Op-Ed:

Emerging economies hardest hit if oil price manipulated

open | 27 May, 2013

Rising oil prises have been especially painful for emerging markets economies - and in particular for those with fuel subsidies.

So European Commission's (EC's)  raids against offices of oil companies in the Netherlands, the UK and Norway, should please those emerging- and developing economies who carry a larger load for as long as oil prices are historically high.

The EC must have had reliable tips that oil companies colluded to manipulate the oil price on the screens of Platts – which are used in most oil contracts around the world. And is therefore expecting to find data that would prove these oil firms have manipulated the global price of oil, of oil products and biofuels.

UK’s BP, Royal Dutch Shell, Norway’s Statoil and the pricing firm Platts all had to hand over files.

Among emerging economies with subsidies in place and with more then to loose are India, Indonesia, Nigeria, South Africa and other Southern African Custom Union countries like Namibia, Venezueula and Mexico, plus a number of oil economies in the Middle East like Saudi Arabia. Iran and Iraq.

Manipulation to the upside only adds to the pain. Producer countries, on the other hand, have seen income rise drastically, and with it, in many cases, corruption by officials.

The EC decided to act because price manipulation can have cost the consumer. Lawyers think a whistleblower could have tipped off the regulators. After the raids, the EC questioned all major international trading houses, including Vitol, Glencore, Mercuria and Gunvor, which are known for their flexible arrangements.

The latest investigation is part of a trend. The EC has become serious about manipulating prices of key benchmarks after the Libor scandal in which banks colluded on interest rates.

Ultimately, banks paid some $2 billion in fines. Betting on a similar outcome with oil, one Chicago-based fund already has sued all oil firms under scrutiny.

Meanwhile oil traders are angry with the EC probe and claim that regulators have little knowledge of the oil trade.

For sure, the physical trade is an opaque and complex world with many moving parts that can ultimately define the price, such as the quality of the oil, the available volume, the location or the time of loading.

Market analysts agree this will be a steep learning curve for the EC but point out that traders attempt to influence the oil price at all times, both up and down – whether that is collusion is another matter.

The EC is limited to probing the spot market of oil, the so-called Platts window, where the spot price of oil is set.

Importantly, this spot price takes its lead from the electronic commodity exchanges such as Nymex in New York and ICE in London.

However it is in the equally poorly understood futures market where the actual price of all is set. The spot market trades around the futures price. Traditionally, the spot price of Brent in London is trading in a band of roughly $5 around the Brent futures price, which itself is the result of fundamental oil supply and demand, but increasingly the outcome of financial factors and geopolitics.

The EC is right to investigate the spot market, but should also look at the complex futures market. In the US, the Commodity Futures Trading Commission (CFTC) is doing just that. Within hours of the EC raids, the CFTC questioned banks in the US about the legality of their use of oil derivatives. Officials say there is no link between the two probes, although the timing suggests otherwise.

Most attention is on the EC investigation. For the public, the outcome of the US probe can have much bigger consequences. Interestingly, the CFTC’s probe includes a number of banks that were involved in the Libor scandal.

What the next step can be obviously depends if the EC raid finds anything that sticks. And if they do those economies that feel they have suffered from possible manipulation may also take their case too courts.