James Saft

James Saft is a Reuters columnist. The opinions expressed are his own.

For Libyans the fall of Muammar Gaddafi comes about 40 years too late, but from the point of view of the global economy it is not a moment too soon.

The apparent end of the reign of Gaddafi, whose whereabouts were unknown on Monday after rebels took Tripoli, will take pressure off of the price of energy, especially in hard-hit parts of southern Europe, and thus ultimately may remove roadblocks to further easing by either the European Central Bank or Federal Reserve.

Brent crude futures, the key European measure, fell by as much as 3 percent on Monday following the taking of Tripoli by Libyan rebels before settling about 1 percent down, while the U.S. measure rose about a third of a percent.

Libya accounts for about 2 percent of global oil production and in particular has supplied much of the oil consumed in Italy. While experts caution that it may take some time to restore production and exports, the nightmare option of mass sabotage by the falling regime now seems unlikely. Regime change also opens up the possibility that production and exploration in Libya are more competently and aggressively pursued than they had been. Corruption and kickbacks are rife in Libya, and while that may or may not improve, if it does, look for production figures to improve over the longer term.

Lower energy prices are an unalloyed good at this point for the global economy. High gasoline and heating costs act as a brake on consumer demand, something the hard-hit southern euro zone nations can ill afford as they descend into a vicious cycle of austerity and economic contraction.

To be sure, the impact of Libya, even at best, will be small, especially considering the fundamental challenges facing the global economy. Lower gas prices will help consumers in Milan and Little Rock, but it does nothing to improve the equity positions of banks in Italy, and precious little to underpin house prices in the U.S.

That said, it is about time the global economy caught a break, and if this is the one it is going to get, well, things could be worse.

MONETARY POLICY LEEWAY?

With any luck, falling energy prices will give the European Central Bank reason, or at least plausible cover, to reverse their disastrous recent hikes in interest rates. The ECB has hiked key rates twice since April, by a total of a half a percentage point to 1.5 percent. That, simply, is exactly the last thing the euro zone needs as half of it slides into recession and the other half considers if it wants to pick up the check or run for the exit.

At its last interest-rate-setting meeting two weeks ago, the ECB said risks to inflation were still to the upside and that the risks to the economy were balanced, indicating that it was at that time considering yet another increase. Rising oil, gas and electricity prices have contributed strongly to inflation in key measures considered by the ECB, so a reversal would allow the hawks to side with the few doves.

Even if the ECB does nothing, and given their track record that is perhaps the most likely outcome, lower energy prices will help consumption, especially in Italy, and will, at the margins, help to make uncompetitive southern European industries a bit better able to win business internationally.

Again, energy will do nothing to help the banking industry, nor to smooth the path towards fiscal union.

In the U.S., the effects of a new Libya will be less, but even there it will perhaps make the Fed’s position slightly easier.While the Fed concentrates on core inflation, which does not include energy prices, energy costs obviously have a strong impact on inflation over time, and on inflation expectations, which often look through the core figures to focus on the actual out-of-pocket pain at the pumps.

If energy prices fall and the fall is sustained, that will remove one argument against making some new attempt at easing monetary conditions, perhaps even by a third round of quantitative easing.

That said, it is unclear if QE3 will come to pass even if oil drops dramatically, and even less clear if it would be a good idea under any circumstances.

There is still strong internal and political opposition to QE, and for that to be resolved the Fed may need to see a continuing weakening in the economy and employment. At any rate, QE has a poor record of helping anything other than risk assets, and those temporarily.

And of course, the ultimate irony is that should the Fed get radical again by buying up bonds, that in itself will likely fuel a rally in oil which may undermine much of the benefit. That’s what happened last time, after all.

(At the time of publication James Saft did not own any direct investments in securities mentioned in this article. He may be an owner indirectly as an investor in a fund.)

James Saft is a Reuters columnist. The opinions expressed are his own.

HUNTSVILLE — If history is any indication, the Obama administration’s investigation into oil speculators makes now a potentially great time to load up on oil futures.

The Justice Department on Thursday announced a working group to probe fraud, speculation, index trackers and “investor practices” in the energy market, a move taken after gasoline prices topped $3.80 per gallon, the highest in almost three years and a politically very inconvenient fact.

Authorities playing the “evil speculators” card is an  excellent indication that they have both lost control of the narrative and have little they can do to alter the policies and fundamentals that brought on the pesky high, or sometimes low, prices in the first place. The right play could just be to take this as a signal that prices are going to continue to annoy authority, and make your investments accordingly.

It is not too hazardous a guess to say that the main drivers behind high energy costs are conflict in oil-producing countries like Libya, growth-driven demand in emerging markets and exceptionally loose monetary policy, specifically quantitative easing.

Gunning for oil speculators during QE is a bit like laying out mouse traps while also choosing to store your cheese on the kitchen floor. It would be far simpler to put the cheese in the fridge. Of course QE is under the control of the Federal Reserve, so hence we have blather about speculators.

There have been two notable campaigns of speculator-hunting in the past two years; If we want to know which way oil prices will go perhaps it would be a good idea to review their success.

In February of 2010, with Greek and other weak euro zone bonds under increasing pressure, Germany launched an investigation into credit default swap trading, while earlier in the month there were reports that Greek and Spanish intelligence services were probing speculative attacks on their own bonds and derivatives.

All of this, of course, had about as little effect as persecuting the widow next door because your cow has gone dry, so come May the EU and its partners announced a multi-pronged $1 trillion bailout aimed at curbing “wolfpack behavior” in financial markets. This, of course, was after Greece sought the activation of a bailout in April of 2010, after downgrades and sell-offs raised its borrowing costs to unsustainable levels.

