Tilted
..
that I was talking about with regard to oil (and a little bit of commentary that's not likely to be well received 
).
CFTC Looks Ready for Limits - WSJ.com
I'll wait to see the details of this rule before forming an opinion on its propriety. As with most things, the devil can be in the details. It will be very interesting to see how they intend to distinguish 'real' positions, hedge positions, and speculative positions - particularly the latter two - and how those different position 'types' will be treated differently. For practical purposes, hedge positions are 'real' positions, but for mechanistic purposes, they often behave and are effectuated like speculative positions. Anything that interferes with the actual market participants' ability to use the hedging mechanism is likely to cause significant problems.
That said, I fear that the effect of speculation on markets remains largely misunderstood by most (mechanistically, systemically, and notionally), and that lack of understanding often leads to oversimplified notions of its effect, and knee jerk reactions to those notions. In reality, its effects are much more nuanced.
Thinking of it in an abstract sense, the pricing mechanism of commodity markets plays out on two different levels of battle fields. The first level merely determines which battle field, on the other level, the pricing mechanism plays out on, and to what extent. The simplest way to think of the direct effect of speculation in commodities markets, and the way that best represents reality, is that it shifts the focus of the pricing mechanism away from current (mostly measurable and knowable) market conditions and toward future (largely speculative and unknowable) market conditions. It makes the important battle field the one on which the future supply/demand situation is considered, as opposed to the one on which the current supply/demand situation is considered.
Speculation, in and of itself, doesn't cause price inflation or deflation - it merely changes what factors are important to the pricing mechanism, and which ultimately cause price inflation or deflation. Under some circumstances, that means the former, and under some circumstances that means the latter. The more speculative money that is in a market, relative to 'real' money, the more the future matters. And, the more the future matters, the more volatile and variable the pricing mechanism is, because it depends more on perception and what is possible, as opposed to what is actual and known.
So, reducing the potential for speculation can reduce the potential for unwarranted price spikes (and drops), but it can also reduce the potential for warranted (and needed) price spikes (and drops). In some commodity markets - ones where the resource is systemically and irreplaceably important, and where its supply can't be quickly increased, nor its demand quickly decreased - speculative forces are very important to our long-term security. Something has to force us collectively to keep an eye on the future, even though most of us as individuals don't have an immediate incentive to do so. That's what speculation does. That is its net and certain effect. Now, it's no doubt true that, when trying to figure out what the future market conditions will be, we often get it very wrong. Thus, the market's pricing is very wrong for periods of time, and it has to correct (usually over correct). But, that's not the direct fault of the speculative dynamic, it is the fault of our erroneous consensus predictions and estimations about the future.
Speculative money doesn't fundamentally care that prices inflate or deflate - it would just like to see one or the other. More importantly though, it wants to be right, or rather, it wants to have the markets believe that it is right, about which one it will be. Regardless of how much speculative pressure is in a given market, the relative amount of power in the hands of those who necessarily wish to drive down prices (real users) and those who necessarily wish to drive up prices (real producers) remains the same. Mechanistically, speculation does not have any net effect in terms of increasing the pressure in either direction. That's just not how the market functions. It merely shifts the pricing battle to a different playing field. The same players are still on the field fighting to drive prices down, they just might not have as much ammunition to fight with (since the battle field is focusing more on future possibilities and less on current conditions). But, those players still have to agree to any price inflation, and they only do so if they feel they have to. It is still the perception of how much we will use, and how much we will produce, that ultimately dictates pricing - and that is what those players must consider when deciding to either give in to higher prices, or stand their ground and force prices down. If we want to keep prices down, we need to take actions to affect that perception.
If we go too far in removing speculation's ability to force us to pay attention to the future, we will wake up one day and find ourselves in a dire situation with regard to energy supplies. Yes, pervasive speculation is part of what drove prices way up last year - but it had a 'partner in crime' that none of us wants to own up to. And blaming speculation, so that we can ignore and deny the more culpable piece of the equation, is short-sighted and intellectually lazy, and it might have disastrous long term ramifications. Speculation isn't inherently evil, it's just playing its (important) role in the situation, as all of us are. I'm not against some regulation with regard to it, but we have to be very deliberate and surgical in what we do - we can't just rush in, in an irrational, emotional uproar, and start slashing with a meat cleaver, just to satiate the visceral need to do something about that evil activity. We need to be honest with ourselves about the role we all played in the massive energy price inflation, understand the dynamics involved in the situation, and only then take measured actions to make the system function more stably.
QUESTION: What happens to speculators that are betting on price inflation, when it comes time to close contracts, if the 'real' users aren't buying what they're selling (i.e. they aren't buying the story that oil prices have to keep going up because real supply shortages are around the corner)? Well, it ain't pretty. To make money betting on price inflation, they NEED those users to buy what they are selling - and those users decide whether or not they buy it based on the conditions that they observe in society (e.g. 'Is it likely that we'll be ramping up drilling activity anytime soon?', 'How quickly are we moving away from oil use in areas where it makes sense to?', 'Do consumers turn the heat in their homes down a little or drive fewer miles when fuel prices spike a dollar a gallon?', 'At what price level does it make fiscal sense for companies to make huge capital investments toward future oil production from sources that are more expensive to get at?', 'Do governments care more about selling their 'green' agendas than they do the realities of the global energy supply situation?')
