The top leaders of a dozen major airline companies sent a letter to their customers on July 10, 2008. Such an openly concerted effort is very unusual. Usually, companies conspire behind the scenes to use the State to further their ends. They do this via industry and association lobbyists. But in this case the executives openly went public and went to the public, not Congress.
The letter ends up directing readers to a website designed to pressure Congress to "stopoilspeculationnow." That’s S.O.S. now. If the airlines succeed in mobilizing voters to influence Congress on the issue of oil speculation via this letter and website, that increases the clout of the industry with Congress. The industry then can help write legislation or obtain regulation to benefit itself. At least that is one objective. Another goal is to assuage customers who might otherwise vent their anger at the airlines. The letter shifts attention to speculators.
This kind of thing goes on all the time in this democracy. Our purses are the prey. The industrial lions join their political brothers to make the kill and divide the spoils.
The airline executives blame speculation for the high oil prices. This is complete nonsense. These executives are either ignorant or charlatans or both. There is no middle ground. If, with their vast experience in buying oil and their access to the best brains, they do not know that speculators cannot be blamed for high oil prices, then they are ignorant. If they do know that what they are saying is false, then they are manipulative charlatans.
Do the airline executives regret that they did not buy more supply in the futures markets and hedge their requirements? How much of this is sour grapes, I wonder? Their companies are in bad financial shape. Do they now want Congress to provide them with fuel supplies at a fixed and low price? That is a logical expectation. I expect to hear more from the airline industry about their energy woes, and they will gain the ears of Congressmen more readily if this public lobbying effort succeeds.
The House has passed The Energy Markets Act, H.R. 6377 by a vote of 402-19. This bill directs the Commodity Futures Trading Commission to curb excessive speculation in any market under its jurisdiction. This bill is relatively toothless compared to the bans of yesteryear, but it brings back to life a bad precedent, opens the door to worse law, and educates onlookers in the false belief that speculation is a bad thing that requires the State’s control. It reinforces the false view that speculation is amenable to State control and that the results will be good ones. Furthermore, we once again observe a Congress that passes law upon the flimsiest of bases, by consideration of superficial statistics and with a pitifully poor understanding of what speculative markets accomplish. I have the unavoidable impression that they could care less.
The CFTC can get the exchanges to alter various rules that may temporarily cause a price drop by forcing the immediate liquidation of some contracts. The business would then move overseas. That is where S.O.S. Now comes in. It wants law that will somehow close the "London loophole" and also control over-the-counter trades.
Blaming speculators for difficulties that have other sources is a very old device. Frank Fayant in 1908 had published an article titled "The Function of Speculation." I quote him.
"The present campaign against speculation in securities and commodities is not new. It began centuries before exchanges were organized to meet the economic need for regulated speculation. Laws to restrict or prohibit making provision for the risks of the future in trade have been put periodically on the statute books of England, France, Germany, Holland and the United States. These laws have come to naught. They have either become inoperative or have been repealed. Uneconomic reformers have attempted to stamp out speculation because they believed it to be responsible for commercial depression and the low prices of investment securities, or for the low prices of wheat and other commodities, or for the high price of gold, or for extreme fluctuations in securities and commodities. All of these things were due to natural laws, and the speculation was not the cause but the product of them. And whenever speculation has been restricted these changes have become more violent and trade risks have been increased."
Speculation has been the scapegoat for both low and high prices, as well as fluctuating prices. Dr. Bernanke and associates, for example, are vainly attempting to stem the downward fluctuations of the current bear market.
Mr. Fayant reviews the history of restrictions in several countries. Five hundred years ago, herring prices soared in Yarmouth, England. The town authorities banned speculators. This stopped the "nefarious business," but it also stopped the "real trade in herring." The herring trade abandoned Yarmouth and moved to neighboring ports that did not restrict speculation.
In 1610, Parliament outlawed contracts for the delivery of securities and commodities more than three days ahead. Shortly after the South Sea Bubble, Parliament in 1734 attempted to control stock-jobbing. This law "was a dead letter" for 125 years. It was repealed in 1860. But in 1867 Parliament prohibited short sales in bank stocks.
In 1614, Amsterdam forbade short sales in securities. The business moved to Hamburg. But when Prussia attempted to control stock operations, the business moved to London.
New York in 1812 acted against short-sales and options. The repeal came in 1858.
Lincoln tried to bring gold prices down by the Gold Speculation Act of 1864. Short-selling was prohibited unless delivery could be made the next day. Foreign exchange transactions had to be closed within 10 days. And gold could not be exchanged except at the place of business of the buyer or seller. This closed down the market exchange in gold.
This law lasted only 15 days because its effect was the opposite of that intended. Gold rose in price from $200 to $300! Those who had dealt with speculators in gold thought it provident now to keep their own inventory of gold. Their demand pushed prices up.
Later, in 1866, gold again rose in price. The U.S. Treasury sold gold. "People rejoiced that the plans of the speculators had been defeated." However, shortly thereafter, the Prussian-Austrian War began and gold rose. The Treasury had to repurchase gold at higher prices, thereby making a loss.
When wheat prices fell drastically in the 1890’s, farmers blamed the declines on speculators who sold wheat they didn’t own. Congress nearly passed the Hatch Bill which sought to throw sand in the wheels by a 10% transactions tax. In Germany, the farmers won. Naturally, Teddy Roosevelt looked upon the German Bourse Act of 1896 as a good thing. The act prohibited futures trading in stocks and grains. Fayant reports:
"The effect of the legislation has been the reverse of what was intended. Germany’s trade and commerce have been crippled, price fluctuations have been greater, and the farmers have suffered. u2018Whenever a new crop of grain has come upon the German market since 1896 the inefficiency of the Produce Exchange has been strikingly illustrated. The trade has lost its power to absorb readily the new home supplies. As a consequence of this, prices broke away sharply, and grain was exported in unusual amounts in the fall and winter months. On the other hand, some supplies would run short toward the end of each harvest year, prices would rise, and large imports would follow.’ (William C. Dreher in the "Forum.")"
Futures markets dampen price volatility. In his 2007 article in Explorations in Economic History, which is titled "Populists versus Theorists: Futures Markets and the Volatility of Prices," David S. Jacks writes:
"The heart of the analysis is drawn from the historical record on the establishment and prohibition of futures markets. Briefly, the results presented in this paper strongly suggest that futures markets were associated with — and most likely caused — lower commodity price volatility."
The U.S. has a long history of populist dissent against speculators and speculation. I had thought that we were slowly outgrowing this as more and more individuals became speculators themselves. Although I still believe this, we are going through difficult times that are resurrecting the ill-will felt toward speculation. The airline executives should know better than to stoke these coals. They really should. However, given the deteriorated status of our educational system, I would not be surprised if they themselves believed their own words and had not taken the time to become educated about futures markets. I would also not at all be surprised if they had calculated the advantages noted earlier that they evidently may expect by issuing such a letter.
Michael S. Rozeff [send him mail] is a retired Professor of Finance living in East Amherst, New York.