Gold Bugs Love It, But a New Gold Standard is Just a Dream –For Now

Global Investing Strategist, Money Morning
Thanks largely to Ron Paul, the Republicans have suddenly become enamored of gold.

And why not?...It is real money.

These newly-born gold bugs have even gone so far as to include a call for a commission to examine a return to the gold standard in the party platform.

Needless to say, we've come a long way since President Richard Nixon "closed the gold window" in 1971. Forty-one years, and a few financial disasters later, the debate has begun anew.

But it begs the question: How would the gold standard work?

What's more, what would the economic implications be, and is it likely to happen or is it all just a gold bug's dream?

In ancient and medieval times the answers were quite a bit more simple. Since there was no real banking system, there was also no argument.

Kings coined money with gold, silver, or copper, and the people accepted the money at a price based on its metal content. The idea of taking paper instead would have been thought of as sheer madness.

Only in China, an isolated and stable society, was paper money used during the Song Dynasty of the 10th through 13th centuries, but even there the Mongol invasion and fall of the Song regime caused the paper money system to collapse.

Paper money backed by gold only became possible once modern banking got going in Europe in the 16th and 17th centuries.

In fact, the British Gold Standard was devised in 1717 by no less than Isaac Newton, then Master of the Mint. Other countries soon joined Britain in linking their currencies to gold, including the United States from 1878 until its abandonment in 1933.

Of course, countries claimed to be on a gold standard under the Bretton Woods Agreement from 1944-71, but gold was only exchangeable between governments. Indeed, holding gold was prohibited in the U.S. for private individuals.

But inevitably, the Bretton Woods monetary system itself became manipulated and collapsed in inflation.

That brings us to today....


The Problem With the Gold Standard

As I see it there are two problems with instituting a new gold standard.

First, gold supplies can only be increased by around 1% annually, if that. Currently, the annual new supply of gold is around $200 billion worth, compared to a gold "stock" of about $9 trillion worth. That means the expansion rate of gold in circulation is only about 0.22%.

However if world population increases by 1% annually and global economic growth averages even 2%, the need for money expands by 3%, minus any increase in its "velocity."

That makes a gold standard impossibly deflationary - which is why the system collapsed after 1900, as population growth accelerated. Currently annual global population growth is around 1.1%, far too fast for a renewed gold standard.

The good news is that population growth is slowing. By about 2039 it will fall below 0.5% annually, the growth rate in the second half of the nineteenth century. So if we want a gold standard we may have to wait for it.

The second problem with a gold standard is the existence of central banks and the banks themselves.

This is best illustrated by the pitiful performance of the Fed from its 1913 inception until 1933, when it is generally held to have greatly worsened the Great Depression by getting the money supply completely wrong.

Banks overleveraged during the 1920s (while the Fed kept interest rates too low) then were forced to deleverage after 1930, which reduced the money supply sharply even while the volume of gold in circulation was constant.

The Bank of England, in existence since 1694, from time to time caused similar problems, but tight British regulation of bank leverage during the nineteenth century kept crises under control.

The solution is to run a "free banking" system with no central bank (or bank deposit insurance), which existed in the United States only between 1837 and 1862 (after 1862 the Treasury-issued banknotes and leverage rose.)

After a few panics and crashes, this would put the fear of God into the likes of Citigroup (NYSE: C) and JP Morgan Chase (NYSE: JPM) and leverage throughout the banking system would decline to a level at which crashes did not occur.

However, given the current U.S. demand for loans and transactions, this would be extremely expensive in capital - the banks would have to keep at least 10 times their current capital ratio of roughly 3% of assets.

Meanwhile, loan rates would also need to increase, as would the fees for credit card payments, etc. Some of this excess demand could be accommodated by "shadow banks," such as money market funds and securitization vehicles, but these, too, would have to be run much more conservatively than at present.

Better Than a Gold Standard

So realistically, it's pretty unlikely that the U.S. will ever re-adopt the gold standard, both because of the cost and because of the vested interests opposed to it.

Only after a currency collapse like that of Germany's Weimar Republic would confidence in paper money be shaken to such an extent that gold might be the only alternative.

However most of the benefits of a gold standard can be attained without actually moving to one.

The Fed's dual mandate to control both inflation and unemployment should be narrowed to a single mandate, to control inflation. A Fed chairman like Paul Volcker should be chosen who manages monetary policy through allowing only a low rate of increase in the major money supply measures - a policy Alan Greenspan abandoned in 1993.

By this means, interest rates would be forced up until they were comfortably above the inflation level, so that savers achieved a proper reward for the time value of their money.

As a result, U.S. savings would be rebuilt, the current drain of U.S. capital overseas would be reversed, there would once again be more capital available to support the U.S. workforce, and true prosperity and full employment would return.

If Republicans were serious about sound money, that would be the place to start.

Chesapeake to Sell $6.9 Billion of Assets

Chesapeake Energy Corp. (CHK) agreed to sell oil and natural-gas assets for $6.9 billion in a series of transactions that will narrow a cash-flow shortfall threatening to crimp the company’s drilling and production goals.
Chevron Corp. (CVX), Royal Dutch Shell Plc (RDSA) and EnerVest Ltd. will buy acreage in the Permian Basin of Texas and New Mexico for $3.3 billion, Chesapeake said in a statement today. Closely held Global Infrastructure Partners will buy most of Chesapeake’s pipeline and processing assets for $2.7 billion.

