LONDON (Reuters) – Fierce conflict has broken out among traders over Brent prices and the spread with U.S. light sweet crude.

U.S. crude futures for March and April delivery surged higher yesterday, while Brent prices were held down until after the ICE Brent settlement, erasing much of the previous weakness compared with the European benchmark.

Brent’s premium over NYMEX light sweet crude oil, known as West Texas Intermediate (WTI), tumbled to just $9.97 per barrel immediately prior to the settlement, from $16.51 on Feb. 18, shattering the previous uptrend (Chart 1).

Spreads exhibited exceptional intra-day volatility. Opening at $12.70, the spread traded lower through the day to reach a low just before Brent settled at 19:27-19:30

GMT, soaring once the settlement was over to finish the day little changed at $12.55. The market gapped lower to open at $10.92 today (Chart 2).

From the price action, someone seems to have lent on Brent prices until the settlement was safely completed, then allowed the market to catch up with WTI.

The ferocious battle over Brent and the spread suggests at least one big market participant has been caught out by soaring prices as a result of escalating violence in the Middle East, as well as the narrowing arbitrage with U.S. markets as oil flows shift to Europe and Asia, and is trying to limit the damage.

LONDON (Reuters) – Escalating food and fuel prices are a sign the global economy is approaching full resource utilisation and the limits of sustainable output.

Policymakers, commentators and investors are still fiercely debating whether high unemployment and idle factories in the United States and Europe are caused by cyclical lack of demand (in which case Keynesian demand management is the appropriate remedy) or reflect structural shifts (making Keynesian responses irrelevant).

But a quick look at the global picture makes it clear that the problem is structural (distribution of demand) rather than cyclical (lack of demand at a worldwide level).

CPB INDUSTRIAL INDEX

The attached chart shows output growth in the advanced economies and emerging markets since 1991, based on data compiled by the Netherlands Bureau for Economic Policy Analysis (CPB), one of the most respected trackers of global output and trade flows (here).

CPB assigns a weight of 35 percent to the industrial output of emerging markets, based on their output in 2000. But following the banking crisis in the advanced economies and continued strong growth in developing ones, emerging markets now probably account for almost half global output.

Emerging markets will consume almost as much oil in 2011 (43.2 million barrels per day) as OECD economies (45.9 million barrels), according to the International Energy Agency, confirming that emerging markets now account for half the global economy.

LONDON, Jan 17 (Reuters) – Past experience suggests oil prices are at a level that poses a serious threat to the advanced economies and increases the risk of a double-dip recession.

The International Energy Agency (IEA) has warned prices are approaching the “danger zone”. Total’s bullish Chief Executive Christophe De Margerie has admitted “it would have been better for the prices not to go too high too quickly”.

But OPEC members are resisting calls for an emergency meeting or output increase. Price hawks Iran, Venezuela and Libya have indicated they are comfortable with $100. Even the more moderate Saudi Arabia seems unwilling to try to restrain prices by upping production despite reaffirming its commitment to a notional price target of $70-80 per barrel.

2007-2008 TIMELINE

What level of oil prices actually damages growth is an empirical question.

Oil bulls dispute the claim high oil prices played any significant role triggering the last downturn, or pose a serious risk to growth in 2011. In particular, they note economic output in the OECD is now far less oil-intensive than in the 1970s and early 1980s, reducing the risk of sharp price rises causing a macro shock.

For the bulls, falling U.S. house prices, an escalating credit crisis, and the lagged effect of interest rate increases by the Federal Reserve and other central banks between 2004 and 2007 are sufficient to explain the start of the Great Recession in 2007-2008.

LONDON (Reuters) – “Bubble” is a word that stirs strong emotions, often adding more heat than light to a debate about asset or commodity prices. So it is provocative to raise the idea oil might be entering the early phases of a bubble.

But spot prices have risen almost $24 per barrel (33 percent) in just five months, using Brent as the benchmark. Brent is trading at its highest level in real terms since the price spike in H1 2008 and before that the oil shock in 1981. Price charts are starting to show the sort of exponential gains thought to be characteristic of a bubble.

There are important fundamental differences between the situation at the start of 2011 and 2008: more spare capacity, higher inventories, faster supply growth, and a better balance between crude inputs, refinery capacity, and product demand.

But bubbles are about behaviour and expectations. There is a buzz in oil markets reminiscent of 2008 and consensus expectation for further price rises. There is heightened media and investor attention to price moves, a focus on new highs, and talk about long-term scarcity and price discontinuity.

All are well known characteristics of previous bubbles, from the stock market bubbles of the 1920s, 1960s and 1990s to the housing bubble of the 2000s. Analysts, investors and hedgers must at least consider the possibility oil might be entering the early phases of a bubble, and how best to incorporate that into investing and hedging strategies.

NOWHERE AND EVERYWHERE

The existence of bubbles is controversial. Proponents of efficient markets and random walk theory deny asset prices ever move persistently and increasingly away from the implied fundamental value set by supply and demand.

LONDON, Jan 10 (Reuters) – Central bank credibility and rational expectations are two tenets of modern macroeconomics that have not survived the global economic crisis.

Myths about credibility and expectations lent economics a comforting sense of order, predictability and controllability.

But the crisis has demolished them, leaving investors and central bankers adrift in an unfamiliar sea of irrational, inconsistent and indeterminate expectations — which are dominated by the complexity and inter-dependence familiar to biologists and sociologists, rather than the mechanical order familiar to physicists and engineers.

