No one has ever said that markets aren’t subject to volatility. Lulls are followed by rallies; rallies are offset by declines. Demand and crisis give lift to price, thresholds are tested and then there is a tumble back to earth. For universal commodities like crude, volatility and price shocks are not insulated occurrences, but are felt on a macroeconomic level, resulting in booms and recessions, while triggering emotional responses. Following the oil glut of the late 1980s, the last two decades have been highlighted by a considerable increase in worldwide crude prices, which in turn has sparked consumer outrage; has left energy companies trying to answer for unparalleled profits; has provided momentum to the “green” movement; and has emerged as a major front in foreign policy.
Through it all, there has been a question as to whether the facts of a true market response are being witnessed, or is it the fiction of greed-guided manipulation.
The start of this century has been mired in an energy crisis as crude and gasoline prices have escalated, seemingly out of control. The Energy Information Administration (EIA) reported on January 4, 2002 that the average price for a barrel of crude stood at $18.68. From there, the price marched steadily upward and for the week ending July 4, 2008, the EIA reported the average price per barrel was $137.11. That’s nearly 7.5 times the price seen in six years earlier. Just a week later, on July 11, 2008, the price per barrel reached a record of $147.27 and has eased its way down since. Public outcry over those years was vocal—still echoing today—and energy companies, traders and speculators fell into the crosshairs of Congress. In 2007, the Energy Independence and Security Act (EISA) was passed, and Subtitle B of Title VIII of the law specifically addressed petroleum market manipulation.
Acting on the authorities granted it under EISA, last week, the Federal Trade Commission (FTC) issued a Final Rule concerning market manipulation by petroleum industry members. And the agency is prepared to enforce the provisions of the rule with gusto.
“This new rule will allow us to crack down on fraud and manipulation that can drive up costs at the pump,” said FTC Chairman Jon Leibowitz, stating that the agency will use its authority under the rule as aggressively as possible. “We will police the oil markets—and if we find companies that are manipulating the markets, we will go after them.”
The key word is “if.” Since the 1960s, as FTC Commissioner William Kovacic and industry groups have pointed out, the FTC has been investigating allegations of price-fixing and other anti-competitive behavior in the oil sector. During previous investigations of price fluctuations, the agency determined that market forces were principally at play. Now, the Final Rule’s broad mandate will allow the FTC to enforce penalties upon a wide range of contracting instruments and possibly become blight in transactions that don’t even affect consumers.
Under the Final Rule, the FTC will be zeroing in on any person, directly or indirectly, involved in the purchase or sale of petroleum products for knowingly perpetrating instances of false public announcements of planned pricing or output decisions, false statistical or data reporting, wash sales intended to disguise the actual liquidity of a market or the price of a particular product, or the employment of any other manipulative or deceptive device or contrivance. The Final Rule also prohibits intentional material omissions from a statement that, although true, is misleading under the circumstances and has an adverse effect on the market as a whole. As imagined, the proposed rule and its current final version have not won any friends in the oil industry, particularly as the FTC has armed itself with the ability to bring down the hammer of substantial fines.
“Unlike other unfair or deceptive acts or practices, for which the penalty per violation under the FTC Act is $11,000, the maximum penalty here is nearly 100 times greater—$1 million—and it compounds each day until a violation is rectified,” the American Petroleum Institute (API) released in a statement. “This clearly is an overreaction by the FTC when strong deterrents already are in place.”
The industry’s concern, mirrored in the dissenting vote of Commissioner Kovacic to the rule’s passage, is that ultimately the rule is going to create a timid environment where traders and industry officials are fearful they are going to be pegged with fines for inadvertent mistakes.
“Because the Final Rule’s requirements are unlikely to proscribe only genuinely harmful conduct, there is serious danger that it will impede routine contracting that is benign or pro-competitive and thereby make Americans worse off by damaging the flow of commerce in petroleum products,” wrote Kovacic.
FTC Commissioner J. Thomas Rosch agreed with the rule’s adoption, but cautioned that Kovacic’s opinion was warranted since the conduct prong of the rule for knowing deceit does not require proof of an exercise of market power having an adverse impact on the market as a whole, which is required under the Sherman Act.
“The net result is that the rule may chill oil companies from, among other things, voluntarily providing their data to independent data-reporting firms, as they do now, for fear that they may be held liable for an inadvertent omission,” noted Rosch.
The Final Rule will go into effect on November 4, 2009. Leibowitz shrugs off the allegations of the potential damage to commerce.
“Trade associations representing the oil industry have voiced concern about the new rule. They argue that it will chill business conduct in the service of stopping something that they don’t believe is happening in the first place,” stated Leibowitz. “These industry advocates have proposed specific changes that would weaken the rule—requiring a higher scienter standard under the general liability provision, requiring an explicit market distortion element for the entire rule and entirely eliminating liability for omissions.”
Leibowitz simply concluded, “I am fundamentally opposed to these proposals,” adding that he agreed with Commissioner Rosch that those suggested changes would effectively neuter the rule and would hinder the agency’s ability to curtail market manipulation.
Matthew Carr, NACM staff writer. Follow us on Twitter @NACM_National