The Permian Basin holdings were the most valuable of several assets Chesapeake Chief Executive Officer Aubrey McClendon put up for sale this year to raise cash to avoid a credit-rating downgrade and maintain debt covenants. The company retained 470,000 acres in the Midland Basin, the eastern section of the Permian Basin, which may be sold or developed.
“It’s positive,” Tim Rezvan, an analyst for Sterne, Agee & Leach Inc. in New York who rates the shares at neutral, equivalent to a hold and owns none, said today in a telephone interview. “The Permian Basin figure was lower than we expected, but they haven’t sold everything.”
McClendon said in a March interview that he expected the Permian assets to fetch at least $5 billion. Last month, McClendon told analysts during a conference call that some of the Permian acreage failed to attract bidders and may be remarketed once the current sales agreements close.
The announcement was made before regular trading began on U.S. markets. The shares rose 3.2 percent to $20.75 at 8:43 a.m. in New York. As of yesterday, they had fallen 9.8 percent this year.
Midstream Sales
Chesapeake has sold or agreed to sell $11.6 billion of assets this year, toward a goal of $13 billion to $14 billion, McClendon said in today’s statement. The Permian divestitures accounted for 5.7 percent of second-quarter output, including 21,000 barrels of oil per day and 90 million cubic feet a day of gas, the company said.
Global Infrastructure’s $2.7 billion purchase includes most of Chesapeake’s pipeline and processing operations, according to the statement. Unnamed companies will buy additional oil gathering pipelines in Texas’ Eagle Ford and the midcontinent region for about $300 million. Global Infrastructure agreed in June to buy Chesapeake’s share of a publicly traded pipeline and processing partnership now called Access Midstream Partners LP. (ACMP)
Chesapeake is also selling acreage in the Utica shale and other areas it doesn’t want to develop for $600 million in four separate transactions, according to the statement.
Cracking Shale
Major international energy explorers including Chevron and Exxon Mobil Corp. (XOM), the largest gas producer, have been amassing drilling rights in onshore U.S. prospects they previously ignored as marginal. During the past decade, domestic explorers such as Devon Energy Corp. (DVN) and Chesapeake perfected intensive drilling techniques to crack shale formations, triggering a land rush from Texas to Ohio. Demand for oil fields also has been spurred as crude more than tripled to $90 a barrel during that period.
“It’s a positive sign that there are proven counterparties that want to do business with Chesapeake,” Rezvan said. McClendon and Archie Dunham, who replaced him as chairman in June, have “delivered” on a promise to accelerate asset sales and narrow the cash gap, Rezvan said.
Cash Crunch
Chesapeake, the second-largest U.S. gas producer, lost as much as 60 percent of its market value in the past year as a glut-driven slump in gas prices squeezed the company’s cash flow and forced McClendon to accelerate the pace of asset sales. Investors also battered the stock amid two federal probes of potential conflicts between the CEO’s personal financial transactions and corporate duties.
McClendon, 53, was deposed from the chairman’s post in June and more than half the board was replaced as Chesapeake’s largest shareholders, Southeastern Asset Management Inc. and Carl Icahn, agitated for governance reforms. McClendon also is losing access to a corporate perk that allowed him to buy personal stakes in almost every well the company drilled.
Energy companies spent $16.4 billion on acquisitions in the Permian Basin between January 2009 and July 10 of this year, according to data compiled by investment research firm ITG. The transactions involved 2.01 million acres and the equivalent of 110,908 barrels of daily oil production.
Quitting Permian
McClendon has been shifting drilling rigs from money-losing gas fields to prospects that hold crude and gas liquids such as propane, which command higher prices. On June 1, the company announced the largest oil discovery in Chesapeake’s 23-year history in a formation near the Texas-Oklahoma border known as Hogshooter.
Chesapeake has no plans to put its 30,000 acres of Hogshooter leaseholds up for sale, Jim Gipson, a spokesman for the company, said during a June 1 interview.
McClendon considered quitting the Permian Basin once before, when he announced plans in September 2002 to pursue lower-cost prospects in the U.S. Midwest instead. Fifteen months later, he changed course with a $420 million acquisition including wells in the Permian from closely-held Concho Resources Inc. (CXO)
Jefferies & Co. Inc. and Goldman Sachs Group Inc. (GS) advised Chesapeake on the sale of Permian and midstream assets.

Barratt Shares Drop as Developer Declines to Pay 2012 Dividend

Barratt Developments Plc (BDEV), the U.K.’s largest homebuilder by volume, said it won’t pay an annual dividend after posting its first full-year profit since 2008. The shares fell the most in four months.
Net income was 67.4 million pounds ($108.3 million) compared with a loss of 13.8 million pounds a year earlier after margins widened and debt was cut, London-based Barratt said in a statement today. Revenue rose 14 percent to 2.32 billion pounds and the operating margin widened to 8.2 percent from 6.6 percent as the company built on land bought at discounted prices.
Barratt was forecast to pay investors 0.7 pence a share, according to Bloomberg Dividend Forecasts that account for earnings and options prices. The company last paid a dividend in 2008. Dividend payments may resume next year if the U.K.’s residential real estate market remains stable, Barratt said in the statement.
“There is ongoing economic uncertainty in the U.K. market and as such we do not expect to see significant growth in customer demand over the next year,” Chairman Bob Lawson said in the statement.
Barratt fell as much as 6.8 percent, the most since May, and was down 10.1 pence to 159.6 pence as of 9:25 a.m. in London trading. The company has gained 72 percent this year, giving it a market value of 1.56 billion pounds.
‘Somewhat Disappointing’
Not paying a dividend this year “may be taken as somewhat disappointing by more optimistic commentators,” said Charlie Campbell, an analyst for Liberum Capital Ltd., by e-mail. He reiterated his buy recommendation for the stock.
The homebuilder completed 12,637 homes in the 12 months through June compared with 11,078 a year ago. The average selling prices of its properties rose 1.2 percent to 180,500 pounds as Barratt focused on houses rather than apartments.
“Further progress on margin improvement and debt reduction is effectively hardwired into the business,” Group Finance Director David Thomas said in a conference call. “A greater proportion of our sales are now coming from higher margin land that we’ve acquired in recent years.”
Around 35 percent of its completions were built on land with high margins, Barratt said in the statement. That’s expected to rise to more than 50 percent next year and surpass 80 percent by 2015, Thomas said on the call.
Forward sales were up 35.5 percent to 366.9 million pounds. The company acquired 578.1 million pounds of land, totaling 12,085 plots, it said in the statement.
Net debt was 167.7 million pounds as of June 30 compared with 322.6 million pounds a year earlier. Barratt plans to have paid its debts by June 2015, Thomas said.

Greece to Lease 40 Uninhabited Islands to Reduce Debt

Greece’s Hellenic Republic Asset Development Fund has identified 40 uninhabited islands and islets that could be leased for as long as 50 years to reduce debt as pressure grows on the country to revive an asset-sales plan key to receiving international aid.
“We identified locations that have good terrain, are close to the mainland and have a well-developed infrastructure and, at the same time, pose no threat to national security,” Andreas Taprantzis, the fund’s executive director for real estate, said in a Sept 6. interview in Athens. “Current legislation doesn’t allow us to sell them outright and we don’t want to.”

The fund is charged with raising 50 billion euros ($64 billion) from state assets by 2020 to meet conditions tied to pledges of 240 billion euros in foreign aid. As international inspectors in Athens scrutinize the country’s fitness to receive the latest aid payment, Prime Minister Antonis Samaras has said commercial exploitation of some islands could generate the revenue lenders need to see to continue funding the country.

