Phil Gramm and The Political Scandal Behind Today’s Soaring Oil Prices
When George Soros’ new book The New Paradigm for Financial Markets; the Credit Crisis of 2008 was released, I was eager to read it. Not only does he have a great track record as a progressive but he has been a big (and successful) player in global financial markets. I fully intended to review the book, but before beginning I decided to check out what he had to say on the runaway escalation of oil and gas prices. And in the back of my mind there was the Phil Gramm story. McCain’s chief lobbyist until very recently was a paid lobbyist for UBS, a major Swiss bank which is reportedly in serious trouble. My guess paid off. Gramm is directly responsible for the present the series of economic bubbles which now threaten to bring down the entire U.S. economy.
My first step was to check out testimony given by Soros on June 3, to an Oversight Hearing on FTC Advanced Rulemaking on Oil Market Manipulation, held by the U.S. Senate. While disclaiming expertise on oil markets, he said that he was confident that his “life-long study of bubbles,” allowed him to understand how speculators were responsible for the recent sharp rise in the oil futures market and gasoline prices. By their intervention in these markets they reinforced a prevailing trend toward higher prices. He enumerated the underlying factors pushing the market up and then discussed the role of the financial institutions in creating a bubble.
Many people claim that the prices hike is a problem of supply and demand exacerbated by the fact that oil reserves have hit their “peak.” Soros dismisses the “peak oil” thesis misleading because new reserves exist that can come on the market. He suggests instead that existing oil reserves are being hoarded to take advantage of the rising market.. While he admits that the increasing demand by China and India does created upward pressure on oil and gasoline prices, in his opinion this can only account for a small proportion of the increase which is being amplified by the speculators. In his words:
Fourth, both trend-following speculation and institutional commodity index buying reinforce the upward pressure on prices. Commodities have become an asset class for institutional investors and they are increasing allocations to that asset class by following an index buying strategy.
So, is this a bubble? The answer is that the bubble is super-imposed on an upward trend in oil prices that has a strong foundation in reality. … In discussing the bubble element I shall focus on institutional buying of commodity indexes as an asset class because it fits so perfectly my theory about bubbles.
Commodity indexes and commodities future markets were originally set up with low margin requirements to give a kind of insurance protection to producers, for example allowing farmers to hedge against crop losses such as are occurring now in Iowa, but they were tightly regulated. They were intended to function as a way to provide capital to stay in business and finance production. Now financial institutions have entered these markets, taking advantage of margin rates of 5% to 10% and they are using them to place speculative bets on the direction of prices which they themselves are manipulating.
Key to this was Phil Gramm’s role in deregulating oversight of these markets by the Federal Reserve Commission. Soros argues that these regulations must be reinstated in order to protect the economy which is in danger of being driven into severe recession.
Varying margin requirements and minimum reserve requirements are tools that ought to be used more actively to prevent asset bubbles from inflating. This is one of the main lessons to be learned from the recent financial crisis.
Soros’ testimony was important but the big news at the hearing was what Michael Greenberger, who served as Director of the Division of Trading and Markets of the Commodities Futures Trading Markets, had to say. In his oral testimonybefore the committee he explained how John McCain’s chief economics advisor, Phil Gramm had pull a fast one on Senators before the 2000 Christmas recess.
As Greenberger explained to the Committee this was deliberate trickery. The Gramm rider was added to the massive bill in the small hours of the morning. In the short term we had the Enron blow-out. Now eight years later the repercussions of Gramm’s treachery are still felt with the collapse of the housing bubble financed by sub-prime mortgages that were repackaged and marketed by unregulated hedge funds, and out-of control food and gas prices. Greenberger also submitted 32 pages of written testimony which is quite technical. An article by James Ridgeway in the Village Voice Phil Gramm’s Enron Favor describes what happened:
In June 2000, Gramm—then chairman of the Senate Finance Committee—co-sponsored the Commodity Futures Modernization Act, a measure aimed at deregulating certain kinds of futures trading, but not energy futures. That bill never made it to the floor, and thus quietly died. Six months later, on December 15, Gramm curiously turned up as co-sponsor of a bill with the same name, the Commodity Futures Modernization Act, which did deregulate energy futures and which, without undergoing the usual committee hearings and preliminary votes, was immediately attached as a rider to an 11,000-page appropriations bill. The bill passed and was signed into law by President Bill Clinton six days later.