The anti-wolfpack bailout package was such a success that Greece, Ireland and now probably Portugal have sought help for their problems, which after all were not caused by speculators but by their own insolvency. Speculators would have been forgiven for putting on extra shorts on euro zone peripheral bonds in the winter of 2010 when they heard they were under attack, and would have done quite well out of it.

FOOD, TROUBLESOME FOOD
In November Chinese authorities announced a “one-two punch” on spiraling food costs, including a crackdown on speculation in agricultural commodities and the imposition of price controls. In addition the commerce ministry warned that it would track down any speculative inflows into China that were trying to pose as foreign direct investment. This came after the food portion of Chinese CPI hit 10 percent in October, with notable spikes in traditional and luxury foods.

Well, even China, a one-party state with vast power over its citizens, found its ability to tame speculators was limited, or rather perhaps that speculators were not the true driving force behind the rise in the price of food. Food costs gained 9.7 percent in March, moderating from the surge of 10.2 percent in February, as vegetable prices fell 7.9 percent. As the first single-digit food inflation figure in five months this was encouraging, but still a hefty figure.

That’s likely because the real causes of Chinese food  price gains were to be found in the fundamentals and in its own and other’s official policies.

If you had made bets on Chinese inflation plunging based on faith that the “one-two punch” would work, you would have been disappointed.

So really, the lesson here is not that prices will go up just because authorities cry “Speculator!” but rather that this is an excellent indication of a set of thorny causes that will not easily be uprooted.

The one that the U.S. has the most control over that could have a short-term impact on oil (and no, it’s not drilling rules) is monetary policy. QE is driving down the value of the dollar, and driving up the value of real assets when counted in dollars.

It is also an invitation to the traders of the world to take on risk. This they have done, and one of the byproducts is expensive oil. It seems churlish to complain. Perhaps it would be better to end the policy, rather than rail at its fruits.

(At the time of publication James Saft did not own any direct investments in securities mentioned in this article. He may be an owner indirectly as an investor in a fund.)

If you think the recovery is firm and the risk of deflation has vanished, look at the three following numbers: $100, 3.44 and 20.

The first, everyone knows, is the price that New York crude oil touched briefly on Wednesday, driven 14 percent higher in just five trading sessions by conflict in Libya and concern over the reliability of supply elsewhere.

The second is the yield on 10-year U.S. Treasury notes, and if you are keeping score, they have dropped a rapid 28 basis points from early February, a drop that is telling you that bond investors do not believe the U.S. economy can easily withstand $100 oil.

The third, that 20 percent, is perhaps the most poignant, as it represents the current level, an all-time high, in the ratio of their disposable income that Americans are getting from government benefits.

That’s right: social security, food stamps, unemployment insurance and the like account for two out of every 10 dimes Americans have once they have paid their tax.

Those three numbers don’t say self-sustaining recovery, they say pressure on consumption, on wages and on asset prices.

They also will put pressure on the dollar and will loom over any attempts to normalize Federal Reserve monetary policy. How on earth do you raise rates or end quantitative easing if gasoline goes to $4 per gallon (readers from outside the U.S. may laugh bitterly here, but this is a heck of a shock to the pocketbook, even if it is a tiny fraction of European or Japanese prices).

“It is also interesting to see how government bond markets are reacting to the oil price surge — by rallying, not selling off. In other words, bond market investors are treating this latest series of events overseas as a deflationary shock,” David Rosenberg of Gluskin Sheff wrote in a note to clients.

“Because oil demand is relatively inelastic over the near term, this price shock is going to cut into real global economic growth and the question is by how much,” Rosenberg writes, before bringing up a real concern, a U.S. debt and political situation where further stimulus is highly unlikely.

“In the past, we would see governments trying to cushion the blow but with the public sector nearly everywhere grappling with sky-high fiscal deficits and debts and moving towards restraint, and with monetary policy already in uncharted accommodative waters, there is no leeway to provide any antidotes.”

MARGIN KILLERS
To be sure, oil prices may well fall back if supplies are not interrupted and if concerns, especially about the potential for serious unrest in larger oil-producing states such as Saudi Arabia, prove baseless. While oil shocks in the recent past have usually led to recessions, they tended to be sustained rises in prices.

Earnings at Wal-Mart <WMT.N>, the massive retailer which looms large at the bottom end of U.S. retailing, tells a story not of recovery but continued hard times, conditions which are tough to square with recent risk market ebullience. Revenues were weak and the company noted a growing trend of customers paying for goods in the U.S. with government assistance, a half a percentage point rise in just three months.

Wal-Mart shoppers will feel every penny increase in the price of gas keenly, and are going to be very unwilling, or unable, to accept further price rises driven by commodity inflation.

This could easily undermine company profits. While companies report rising prices on the things they buy, prices on the things they sell are not keeping pace, presumably because they find it difficult to raise prices without driving hard-hit customers away.

Significantly, regional grocery store chain Wegman’s announced on Wednesday a price freeze on 40 basic necessities for the year, saying they will absorb $350 to $400 in price increases themselves for a family of four over the next nine months. That is the kind of thing which hits margins, and not just at grocery stores.

Meanwhile, the political situation in the U.S. is not going to be sending any shoppers running for the stores. A bitter dispute in Wisconsin over public sector workers’ pay, benefits and collective bargaining rights will likely give many workers, and not just in the public sector, the idea that what they thought was theirs may be taken away. Disputes in Washington over budget cuts will only serve to reinforce the sense that the ratio of transfers to disposable income is headed down ultimately, recovery or not.

So, what might the Federal Reserve do? If the oil price hike is sustained but price rises do not feed through to wage pressure, they will keep rates at rock-bottom and leave their options open over quantitative easing.

(At the time of publication James Saft did not own any direct investments in securities mentioned in this article. He may be an owner indirectly as an investor in a fund. Email: jamessaft@jamessaft.com)