The shortlist includes islands ranging in size from 500,000 square meters (5.4 million square feet) to 3 million square meters, and which can be developed into high-end integrated tourist resorts under leases lasting 30 years to 50 years, Taprantzis said.

Onassis Heiress
The fund reviewed 562 of the estimated 6,000 islands and islets under Greek sovereignty. While some are already privately owned, such as Skorpios by the Onassis shipping heiress Athina Onassis, the state owns islands such as Fleves, which is near the coastal resort area of Vouliagmeni, and a cluster of three islands near Corfu. Taprantzis declined to identify any of the islands.
Legislation needs to be passed to allow development of public property by third parties and reduce the number of building, environmental and zoning permits needed before the plan can proceed, Taprantzis said.
Outright sales have been ruled out because the returns for the Greek state wouldn’t be higher than a leasehold arrangement, he said. Greece will attract more investment if an island is turned into a resort, he said.
Selling public land outright is a politically sensitive issue in Greece. In 1996, Greece and Turkey almost went to war over who owned the uninhabited Aegean islet of Imia, known as Kardak in Turkey. A proposal by Greece’s lenders last year to increase revenue from asset sales including property drew opposition from then-premier George Papandreou, who said he’d legislate to prohibit such sales.
Political Hurdles
The country has only raised about 1.8 billion euros from its asset sales program, sparking criticism among European officials that the government isn’t moving quickly enough to reduce debt. Months of negotiations over the country’s debt restructuring earlier this year, the largest ever, and two general elections that threatened Greece’s membership of the euro area also held back progress on sales.
Takis Athanasopoulos, the fund’s new chairman, said the goal of generating 19 billion euros from state asset sales by 2015 can be met as long as Greece’s business environment is “appropriate.”
The fund will be able to gauge demand for Greek real estate as it revives a tender to develop a golf course on the island of Rhodes, Taprantzis said.
Second Round
The fund chose six groups, which include London & Regional Group Holdings Ltd. and NCH Capital Inc., out of seven contenders to enter a second round of bidding for developing a strip of land on the island. A preferred bidder for the site measuring 1.85 million square meters, including an 18-hole golf course, is expected to be chosen by the end of February, the fund said yesterday.
“We are enthusiastic about the potential of this particular tender and what it reveals about market sentiment for Greek assets at this time,” Taprantzis said.
The fund also selected Qatari Diar Real Estate Investment Co., London & Regional, Elbit Cochin Island Ltd. and Lamda Development SA (LAMDA) for the second phase of bidding to buy a majority stake in Hellenikon SA, which will develop the site of the former Athens International Airport, which at 6.2 million square meters is more than three times the size of Monaco, according to the fund.

U.S. Underwater Homeowners Regain Equity as Prices Climb

More than 1.3 million U.S. homeowners regained equity in their properties this year as prices rose after the worst real estate collapse since the 1930s, according to CoreLogic Inc. (CLGX)
About 600,000 borrowers who had been underwater, or owed more than their homes were worth, reached positive equity in the second quarter, the Santa Ana, California-based data provider said today. That added to the tally of more than 700,000 in the first three months of the year. About 22.3 percent of homeowners with a mortgage had negative equity at the end of June, down from 23.7 percent three months earlier.
Real estate prices are climbing as demand increases, giving homeowners more equity in their properties and the flexibility to sell or reduce their borrowing costs by refinancing. U.S. home prices increased 3.8 percent in July from a year earlier, the biggest annual gain in almost six years, according to a CoreLogic index released Sept. 4.
“Prices are snapping back quickly and it’s having a material impact on reducing negative equity,” Sam Khater, CoreLogic’s senior economist, said in a telephone interview. “Equity comprises the largest component of homeowner wealth, and their wealth is finally rising.”
Almost 2 million more borrowers with negative equity would be above water if home prices nationally increased by 5 percent, Anand Nallathambi, president and CEO of CoreLogic, said in today’s statement.
Fastest Gains
Home prices are rising faster than the U.S. average in many of the states that have the largest shares of underwater borrowers, Corelogic said.
In Nevada, 59 percent of homeowners with a mortgage were underwater, the biggest share in the U.S., followed by Florida with 43 percent, Arizona with 40 percent, Georgia at 36 percent and Michigan with 33 percent. Those states combined account for 34 percent of the total amount of negative equity in the U.S.
Home prices in Arizona jumped 17 percent in July from a year earlier, the largest increase, according to CoreLogic. They climbed 6.6 percent in Florida, 5.1 percent in Nevada and 4.8 percent in Michigan. Prices fell 0.2 percent in Georgia.

Gundlach Considers Stock Funds to Expand DoubleLine’s Mix

Jeffrey Gundlach, the top- performing bond manager who built DoubleLine Capital LP into a $40 billion fixed-income shop since he co-founded the firm less than three years ago, said he may add stock funds to the lineup.
“I like the way equities are out of favor and I like doing things when they’re unpopular,” Gundlach said yesterday in a telephone interview after a presentation discussing his views on the markets and the economy. “Equities are a superior investment to bonds for an inflation hedge and I like the ability to diversify and broaden the firm.”
DoubleLine, which is based in Los Angeles and was founded by Gundlach and President Philip Barach in December 2009, oversees more than $40 billion in assets. The firm may bring in teams within a few months that could manage a mutual fund that invests in U.S. stocks and a long-short equity hedge fund, Gundlach said.
Investors have favored fixed-income mutual funds since the 2008 global financial crisis. They pulled $116 billion from U.S. stock funds in the 12 months ended July 31 while depositing $170 billion into taxable bond funds, according to data from research firm Morningstar Inc. (MORN)
Pacific Investment Management Co., which runs the world’s largest bond fund, started branching into equities almost three years ago. The Newport Beach, California-based firm offers four main stock strategies: deep value, emerging markets, dividends and long-short. Bill Gross, Pimco’s founder and co-chief investment officer, said in his September investment outlook that returns from both stocks and fixed income will be stunted.
Gundlach’s $31.9 billion DoubleLine Total Return Bond Fund (DBLTX) returned 7.2 percent this year through Sept. 10, beating 97 percent of peers, according to data compiled by Bloomberg. The fund had $1.4 billion in net deposits in July, Morningstar estimated. DoubleLine’s funds attracted $21.9 billion over the past 12 months, according to Morningstar.

