How The Fed caused the oil crash

The days of 2014 are dwindling down to a precious few. It gets darker and darker this time of year. The Fed doesn’t seem to be able to do anything about it.

Yesterday, the Dow fell another 111 points.

And less than a week from today, the shortest day in the northern hemisphere. Then, the Sol Invictus (Unconquered Sun) will have its day of victory, growing day by day until the 21st of June.

But today is the first day of Saturnalia; the sun fades. The ancient Roman holiday is a time for role reversals. For once, masters served their slaves and all enjoyed gambling and drunkenness.

Meanwhile, in Washington, a group of suits at a nearby breakfast table:

“We’ve got a much better shot now.”

“Yeah… I talked to Mitchell… I think we can get it through. But we have to be patient.”

“Christ, we’ve been waiting three years for this thing.”

“Yeah, but that was before November… we’ve got a much better shot now.”

We are sitting in the lobby of our hotel, our feet on a footstool. We are waiting for an over-paid government worker to wash them for us. So far, none has presented himself or seemed interested in the task. Saturnalia’s role reversal has not made its mark on the nation’s capitol, yet.

That is just a bit of the problem with our modern democracy. Master and slave – it’s hard to tell who is who. The slaves go into the voting booth and think themselves masters. Pulling the levers, they think they command their ‘public servants’.

But the bureaucrats, politicians and lobbyists know who’s boss.

We are interrupting our series on investing. So much is going on in the world, we need to keep up with it. Most interesting, from a financial point of view, is the crash of oil prices.

“Plunging crude prices threaten the axe for $1trn of energy projects,” screams the Financial Times headline.

Lower on the front page: “Russia ramps up interest rate to 17% in ‘shock and awe’ bid to shore up the rouble”.

Stripper wells, deep wells, shale wells, the Russian economy – all are in danger. Prices are not high enough to justify further investment or operations.

But imagine that you have borrowed heavily to drive oil wells. You have to keep up with your debt, whether the price falls or not. What do you do? You pump all you can! And the increased supply further depresses oil prices.

On display is the whole bubble-mongering humbug – from alpha to omega – of the Fed’s zero interest rate policy (ZIRP). Oil producers borrowed some $500bn of junk debt and increased production from shale by four times. This was proclaimed as a kind of ‘New Deal’ for US industry.

But now we see. It’s the same old false shuffle by the central bankers. Bubbles, bubbles, bubbles… From dotcoms, to houses, and now to energy.

The idea of the super-low rates is to bring about investment, jobs, and spending. Paul Krugman still believes in it. The author of End this Depression, Now is urging the Fed to continue with its ZIRP programme: “It’s a pretty weak world economy out there, we don’t see any inflation, and the risk if we raise rates and it turns out we were mistaken is just so huge”.

What about the risks in choking, squeezing, and beating down interest rates? As Ludwig von Mises tells us, every boom caused by cheap credit ends in a bust.

There is no means of avoiding the final collapse of a boom brought about by credit expansion. The alternative is only whether the crisis should come sooner as a result of the voluntary abandonment of further credit expansion, or later as a final and total catastrophe of the currency system involved.

The oil patch boom was a product of the Fed’s low rates. Without them, the industry would not exist in its current form. It couldn’t have financed so much risky capital investment. But there’s always a snake in the woodpile, somewhere. Low rates alone weren’t enough. Oil prices had to stay up too.

The Fed may control the earth, the moon and the stars. But the Arabs control oil prices. And they were happy to see them fall, in order to put the hurtin’ on their competitors.

And so… the bubble bursts! And since so much money ran into energy products, and so many jobs came from it – the non-shale states have had no net job creation since the crisis began – mightn’t the whole ‘recovery’ story turn out to be a bubble too?

We wait to find out.