Two reasons why oil prices are going through the roof

Trouble has been going on in the Middle East for weeks, so why have oil prices suddenly gone up precipitously today? Mainly because two major presumptions underlying our understanding of the world changed in the last 24 or so hours and in doing so shook up the global economic calculus (for the audio-inclined I discuss this on NPR’s Diane Rehm Show today).

First, we have long been accustomed to Saudi Arabia’s calming, sonorous voice when events have shaken the world of oil, which as we know is the underpinning of the entire global economy — no oil equals no economy, no conveniences, and so on. As it has in previous crises since the 1970s, Saudi Arabia has told the world — do not worry, we will moderate prices, and should there be a loss of oil supply from one or more other countries, we will compensate for it with our own plentiful production capacity. A current corollary of this mantra has been that the kingdom is safe from the turbulence that has struck so many of its neighbors — its citizens, cosseted by generous government subsidies, are simply too happy to rise up.

Yet yesterday, King Abdullah (on the billboard above) returned home after three months abroad for medical treatment and immediately announced a $36 billion payout to his citizens, including a 15 percent salary increase for public employees, "reprieves for imprisoned debtors and financial aid for students and the unemployed," as the Financial Times reports.

So oil traders can be forgiven if they thought to themselves, "If the Saudis are so immune from unrest, why did King Abdullah, as soon as he touched home soil, move to buy off his people?" The FT headline this morning put it bluntly: "$36 billion Saudi bid to beat unrest."

Result: panic buying on the oil market.

For the second punctured presumption, read on to the jump.

Throughout the current tumult — in Tunisia, Egypt, Bahrain, Yemen, and so on — there has been no direct impact, meaning attacks of any sort, on foreign oil drilling operations. Not only that, but there have been only the quietest suggestions of any threat. So, while the oil flow may be cut off for cautionary reasons in Libya, the betting has been that, regardless of how far the uprisings go, the oil fields and their workers themselves are more or less safe. There will be no permanent or long-term damage.

Until the last 24 or so hours, when bandits attacked a China National Petroleum Corp. operation in Libya. The company has flown 47 of its 391 employees out of the country, Reuters reports. So now there is the substantial uncertainty of the actual integrity of the Middle East’s energy infrastructure.

Result: more panic buying.

I asked Prof. Imad El-Anis, a Libya expert at Nottingham Trent University in the United Kingdom, whether he expected such a change in events on the ground. He replied that we may see a lot more of it:

It’s not that surprising that some facilities seem to have been targeted or sabotaged, and the longer there is a struggle between the regime and anti-regime groups (importantly, including the security forces that have gone over to the anti-regime side), the likelihood of attacks on oil facilities will increase for two reasons: Firstly, the breakdown in law and order, which always leads to trouble, and I think there will be some (albeit limited) backlash against foreign entities by some groups. And secondly, I think the regime will get increasingly desperate and target as much infrastructure as it can before it collapses entirely. It is, obviously, this latter scenario which is most worrying.