselves. Is any physical scarcity evident? The pumps are still full, and power still flows through the lines, but fuel and its by-products are more expensive. Those who are suffering from scarcity are doing so because they can’t afford the oil, not because their isn’t enough of it. In other words, oil’s almost infinite price elasticity (sure, it’s twice what it was last year but I still have to cook supper tonight and get to work tomorrow) ensures that speculative increases in price are not ever ironed out by decreasing demand. In other words, the oil market appears to have ceased to clear; prices are driven only by the feedback loops of traders, while a popular rhetoric appears to justify the situation. So one SSF question would be: how are these prices constructed, and a second: how would decreased demand be recognised, interpreted or factored into the market?

    The analogous situation in the food markets, as I understand it, is not just that there is some current downturn in supply, but that the distribution of food is squewed by the fact that it has become convertible into oil at a given price. In the long term, changes in land use to capitalise from this will increase these loops further. So demand is up, and supply down. Another SSF question: how are these prices negotiated and arrived at?

    I guess the point I’m driving at is that somewhere in this mix is a considerable theoretical apparatus – notably: calculations of oil reserves, assessments of future demand, and resulting calculations of price take on the basis of a supply and demand economic model, of the kind learned in MBA classrooms worldwide. Surely this is economics at its most performative…?

  3. sandrar Says:

    Hi! I was surfing and found your blog post… nice! I love your blog. 🙂 Cheers! Sandra. R.

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