EMPTY CREDIBILITY

For the last 30 years, policymakers and analysts of monetary policy have assigned inflation expectations a central role in causing wage and price increases.

Central banks have defended their strategies with reference to measures of anticipated inflation (break-even rates, surveys of consumers) which show expectations remain “anchored” close to a target level, making it likely that inflation will revert to target in the medium term.

As long as expectations are anchored, it has been assumed that relative price increases or one-off shocks (for example, a sharp rise of oil prices) will not become entrenched in a self-sustaining spiral of price and wage rises.

LONDON, Jan 6 (Reuters) – It was inevitable that economists, investors and the public would start to question if the Bank of England’s monetary policy arrangements have failed.

Professional courtesy and deference towards the Bank among City institutions have so far muted the criticism. But the dam is starting to burst. By mid-year the calls for new men or new measures are likely to become much louder unless there are clear signs of inflation slowing down.

Consumer price inflation has been above the Bank’s 2.0 percent target in 46 of the last 60 months. Senior officials expect it to remain above target for at least the next 12 months, by which point inflation will have overshot more than 80 percent of the time since late 2005.

Consumer prices are 2.5 percent higher than they would have been if the Bank had succeeded in meeting its target. On the pre-2003 retail prices measure, the error is higher, with retail prices 3.6 percent higher than they should have been. By the end of 2011, the policy tracking error in consumer prices will be more than 3 percent, and in retail prices above 4 percent, even before the impact of recent changes in value-added tax (Charts 1-4).

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(1) here

(2) here

LONDON (Reuters) – The U.S. Commodity Futures Trading Commission (CFTC) will miss its end-January deadline for adopting a final rule on position limits — but Chairman Gary Gensler is slowly winning the war of attrition with Wall Street lobbyists to impose comprehensive restrictions on position sizes and reduce market concentration.

The Commission has made some strategic concessions — delaying the finalisation of all-months limits until it has gathered more data on the size of over-the-counter swaps markets; abandoning the controversial crowding out provisions; and clarifying its proposals for aggregating positions and interpreting the independent account controller rule.

Postponing adoption of the final regulation has sparked fears from strong advocates of limits such as CFTC Commissioner Bart Chilton that changes are being fatally undermined by stalling tactics and the fierce lobbying to create numerous loopholes so the exceptions and exemptions swallow the general rule.

On balance, those concerns appear unfounded. Gensler has surprised his critics and turned out to be the most effective chairman in decades, winning vast new powers for the agency and all the major battles he has picked so far.

Gensler has made some technical concessions in response to comments received. But when it is eventually adopted, the final rule will largely follow the contours he set out at the start of 2010 and achieve his stated objective of ensuring markets remain diverse and free from excessive concentration.

GRINDING AHEAD

To understand just how far Gensler has transformed the debate, it is worth recalling objections raised during the statutory consultation on his initial proposals held between January and April this year:

LONDON (Reuters) – In his famous “Essay on the Principle of Population”, Reverend Thomas Malthus warned 19th century Britons pestilence, disease, famine, war, birth control and celibacy would be the only way to check rapid population growth and bring it into balance with natural limits on food supply.

Malthus’ heirs have never stopped warning that some peak in natural resources is imminent and sharp price increases will inevitably be needed to ration demand, perhaps upending progress to higher living standards.

In the 1860s, economist William Stanley Jevons was warning Britain would lose its dynamism and global pre-eminence due to the inevitable exhaustion of reserves of easily mined coal.

By 1920, when U.S. oil production crested over 1 million barrels per day, the U.S. Geological Survey was predicting U.S. oil reserves would be depleted before the end of the decade. Domestic output continued to grow for another 40 years and vast new field discoveries in Arabia would transform the supply picture.

In 2005, the Hirsch Report for the U.S. Department of Energy forecast “Gas production in the United States now appears to be in permanent decline” and cautioned previous optimism about gas supplies “turns out to have been misplaced”.

Hirsch urged policymakers to learn lessons from “peak gas” and be ready to deal with the social disruption caused by “peak oil”. But hydraulic fracturing and the shale gas revolution (both of which were already quietly underway, unnoticed, when Hirsch was writing) confounded all those predictions in less than five years.

SUPPLY SIDE FOCUS

LONDON (Reuters) – By leaving production restraints unchanged and deciding not to meet again until June 2011, even as oil prices hit $90 per barrel, OPEC and Saudi Arabia have abandoned the $70-80 price band that appeared to be their informal objective for oil prices over the last two years.

Saudi Oil Minister Ali Naimi repeated the kingdom’s view that “$70-80 is a good price”. But it now appears to have been downgraded to an aspiration rather than a target. There is no operational content and no commitment to adjust supplies to ensure it is met.

Naimi told reporters there was “absolutely” no need to raise output and blamed the media for disturbing the market: “Why do you want to disturb the market? The market is in balance … Leave the market alone.”

He went on to complain “You want something that we haven’t done yet. You want to cause disturbance in the market. The way you ask questions about price, about production, about supply, what you do is become an agent of disturbance in the market”.

But Naimi’s bitterness reflects frustration that the kingdom cannot influence prices and expectations without adjusting production — something Saudi policymakers remain reluctant to do for the time being.

CARTEL LOSES CONTROL

Recent price rises have come in spite of ample stocks of both crude and refined products and a comfortable cushion of spare capacity. It has left oil producers and investors increasingly talking past one another.