Today's oil price

$97.41 per barrel

Daily change of 0.24 ( 0.25% )

Oil Quote Updated Sep-12-12 8:30 AM

Dubai Shares Rise on Global Outlook, Recovery as Qatar Gains

Dubai stocks rallied to the highest level this month as oil rose amid speculation China and the U.S. will take more measures to spur growth and on signs the emirate’s economy is recovering.
Emaar Properties PJSC (EMAAR), the developer of the world’s tallest skyscraper, advanced 2.1 percent. Tamweel PJSC (TAMWEEL), the Dubai-based mortgage provider whose shares doubled this year, soared to the highest since April. The DFM General Index climbed 0.9 percent to 1,571.39, the highest close since Aug. 26. Qatar’s gauge added 1.1 percent and emerging-market shares rose, with the MSCI EM Index gaining 0.8 percent at 11:28 a.m. in London.
The Federal Open Market Committee starts a two-day meeting today and may announce measures to stimulate the U.S. economy. Chinese Premier Wen Jiabao said the government has more room for fiscal and monetary policy to support growth. Crude for October delivery rose as much as 0.9 percent to $98.06 a barrel in New York. Gulf Arab oil exporters, including the United Arab Emirates and Qatar, supply about a fifth of the world’s oil.
“The positive sentiments of international markets due to the expectation of more stimulus by the U.S. is encouraging investors to take more risk,” said Tariq Qaqish, the Dubai- based deputy head of asset management at Al Mal Capital. “Positive local news continues to build stronger investment sentiments in the U.A.E.”
Dubai Recovery
Dubai’s economy is showing signs of recovery after narrowly escaping a default in 2009. Dubai Electricity and Water Authority, the Gulf emirate’s only utility, was upgraded today by one level to investment grade with a stable outlook at Moody’s Investors Service, which cited an improvement in the company’s “financial metrics and cash flows.”
Dubai Airports, home to the biggest Arab airline Emirates, this month said passenger traffic surpassed 5 million for the first time in July.
Dubai’s shares are valued at an average of about 10.3 times estimated earnings, compared with about 13.3 times for the MSCI World Index (MXWO) and 12.1 times for the STOXX Europe 600 Index, (SXXP) data compiled by Bloomberg show. About 157 million shares traded in Dubai today, compared with the 12-month daily average of 142 million shares.
Emaar advanced the most since Aug. 9 to 3.44 dirhams. The company, which has the biggest weighting on Dubai’s index, said in July second-quarter profit more than doubled as the emirate’s retail and tourism industries extend their best year since the 2008 property crash. The shares have surged 34 percent this year, compared with a gain of 16 percent for Dubai’s gauge.
Tamweel, up 121 percent this year, climbed 4.7 percent to 1.33 dirhams, the highest close since April 17.
The Bloomberg GCC 200 Index (BGCC200) rose 0.7 percent and Saudi Arabia’s Tadawul All Share Index (SASEIDX) gained 0.3 percent. Oman’s MSM30 Index (MSM30), Kuwait’s Stock Exchange Price Index (KWSEIDX) and Abu Dhabi’s ADX General Index (ADSMI) each increased 0.2 percent. Bahrain’s BB All Share Index (BHSEASI) was little changed.

Emerging Stocks Rise to One-Month High on Stimulus Bets

Emerging-market stocks rose to a four-month high after Chinese Premier Wen Jiabao said the nation has room to boost stimulus and a German court paved the way for a permanent rescue fund to combat Europe’s debt crisis.
The MSCI Emerging Markets Index (MXEF) grew 0.8 percent to 981.08 as of 10:54 a.m. in London, climbing for a fifth day. Anhui Conch (914) Cement Co. jumped 4.8 percent in Hong Kong, leading a rally in construction-related companies. Hon Hai Precision Industry Co. (2317) paced gains among Apple Inc. suppliers before the world’s largest company by market value unveils its new iPhone. Equity gauges in South Africa (JALSH), the Czech Republic and Poland increased, while Russia’s ruble strengthened for a seventh day.
China still has “ample strength” to use monetary or fiscal policy to boost growth in the biggest emerging economy, Wen said yesterday. Germany’s top constitutional court rejected bids to halt the nation’s ratification of the 500 billion-euro ($644 billion) rescue fund today. The U.S. Federal Reserve begins a two-day policy meeting today amid speculation they will announce a third round of asset purchases to boost the economy.
“Given that the U.S. and China are the world’s two largest economies, any measures are positive signs for the global economy,” said Vu Thanh Tu, the Ho Chi Minh City-based head of research at Viet Capital Securities. “Emerging markets, particularly those that have export-driven growth models, could see a greater boost.”
Export Markets
The 21 countries in MSCI Inc.’s developing nations gauge send about 13 percent of their exports to the U.S. on average and 30 percent to the European Union, according to data compiled by the World Trade Organization.
The MSCI index extended this year’s gain to 7 percent and is poised to close at the highest level since May 8. Its five- day stretch of gains is the longest in a month. The MSCI World Index of advanced-nation shares has gained 11 percent this year.
The Hang Seng China Enterprises Index (HSCEI) advanced for the first time in three days, rising 1.2 percent. South Africa’s FTSE/JSE Africa All Shares Index increased 0.8 percent and the Czech PX index added 0.7 percent. Poland’s WIG20 increased 0.2 percent. The ruble strengthened 0.9 percent against the dollar as oil prices advanced for a fifth day in London.
The Markit iTraxx SovX CEEMEA Index of east European, Middle Eastern and African credit-default swaps declined four basis points, or 0.04 percentage point, to 202, the lowest level on an intraday basis since July 2011. The extra yield investors demand to own emerging-market bonds over U.S. Treasuries declined five basis points to 291, according to JPMorgan Chase & Co.’s EMBI Global Index.
Wen Speaks
Germany’s Federal Constitutional Court dismissed motions filed by groups including a conservative lawmaker and an opposition political party that sought to block the rescue fund, known as the European Stability Mechanism, and a deficit-control treaty championed by Chancellor Angela Merkel.
The court stipulated that a cap of about 190 billion euros be set on German liabilities before ESM ratification, unless parliament decides to back extra funds.
Anhui Conch, China’s biggest supplier of cement, climbed to the highest level since June 20. Zoomlion Heavy Industry Science & Technology Co., China’s second-biggest maker of construction equipment, advanced 2.6 percent. China Coal Energy Co., the nation’s second-largest coal producer, rose 2.4 percent.
“Be it monetary or fiscal, we still have ample strength,” Wen said at the World Economic Forum in Tianjin yesterday. A fiscal stabilization fund of 100 billion yuan ($16 billion) is available for “preemptive” measures, he said.
iPhone Boost
Morgan Stanley today became at least the fifth bank to estimate that China’s economic growth this year will be 7.5 percent, the same as Wen’s target and the weakest pace in 22 years, after imports slid in August and industrial production cooled.
Hon Hai (AAPL), the world’s largest contract manufacturer of electronics, rose 2.9 percent to the highest level since April 26. Apple is expected to introduce a redesigned iPhone at an event in San Francisco today.
AirAsia (AIRA) Bhd., Asia’s biggest discount airline, tumbled 5.3 percent in Kuala Lumpur, the most since November. Malindo Airways, backed by Indonesia’s PT Lion Mentari Airlines, will sell tickets at prices matching “or maybe lower” than AirAsia’s, the company said yesterday.
Anglo American Platinum Ltd. (AMS), the largest producer of the metal, declined 3 percent in Johannesburg. The company said it diverted employees at its Rustenburg operations away from the mine after unidentified people prevented some workers from entering shafts last night.