The first beneficiary of the deregulation was Enron.
Gramm’s wife Wendy was the Senators co-partner in this process of deregulation which began eight year before, as Ridgeway explains in his article:
In an apparent response to a 1992 plea from Enron, Dr. Wendy Gramm, then chair of the federal Commodity Futures Trading Commission, moved to exempt the company's energy-swap operation from government oversight. By then, the Houston-based Enron was a major contributor to Senator Gramm's campaign. A Salon article by Joe Conason, goes into Phil Gramm’s seamy history. McCain’s Scary Economic Advisor. He has a good profile of how until recently, Mr. Clean’s chief economic adisor was paid lobbyist for United Banks of Switzerland (which is in major financial difficulties).
A few days after she got the ball rolling on the exemption, Wendy Gramm resigned from the commission. Enron soon appointed her to its board of directors, where she served on the audit committee, which oversees the inner financial workings of the corporation. For this, the company paid her between $915,000 and $1.85 million in stocks and dividends, as much as $50,000 in annual salary, and $176,000 in attendance fees, according to a report by Public Citizen, a group that has relentlessly tracked Enron, which in turn has called the report unfair.
Greenberger appeared on two NPR radio shows where he discussed the need to re-regulate these markets. On April 12, he appeared on NPR’s Fresh Air where he on discussed how the Gramm deregulation created the housing bubble on; and on the June 10 he joined two other panelists on the Diane Rehm show Here he specifically discusses the oil crisis and explains how the market could be controlled through a series of regulations, including a 50% margin imposed on speculators.
He explained how the Gramm-sponsored “reforms” distorted the commodities markets. When controls which had been set up during the New Deal were lifted this set the stage for further deregulation. When these controls were removed not only did speculators run rampant and prices sky-rocketed. He explained that U.S. oil prices are based upon the price of Texas intermediate crude oil. Because of the deregulatory climate established in December 2000, control of 30% of Texas-crude-oil market has been out-sourced to British and Dubai regulators. This was done by a letter of intent written by staff members of the CFTC and can be revoked at any time by Congress, which of course is his recommendation.
An interesting discussion appears in Salonmagazine, The London-Dubai Loophole. Andrew Leonard how foreign markets in London and now Dubai as well are in a position to control U.S. oil prices, and includes a link to Greenberger’s 32 page testimony mentioned above. Greenberger also spoke before the Democratic Policy Committee when it held hearings and his written testimony, Lesson’s from Enron available here is informative.
The June 3, Senate Committee Hearings were called by Sen. Carl Levin (Dem. Mich.) and that Levin attached an amendment to the recently passed massive farm bill that John McCain opposed and Pres. Bush threatens to veto. Greenberger said that Levin’s proposal would not work because it would force the government to prove that manipulation was taking place in order to use regulatory authority, and their authority would only be effective domestically, allowing off-shore markets market manipulation to continue. This would leave the government with the constant burden of proof to prove manipulation was occurring, and put the onus for intervention on the CFTC. Greenberger is holding out for repeal of the Gramm rider which would reinstitute controls as they were before Dec. 2000.
An article on the financial blog by Vinnie Catalino discusses the Levin proposal gives a summary of Greenberger’s testimony.
Sen. McCain has yet to detach Phil Gramm from his campaign. No doubt pressure will mount on him to do so. But McCain will not be able to distance himself from his own 100% support to a deregulated market economy.