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Lawmakers Hear Tale of 'Greed and Fear' Spiked with Loathing

Regulators of energy commodities markets would do well to take a page from An Inquiry into the Nature and Causes of the Wealth of Nations in which 18th century economist Adam Smith writes of "the invisible hand" as a beneficial consequence of free markets, a witness told a Senate subcommittee Wednesday. "It's been often quoted; it's been seldom read," said Robert McCullough of McCullough Research.

"The passage was not simply praise of the market. It was warning against market participants who say that they are performing their trades for the public good. The point is, without understanding the market, without the data to review the market, we don't know that they're telling the truth or not," he said.

The researcher was one of four witnesses giving testimony to the energy subcommittee of the Senate Energy and Natural Resources Committee on two bills that would mandate that the Energy Information Administration (EIA) collect information on ownership of oil and natural gas inventories and give the Federal Energy Regulatory Commission cease-and-desist authority in gas and electricity markets (see Daily GPI, March 24). They are the Energy Market Transparency Act of 2009 and the Natural Gas and Electricity Review and Enforcement Act. Much of the testimony focused on the oil market, particularly last year's rapid rise and then decline in prices. Last July oil peaked at nearly $150/bbl only to drop to nearly $30/bbl by the end of the year.

McCullough blamed speculators for the run-up and said commodities markets were not intended to be an asset class. Another witness agreed.

"Investors were not looking to actually buy oil futures but to make a fast buck in a paper trade," said Gerry Ramm, an executive with Inland Oil Co. who represented the Petroleum Marketers Association of America at the hearing. "This practice caused oil prices to rise faster and fall harder than could ever be explained by ordinary market forces. Consumers, small businesses and the economy were forced into a roller-coaster ride of greed and fear."

Last year's oil market volatility had never been seen before, McCullough asserted. "At the time we had a variety of explanations," he said. "We were told that it was having to do with the Chinese and the Indians, who apparently are easy to blame for things, exchange rates, surging demand..." While some posited a demand spike from developing markets, a later examination of EIA data revealed that the agency was "spot on" in its oil forecast. "It was, frankly, astonishingly good," McCullough said.

However, EIA's price forecast was "just flat wrong." The culprit was oligopolistic behavior by industry players, McCullough said. "You would tend to hold inventory while prices were increasing, hoping to be able to sell it at a much higher price. It may not be criminal. It could in fact have simply been cagey. But the key is we have almost no data to follow it through," he said.

But collecting the data on positions and inventories won't be enough if it's not in the hands of the appropriate regulator, he said. Recalling busted hedge fund Amaranth, which collapsed following wrong-way natural gas trades (see Daily GPI, July 26, 2007), McCullough said the firm's activities could not have been detected by FERC because trading data was in Commodity Futures Trading Commission (CFTC) files, "and the CFTC itself didn't react until Amaranth went under. So the manipulations at Amaranth -- they were trying to corner North American natural gas for certain months -- would not have been accessible to the regulators to move on in a timely fashion. We need to get that data out there as well as giving people the power to react to it."

Howard Gruenspecht, EIA acting administrator, said the proposed data collection would involve a "major investment of resources and time." He suggested taking a sample of commodity asset holders and their positions rather than a complete polling and suggested that the timelines proposed for implementation are not realistic and could sidetrack "high-priority" projects at EIA.

Anna Cochrane, acting director of FERC's Office of Enforcement, testified that cease-and-desist authority, if it were granted to FERC, would be used sparingly

During the hearing Sen. Byron Dorgan (D-ND) expressed exasperation with EIA. Its former Administrator Guy Caruso blamed fundamentals for last year's oil price spike while speculative activity in the oil market had been growing rapidly. He also asserted that the CFTC had blinders on. "The CFTC did in my judgment a shameful job of what they should have done in regulating."

McCullough praised the bills and said he would like them to go further and suggested that FERC should have jurisdiction over oil markets. "Frankly, they've got some of the skills built up in the agency for electric and gas. These are, when all is said and done, Siamese twin commodities. Natural gas prices and oil prices are very highly correlated. Electricity prices and natural gas prices are highly correlated...

"If I had my way, I would go much further than this bill."

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