Dollar Drops to 4-Month Low Versus Euro Before Fed Meets

The euro rose above $1.29 for the first time in four months after Germany’s top constitutional court cleared the way for ratification of Europe’s permanent bailout fund, boosting demand for the shared currency.

The 17-nation euro rose for a second day versus the yen as the Federal Constitutional Court dismissed motions filed by groups seeking to block the fund, while stating a cap of about 190 billion euros ($246 billion) be set on German liabilities. The dollar fell versus 15 of its 16 major peers before the Federal Reserve starts a two-day meeting today amid speculation it will announce a third round of bond purchases to spur growth.

The German court imposed “the lightest conditions possible,” said Geoff Kendrick, head of European currency strategy at Nomura International Plc in London. “It removed the possibility of a bad outcome so there’s been a reasonable reaction” in the euro, he said.
The euro appreciated 0.5 percent to $1.2919 at 7.06 a.m. in New York after rising to $1.2937, the strongest since May 11. The common currency gained 0.5 percent to 100.51 yen. It reached 100.65 yen, the highest since July 4. The dollar was little changed at 77.80 yen.
All other countries in the euro area had already ratified the European Stability Mechanism, a 500 billion-euro fund that offers loans to euro-zone members and may buy their bonds to lower borrowing costs.
‘High Probability’
“The review has concluded that the laws that were challenged, with high probability, do not violate the constitution,” chief justice Andreas Vosskuhle told the court in Karlsruhe. “Hence the motions for a temporary injunction were to be rejected.”
The euro has strengthened 3.2 percent in the past month the best performer of the 10 developed-nation currencies tracked by Bloomberg Correlation-Weighted Indexes. The dollar dropped 2.4 percent and the yen weakened 1.7 percent.
The Dollar Index (DXY) declined for a second day as U.S. policy makers prepared to start their two-day meeting.
The Fed is likely to announce a third round of bond purchases tomorrow, according to almost two-thirds of economists in a Bloomberg survey, while also extending the duration of its zero-interest-rate policy into 2015.
Two rounds of purchases totaling $2.3 trillion have failed to revive the labor market, which Fed Chairman Ben S. Bernanke said last month is a “grave concern.” That means policy makers will probably announce a new open-ended plan tied to a sustained improvement in the economy rather than specify an amount of purchases and an end-date, according to 32 of the 73 economists in the survey. Twenty-two expect a fixed duration and amount.
Negative Outlook
Moody’s, which placed a negative outlook on the U.S.’s Aaa rating in August 2011, said in a statement yesterday the ranking would probably be cut to Aa1 if no policy is passed to address mounting debt levels.
“The dollar is the least favored currency,” said Stuart Frost, a fund manager at RWC Partners Ltd. in London, which oversees $4 billion. “There will be hints of QE from the Fed. The message will be there is a possibility of QE3 in the future but not at this stage. It will be extremely dovish.”
Frost would consider buying the dollar if it weakens to $1.30 per euro, he said.
The Dollar Index, which IntercontinentalExchange Inc. uses to track the greenback against those of six U.S. trading partners, dropped 0.3 percent to 79.601.
Japanese Finance Minister Jun Azumi said moves in the yen yesterday were speculative and the government was ready to act against unacceptable changes in the currency’s value.
The 7 percent gain versus the dollar since mid-March was “clearly speculative, and we won’t accept such moves,” Azumi said in Tokyo. “There is no change to our stance on this.”
Australian Dollar
The Australian dollar rose to a three-week high versus the greenback after Premier Wen Jiabao signaled China has room to add stimulus.
“Be it monetary or fiscal, we still have ample strength,” Wen said at the World Economic Forum in Tianjin yesterday. A fiscal stabilization fund of 100 billion yuan ($15.8 billion) is available for “preemptive” measures, he said. China is Australia’s biggest trading partner.
“China’s slowdown is the biggest downside risk for the Aussie,” said Junichi Ishikawa, an analyst at IG Markets Securities Ltd. in Tokyo. “The currency is likely to be well supported in the long term, however, should we get more stimulus measures from global central banks.”
The Australian currency gained 0.4 percent to $1.0478 after reaching $1.0506, the strongest level since Aug. 23. The so- called Aussie climbed 0.5 percent to 81.53 yen.

Bulls Oust Commodity Bears in Fastest Turnaround Since 2008

Commodities are surging from a bear to a bull market in the fastest turnaround since the depths of the financial crisis four years ago as traders await economic stimulus measures from central banks.
Within 11 weeks the Standard & Poor’s GSCI spot index rose 22 percent from its 2012 low, stoked by falling supplies of oil and grains and speculation that the Federal Reserve will prop up U.S. growth while the European Union ends its sovereign debt crisis. The gauge of 24 raw materials soared to a record high four years ago before plunging as the U.S. slid into the deepest recession since the 1930s.

After the jobless rate stayed at more than 8 percent for 43 months, traders are speculating that Fed Chairman Ben S. Bernanke will unveil a third round of so-called quantitative easing as soon as this week. Corn prices are about an all-time high after the worst U.S. drought since 1956 and oil is rising amid mounting tension over Iran’s nuclear program.
“There have been a lot of moving parts within the commodities markets this year,” Jim Paulsen, chief investment strategist in Minneapolis at Wells Capital Management, which oversees $320 billion, said in a telephone interview. “We are turning a corner. The surprise is going to be that global growth is going to accelerate.”