).CFTC Looks Ready for Limits - WSJ.com
I'll wait to see the details of this rule before forming an opinion on its propriety. As with most things, the devil can be in the details. It will be very interesting to see how they intend to distinguish 'real' positions, hedge positions, and speculative positions - particularly the latter two - and how those different position 'types' will be treated differently. For practical purposes, hedge positions are 'real' positions, but for mechanistic purposes, they often behave and are effectuated like speculative positions. Anything that interferes with the actual market participants' ability to use the hedging mechanism is likely to cause significant problems.
That said, I fear that the effect of speculation on markets remains largely misunderstood by most (mechanistically, systemically, and notionally), and that lack of understanding often leads to oversimplified notions of its effect, and knee jerk reactions to those notions. In reality, its effects are much more nuanced.
Thinking of it in an abstract sense, the pricing mechanism of commodity markets plays out on two different levels of battle fields. The first level merely determines which battle field, on the other level, the pricing mechanism plays out on, and to what extent. The simplest way to think of the direct effect of speculation in commodities markets, and the way that best represents reality, is that it shifts the focus of the pricing mechanism away from current (mostly measurable and knowable) market conditions and toward future (largely speculative and unknowable) market conditions. It makes the important battle field the one on which the future supply/demand situation is considered, as opposed to the one on which the current supply/demand situation is considered.
Speculation, in and of itself, doesn't cause price inflation or deflation - it merely changes what factors are important to the pricing mechanism, and which ultimately cause price inflation or deflation. Under some circumstances, that means the former, and under some circumstances that means the latter. The more speculative money that is in a market, relative to 'real' money, the more the future matters. And, the more the future matters, the more volatile and variable the pricing mechanism is, because it depends more on perception and what is possible, as opposed to what is actual and known.
So, reducing the potential for speculation can reduce the potential for unwarranted price spikes (and drops), but it can also reduce the potential for warranted (and needed) price spikes (and drops). In some commodity markets - ones where the resource is systemically and irreplaceably important, and where its supply can't be quickly increased, nor its demand quickly decreased - speculative forces are very important to our long-term security. Something has to force us collectively to keep an eye on the future, even though most of us as individuals don't have an immediate incentive to do so. That's what speculation does. That is its net and certain effect. Now, it's no doubt true that, when trying to figure out what the future market conditions will be, we often get it very wrong. Thus, the market's pricing is very wrong for periods of time, and it has to correct (usually over correct). But, that's not the direct fault of the speculative dynamic, it is the fault of our erroneous consensus predictions and estimations about the future.
Speculative money doesn't fundamentally care that prices inflate or deflate - it would just like to see one or the other. More importantly though, it wants to be right, or rather, it wants to have the markets believe that it is right, about which one it will be. Regardless of how much speculative pressure is in a given market, the relative amount of power in the hands of those who necessarily wish to drive down prices (real users) and those who necessarily wish to drive up prices (real producers) remains the same. Mechanistically, speculation does not have any net effect in terms of increasing the pressure in either direction. That's just not how the market functions. It merely shifts the pricing battle to a different playing field. The same players are still on the field fighting to drive prices down, they just might not have as much ammunition to fight with (since the battle field is focusing more on future possibilities and less on current conditions). But, those players still have to agree to any price inflation, and they only do so if they feel they have to. It is still the perception of how much we will use, and how much we will produce, that ultimately dictates pricing - and that is what those players must consider when deciding to either give in to higher prices, or stand their ground and force prices down. If we want to keep prices down, we need to take actions to affect that perception.
If we go too far in removing speculation's ability to force us to pay attention to the future, we will wake up one day and find ourselves in a dire situation with regard to energy supplies. Yes, pervasive speculation is part of what drove prices way up last year - but it had a 'partner in crime' that none of us wants to own up to. And blaming speculation, so that we can ignore and deny the more culpable piece of the equation, is short-sighted and intellectually lazy, and it might have disastrous long term ramifications. Speculation isn't inherently evil, it's just playing its (important) role in the situation, as all of us are. I'm not against some regulation with regard to it, but we have to be very deliberate and surgical in what we do - we can't just rush in, in an irrational, emotional uproar, and start slashing with a meat cleaver, just to satiate the visceral need to do something about that evil activity. We need to be honest with ourselves about the role we all played in the massive energy price inflation, understand the dynamics involved in the situation, and only then take measured actions to make the system function more stably.
QUESTION: What happens to speculators that are betting on price inflation, when it comes time to close contracts, if the 'real' users aren't buying what they're selling (i.e. they aren't buying the story that oil prices have to keep going up because real supply shortages are around the corner)? Well, it ain't pretty. To make money betting on price inflation, they NEED those users to buy what they are selling - and those users decide whether or not they buy it based on the conditions that they observe in society (e.g. 'Is it likely that we'll be ramping up drilling activity anytime soon?', 'How quickly are we moving away from oil use in areas where it makes sense to?', 'Do consumers turn the heat in their homes down a little or drive fewer miles when fuel prices spike a dollar a gallon?', 'At what price level does it make fiscal sense for companies to make huge capital investments toward future oil production from sources that are more expensive to get at?', 'Do governments care more about selling their 'green' agendas than they do the realities of the global energy supply situation?')
