Chart of the Decade?

Professor Mark J. Perry has a chart on his blog, Carpe Diem that explains all you need to know about "high gasoline prices." When measured against gold, the price of oil is below its historical average. This can only mean that the value of the dollar is falling, which is reflected in the increasing price of oil.


To be fair, most of the world's currencies are falling against the price of gold, or oil at this time. However, it doesn't change the fact that oil and gold, as materials that contain intrinsic worth, don't deviate in their value whereas fiat money, such as the dollar only loses value over time.

More Evidence of Iranian Weakness - Threats to Gulf Oil Producers

Iranian bellicosity against its neighbors demonstrates further weakness in its strategic position. I previously discussed why the threats over closing the Straits of Hormuz showed Iran's weakness. Now, their threats against the Saudis and others over oil production show another pitfall for Iran. The threat:

Iran warned Gulf Arab oil producers against boosting production to offset any potential drop in Tehran’s crude exports in the event of an embargo affecting its oil sales, the latest salvo in the dispute between the West and the Islamic Republic over its nuclear program.

The comments by Iran’s OPEC governor, published Sunday, came as Saudi Arabia’s oil minister was quoted the same day denying that his country’s earlier pledges to boost output as needed to meet global demand was linked to a potential siphoning of Iranian crude from the market because of sanctions.

. . .

Mohammad Ali Khatibi, Iran’s OPEC governor, was quoted Sunday by the pro-reform Shargh newspaper as saying that attempts by Gulf nations to replace Iran’s output with their own would make them an “accomplice in further events.”

“These acts will not be considered friendly,” Mr. Khatibi said, adding that if the Arab producers “apply prudence and announce that they will not participate in replacing oil, then adventurist countries will not show interest” in the embargo.

Iran's threat is a de facto recognition that there is excess oil production capacity in the world beyond their ability to control. The Saudis appear to be backing down on their previously announced intention to keep prices low. Historically, the behavior of oil producing nations has been only loosely coupled with their announced intention. If I were the Saudis, I would not provoke the Iranians publicly, but would quietly boost production while denying that I was doing so. This makes political sense, because it allows the Saudis to appear not to be allying themselves with the west, while still undercutting the key threat to their existence, a nuclear armed Iran. As the Iranian plot to kill the Saudi ambassador to the United States demonstrates, the Iranians and Saudis are already in a shadow war with each other.

Why are the Iranians getting so bellicose? I can only assume that they are desperate. The actions of a country on the verge of achieving tactical military superiority would not look like this. Assassinating nuclear scientists and sanctions seem to be having the desired effect. (Caveat: I don't know who is assassinating Iran's nuclear physicists, but they are dying in numbers and by means that point to assassination.)

Tax Breaks and Subsidies

John Boehner succumbed to demagoguery by the President on "tax breaks" for big oil companies. In a calculated political move, he said that the "oil depletion allowance" should be reviewed.

The Ohio Republican told "ABC World News" that the government is low on revenues and that oil companies "ought to be paying their fair share."

"We certainly ought to take a look at it," Boehner said. "We're at a time when the federal government's short on revenues. We need to control spending but we need to have revenues to keep the government moving."

Well, how's that for not getting outflanked on a populist issue.

So here's a reminder about the facts. The oil depletion allowance is a special form of a depletion allowance, applying to minerals, oil, gas and timber. From Answers.com:

In tax law, the deductions from gross income allowed investors in exhaustible commodities (such as minerals, oil, or gas) for the depletion of the deposits. The depletion allowance is intended as an incentive to stimulate investment in this high-risk industry, though critics argue that mineral deposits are valuable enough to justify high levels of investment even without tax incentives.

One might argue that the depletion of a resource is akin to the depreciation of capital equipment. I am not expert enough, to say for sure, but I know this, all depletion allowances should be treated identically, it strengthens the rule of law for it to be applied impartially. I guess that's the cue for the Congress to treat it as a political football.

With regards to the accounting question, the cost of purchasing the asset, be it mineral, oil or timber is an expense to business, the only question is whether it is a capital expense with long term depreciation/depletion or a standard expense. Looking for somebody at W.C. Varones to correct my thinking if I am wrong.

Finally, with regards to the price of oil and gasoline, the best thing politicians could do for the country is ignore it. It will come back down. If this has the feeling of deja vue, it's because it is.

From BwD in July 2008:

I am boldly predicting a large drop in the price of oil within the next three years, unless our government intervenes to make a mess of things. How can I be so sure? History and logic are on my side.

First, the logic. The high cost of petroleum energy induces all sorts of changes in behavior. First, on the demand side, consumers make billions of tiny changes in behavior to compensate for the higher costs. Some examples: Many people drive more gently, accelerating more slowly, driving a little slower. Nissan has found that putting a fuel efficiency gauge on cars increases efficiency by as much as 10% (source here). Car pooling increases. Another small example, our family has started to plan out little errands, grouping trips together that were previously separate. Also, we ditched the 8-cylinder gas guzzler, even though it was a good starter car for our sixteen year old.

On the supply side, two things happen. First, there tends to be an increase in production in those nations not under despotism. (I realize that Iran and Venezuela, for example, will probably not be increasing production, but others will.) Oil that was not profitable to extract at $60 per barrel is very attractive at $140. Maintenance and repairs on old equipment suddenly makes more sense. Second, alternative forms of energy become relatively more competitive and can be brought on line, increasing the overall supply of energy.

From this blog in November 2008.

Last July, on BwD, I predicted a large drop in the prices of crude oil and gasoline within three years. My caveat, of course was that the federal government was perfectly capable of screwing this up. KT has a great post, with pretty pictures, showing just how cheap gasoline is today. At the time, there was a lot of hot air about a temporary suspension of gasoline taxes, releasing the strategic petroleum reserve and windfall oil profits tax, because, by gum, SOMETHING had to be done! Fortunately, nobody got around to do anything and look at the result. (I filled up today for about $2.29/gallon and I saw $2.01/gallon gas in Memphis last week.)

This scenario is perfectly illustrative of the simultaneous difficulty and importance of making the case for less government. In the midst of a hotly contested election, the temptation of politicians to pander seems almost irresistible. But if the public has the awareness of the futility of repealing laws of economics, then such efforts would be laughed off the table.