Commodities Rising
The S&P GSCI Agriculture Index rose 33 percent after dipping to a 2012 low on June 15, and the S&P GSCI Energy Index advanced 25 percent from its bottom on June 21. Oil rebounded 25 percent to $97.17 a barrel on the New York Mercantile Exchange on June 28, and corn surged 54 percent to $7.7775 a bushel since June 15 at the Chicago Board of Trade. Energy and agriculture together make up more than 85 percent of the S&P GSCI.
In 2008, the S&P GSCI climbed 46 percent from January to an all-time high July 3, oil advanced to a record $147.27 that month and corn surged as much as 75 percent in the first half of that year to $7.9925. After Lehman Brothers Holdings Inc. collapsed in September, corn prices dropped 86 percent by December, and oil plunged 46 percent in the second half.
“Commodities spent from October 2007 until July 2008 climbing up,” said Jeff Currie, head of commodities research for Goldman Sachs Group Inc. in New York. “When you think of the run-up this year, it happened in three weeks in February. And the run-down happened in five weeks in May and June.”
Jackson Hole
The market boomed after Bernanke signaled the central bank’s last round of quantitative easing, known as QE2, in an Aug. 27, 2010, speech to the Federal Reserve Bank of Kansas City’s annual economic symposium in Jackson Hole, Wyoming. His remarks and the subsequent Nov. 3, 2010 unveiling of a $600 billion plan to buy Treasuries spurred an eight-month rally in commodities, with the S&P GSCI advancing 51 percent by April 8, 2011, to 760.33.
At the same meeting last month he said he wouldn’t rule out steps to lower a jobless rate he described as a “grave concern.” Market expectations for additional central bank stimulus rose to 99 percent in August, the highest ever, according to Citigroup Inc.
The Fed’s efforts have coincided with those of the European Central Bank, which is struggling with the sovereign debt crisis that has tipped six euro-region countries into recessions. The S&P GSCI jumped 5.6 percent on June 29 after the EU unveiled a 120 billion-euro aid plan.
ECB President Mario Draghi said on Sept. 6 that policy makers agreed to an unlimited debt-purchase program to curb borrowing costs and fight speculation of a currency breakup.
Eroding Demand
Deteriorating global growth may erode demand, stifling the rally. The Organization of Petroleum Exporting Countries said Sept. 11 that world oil consumption growth will decline to 800,000 barrels a day in 2013, from 900,000 this year.
“Downside risk exists as the economic slowdown in the developed countries could increasingly spill over” into emerging economies, the group’s Vienna-based secretariat said.
Iron ore prices fell to $86.70 a so-called dry ton on Sept. 5, the lowest since October 2009, as demand from China slowed. The world’s second-largest economy and biggest user of the steel-making ingredient expanded 7.6 percent in the second quarter, the slowest pace in three years, the National Bureau of Statistics said July 13.
“Without any stimulus I don’t think that underlying demand is very strong,” Nic Johnson, a money manager who helps oversee about $30 billion in commodities at Pacific Investment Management Co. in Newport Beach, California, said by phone. “I don’t see the case for a rally from a sustained organic improvement in global growth.”
Corn Harvest
Prices have been lifted as supply forecasts have ebbed. Corn surged to a record $8.49 a bushel on Aug. 10 after scorched fields forced the U.S. Department of Agriculture to cut harvest expectations. The department had predicted a record planting on June 12.
Soybeans have advanced 47 percent to $17.015 a bushel from this year’s low on Jan. 13. The price touched a record $17.89 on Sept. 4. Wheat has jumped 49 percent to $8.8375 a bushel from a 2012 bottom on Jan. 18.


Oil has increased to $97.17 a barrel as a European Union embargo on Iranian crude went into force on July 1, raising concern that the Islamic republic will try to close the Strait of Hormuz, the transit point for almost 20 percent of the world’s crude. Iran’s exports fell 23 percent this year through August, according to data compiled by Bloomberg.
Hurricane Isaac
Natural gas rose as Hurricane Isaac roared toward the U.S. Gulf Coast last month. The region is home to 7 percent of the fuel’s production, according to the Energy Department. At its peak on Aug. 30, the storm shut in 73 percent of output, according to the Bureau of Safety and Environmental Enforcement. Futures increased 57 percent to $2.992 per million British thermal units from a decade-low on April 19.
Gasoline has gained 19 percent to $3.0435 a gallon on the Nymex since falling to a 2012 low on June 21. Retail prices advanced to $3.843 a gallon on Sept. 10, the highest since April 23, according to Heathrow, Florida-based AAA, the largest U.S. motoring organization.
“Commodity prices are poised for a good second half,” Harry Tchilinguirian, BNP Paribas SA’s head of commodity-markets strategy in London, said by phone. “After the risk-off correction in the first half of this year, global monetary policy easing alongside individual supply constraints provide a positive outlook for commodities.”

Zinc Glut Diminishing as China Cuts Most Since ’04: Commodities

Chinese zinc smelters, the world’s biggest suppliers, are cutting the most production in at least nine years after prices tumbled into a bear market, diminishing a glut that began in 2007.
Output of the metal used to rust-proof steel fell 6.8 percent in China in the first seven months, according to Beijing Antaike Information Development Co., which has researched metals for two decades. The nation accounts for 40 percent of global supply, the Lisbon-based International Lead & Zinc Study Group estimates. Prices will average $2,045 a metric ton in the fourth quarter, 9.9 percent more than the average since July 1, based on the median of 12 analyst estimates compiled by Bloomberg.

The metal traded below the $2,526 a ton that Antaike estimates 79 percent of Chinese smelting output needs to break even since August 2011. Output has exceeded demand since 2007 after record prices in 2006 spurred more supply, driving London Metal Exchange-monitored stockpiles above 1 million tons for the first time ever in July. The glut is now diminishing at a time when steelmakers, the biggest consumers, are projected to expand production to an all-time high this year and next.
“Zinc smelters in China have been suffering a lot for quite a long time,” said Gayle Berry, the analyst at Barclays Plc in London, who correctly predicted in February that supplies would tighten and prices rebound later in the year. “The Chinese market has addressed the surplus and the supply cuts have helped to provide a floor to prices.”
Bear Market
The metal fell 20 percent in five months to June 27, the common definition of a bear market. Zinc rallied 16 percent to $2,033 since then, leaving it 10 percent higher this year and the best-performing industrial metal. The Standard & Poor’s GSCI gauge of 24 commodities added 6.2 percent and the MSCI All- Country World Index of equities advanced 11 percent. Treasuries returned 2 percent, a Bank of America Corp. index shows.
The supply surplus will contract 26 percent to 230,000 tons next year, the lowest since 2008, Morgan Stanley estimates. Barclays is predicting a 13 percent decline to 231,000 tons and Bank of America sees a shortfall of 141,000 tons. Standard Bank Plc reduced its projection for this year’s glut to 249,000 tons from 539,000 tons estimated in February.
Inventories tracked by the LME retreated 4.9 percent in August, the first monthly decline since November, and orders to withdraw metal from warehouses almost tripled since June 27, bourse data show. Stockpiles monitored by the Shanghai Futures Exchange fell 23 percent since mid-March.
Galvanized Steel
About 50 percent of zinc is bought to galvanize steel, used in everything from buildings to roads to cars. Global crude- steel output rose 0.8 percent to 895.4 million tons in the first seven months from a year earlier, the Brussels-based World Steel Association estimates. Production will reach an all-time high of 1.56 billion tons in 2012 and 1.62 billion in 2013, according to MEPS (International) Ltd., a Sheffield, England-based industry consultant founded three decades ago.
Expanding steel output may be curtailed after China, which accounts for about 47 percent of global supply, slowed for six consecutive quarters. Its steelmakers cut production to a six- month low in August, the National Bureau of Statistics reported yesterday. New property construction declined 6.8 percent to 1.23 billion square meters (13.2 billion square feet) in the first eight months of the year, the bureau said Aug. 9.
Central Bank
While declining Chinese supply rather than expanding demand is driving prices higher now, consumption may also accelerate as policy makers bolster growth. The European Central Bank and Federal Reserve are holding interest rates at record lows and both have said they are prepared to do more to stimulate economies. China approved plans last week to build about 1,250 miles of roads, 25 new subway and inter-city rail projects as well as sewage-treatment, port and warehouse developments.
The 17-nation euro area’s economy contracted in the second quarter and won’t grow again for another year, according to the median of as many as 22 economist estimates compiled by Bloomberg. Euro-area construction output fell for a third month in June, the European Union’s statistics office reported Aug. 20. The 27-nation EU, mired in a debt crisis, consumes about 11 percent of the world’s steel.
Chinese zinc smelters may start idled capacity should prices keep rising. Global output jumped almost 14 percent in 2010, the most since at least 1961, after LME-traded futures more than doubled the previous year, according to the Lead & Zinc Study Group. Morgan Stanley expects mine production to expand in all but one of the next five years.
Warehousing Costs
That may be less important than in previous years because prices are rising now in part because of a shortage of metal for immediate delivery. As much as 600,000 tons may be locked away in financial contracts, according to Citigroup Inc.
The transactions typically involve a simultaneous purchase for nearby delivery and a forward sale for a later date. LME futures are in contango out to 2015, with prices rising throughout the period.
Buyers in Singapore are paying the biggest premium in at least a decade on top of the LME price to get zinc, according to Metal Bulletin Plc. The fee rose to $105 a ton on Sept. 7, 31 percent more than at the end of 2011. Consumers are also struggling to access metal because stockpiles are held in a few locations, slowing down deliveries. Almost 71 percent of LME inventories are held in New Orleans, bourse data show.
Delaying Projects
Commodity producers are delaying spending on concern that global growth will keep slowing. BHP Billiton Ltd., the largest mining company, has put approvals on hold for projects estimated by Deutsche Bank AG to be valued at about $68 billion. Rio Tinto Group, the third-biggest, said last month it may spend less on expansions next year.
Mining costs are rising because of higher charges for energy and labor and declining metal content in ores. One ton of ore contains about 5.5 percent of zinc, compared with almost 7 percent in 2000, Macquarie Group Ltd. data show.
Xstrata Plc (XTA) will report profit of $3.66 billion this year, from $5.71 billion in 2011, according to the mean of eight analyst estimates compiled by Bloomberg. Shares of the Zug, Switzerland-based miner rose 3.7 percent this year after it got a $35 billion takeover offer from Glencore International Plc.
Zinc and lead accounted for 11 percent of Xstrata’s revenue last year, down from almost 17 in 2007, data compiled by Bloomberg show. A combined Xstrata and Glencore would create the world’s biggest zinc miner.
“It’s a more balanced market next year,” said Michael Widmer, the head of metal markets research at Bank of America Merrill Lynch in London. “The view in the market is that over the next few years it will get tighter.”

Fed Seen Starting QE3 While Extending Rate Pledge to 2015

The Federal Reserve is likely to announce a third round of bond purchases tomorrow, according to almost two-thirds of economists in a Bloomberg survey, while also extending the duration of its zero-interest-rate policy into 2015.
Chairman Ben S. Bernanke and his colleagues on the Federal Open Market Committee will once again roll out unconventional policies to bolster economic growth of less than 2 percent in the second quarter and bring down unemployment stuck above 8 percent for 43 straight months, the survey showed.

“The Fed clearly wants to do more,” said Nick Sargen, a former San Francisco Fed economist who oversees $40 billion as chief investment officer at Fort Washington Investment Advisors in Cincinnati. “The economy is looking lackluster, and the Fed has said all along that they feel it’s almost immoral that the unemployment rate is as high as it is.”
Two rounds of bond purchases totaling $2.3 trillion have failed to breathe life into the labor market, which Bernanke said last month is a “grave concern.” That means policy makers will probably announce a new open-ended plan tied to a sustained improvement in the economy rather than specify an amount of purchases and an end-date, according to 32 of the 73 economists in the survey. Twenty-two expect a fixed duration and amount.
The FOMC plans to release a statement tomorrow at about 12:30 p.m. after a two-day meeting. At 2 p.m. the Fed will release policy makers’ forecasts for unemployment, inflation and the expected path of the federal funds rate over the next several years. Bernanke plans to hold a press conference at about 2:15 p.m.
Stocks Rallied
Stocks and commodities have rallied on expectations of easing by the central bank. Since Aug. 1, the Standard & Poor’s 500 Index has risen 4.3 percent to 1,433.56, near the four-year high reached last week. The S&P GSCI Spot Index that tracks the price of 24 commodities has risen 6.8 percent.
Most economists predict that in a new round of easing the Fed would buy a mix of Treasury notes and mortgage-backed securities.
The central bank would buy $300 billion in Treasuries and $400 billion in mortgage debt, according to the median estimates of economists who expect a fixed sum of purchases.
Economists expecting open-ended asset-buying predict monthly purchases of $30 billion in government debt and $35 billion in housing debt. After a year, the Fed would expand its balance sheet by a total of $780 billion.
New Purchases
Policy makers may forgo new bond purchases at this meeting to solidify a consensus on the issue among themselves or to better prepare the public for the move, said Michael Hanson, senior U.S. economist at Bank of America Corp. in New York.
“One reason for waiting would be if the Fed is thinking of structuring this not as a fixed quantity but as a more open- ended plan, but they don’t have the details together yet and don’t have consensus on how to do that,” said Hanson, a former economist at the Fed board in Washington.
San Francisco Fed President John Williams, Chicago’s Charles Evans and Boston’s Eric Rosengren have called for open- ended purchases. St. Louis Fed President James Bullard said Aug. 31 he prefers the open-ended approach yet would like to see more data before taking action.
In the first round of bond buying, the Fed in November 2008 began purchasing $1.25 trillion of mortgage-backed securities, $175 billion of agency debt and $300 billion of Treasuries to provide further stimulus after the benchmark rate was cut almost to zero in December 2008.
Second Round
In the second round, announced in November 2010 and lasting through the following June, the Fed bought $600 billion of Treasuries.
Bernanke said Aug. 31 in a speech in Jackson Hole, Wyoming, that a Fed study found that large-scale asset purchases may have raised the level of economic output by almost 3 percent and boosted private payroll employment by more than 2 million jobs. U.S. gross domestic product expanded 2.4 percent in 2010 after contractions of 0.3 percent in 2008 and 3.1 percent in 2009.
Bernanke didn’t describe the options for future quantitative easing.
Some Fed officials have spoken so enthusiastically about new easing that a decision to keep policy unchanged tomorrow could trigger a downturn in markets, said Neal Soss, chief economist for Credit Suisse Group AG in New York.
“Disappointing the markets doesn’t seem like a good strategy, but it’s not obvious how much more GDP to expect if they fulfill market expectations for more action,” said Soss, a former New York Fed economist.
Near Zero
Central bankers are also poised to extend until 2015 their forecast that economic conditions will probably warrant holding interest rates near zero through late 2014. Sixty-eight percent of economists surveyed expect an extension at tomorrow’s meeting.

U.S. Stock Futures Advance on German Court Decision

U.S. stock futures advanced, indicating that the Standard & Poor’s 500 Index will rise for a second day, after Germany’s highest constitutional court allowed the country to ratify the euro area’s permanent bailout fund.
Facebook Inc. (FB) climbed 3.1 percent in early New York trading after the company said late yesterday that it will focus on increasing revenue from mobile services. Apple Inc. (AAPL) gained 0.8 percent before the company unveils its redesigned iPhone 5 later today in San Francisco.
S&P 500 futures expiring this month added 0.5 percent to 1,437.7 at 7:34 a.m. in New York. Dow Jones Industrial Average futures gained 53 points, or 0.4 percent, to 13,346 today.
“The outcome -- approval with conditions attached -- was anticipated,” said Manish Singh, the head of investment at Crossbridge Capital in London, which has more than $2 billion under management. “If you account for the fact that the majority of Germans wanted the Constitutional Court to reject the ESM, it does set the narrative that government efforts to bail out sovereigns will be challenged.”
Germany’s Federal Constitutional Court dismissed motions that sought to stop the government from contributing to the rescue facility known as the European Stability Mechanism. The judges ruled that parliament must approve any increase of the country’s 190 billion euros ($245 billion) of liabilities.
Fed Meeting
The Federal Reserve will probably announce a third round of bond purchases tomorrow, according to almost two-thirds of economists in a Bloomberg survey. The central bank will also commit to hold interest rates close to zero into 2015.
Chairman Ben S. Bernanke and his colleagues on the Federal Open Market Committee will opt for further quantitative easing to support an economy that grew at less than 2 percent in the second quarter, the survey showed. The unemployment rate has remained above 8 percent for 43 consecutive months.
Facebook Inc., the world’s largest social-networking website, rose 3.1 percent to $20.03 after Chief Executive Officer Mark Zuckerberg said that the company should generate more revenue from mobile devices than from desktop computers.
“Now we are a mobile company,” Zuckerberg said in an on- stage interview at the TechCrunch Disrupt conference in San Francisco yesterday, his first since Facebook’s initial public offering. “Over the next three to five years, I think the biggest question that is on everyone’s mind, that will determine our performance over that period, is really how well we do with mobile.”
Apple added 0.8 percent to $666.01 in New York trading. The world’s most valuable company has scheduled a product event for 10 a.m. in San Francisco today, where analysts expect it to unveil a redesigned iPhone 5.
Paychex Inc. (PAYX) may move after Jefferies Group Inc. cut the provider of payroll processing to underperform from hold, meaning that investors should sell the shares.

Oil and Refineries

The debate is raging in full swing: the dearth of new refineries in the US. Many are surprised to see the continued increase in oil prices despite the surge in domestic oil production. Could refineries be the missing element in the equation, they wonder. 'Why not just build new refineries and scale down the price of oil,' our readers continue to ask us. Yes, it's a fact- no new refinery has been built in the US in the past three decades. The last refinery constructed in the US at Garyville, Louisiana was way back in 1976. So, the question is reiterated as the point is so obvious: new refineries. But then, there aren't any easy three reasons, nor is the dimension only four.

First though, let's take a look at the prevailing price of oil. According to a AAA fuel gauge report, the national average for a gallon of gasoline is $3.62 - more than 13 cents from the previous week and 24 cents more than a month ago. After the fall in May and June, gasoline prices have increased gradually for the last seven weeks, adding pain to the already pained consumer. Is this because of dwindling oil reserves? Well, of late domestic oil production has increased by fourteen percent in the last 12 months. According to government sources, the oil production in the country hit the highest 'quarterly level' in almost a decade (for the first three months of this year). And, US produces 55 percent of the oil consumed in the country, mainly due to production spikes in Texas and North Dakota.

Clearly there is oil, so shouldn't the oil price decrease? After all, the more the commodity, often, lesser is the prices. Put it that way, the present oil prices do sound ominous. It's not as if higher demand has hiked the oil prices. On the contrary, demand for oil has been decreasing with fuel efficient cars and ethanol blended gasoline. This July, crude oil demand in the U.S. dipped to its lowest in four years on the back of average economic growth in the country, according to the American Petroleum Institute. The demand for gasoline fell 3.8 percent this July with consumption down 1.1 percent. After the peak in 2007, demand for gasoline has been sluggish. That is, despite increase in the price of crude, demand for gasoline is at record low. So, the speculation does gain force - are lack of refineries hampering the fall in the price of oil? North Dakota produces more than 600,000 barrel/month but has only one refinery in Mandan. An element of bafflement does linger to see the country producing substantial oil and yet importing refined products.

There is colossal gap in the realm of production and refining capacity in the country. The refineries are churning at full capacity which makes them profitable, but on the downside there is no room for mistake. They have to deal with variable demand on one hand and higher costs of inputs on the other. Recently, Sunoco Inc. announced closure of its largest refinery leading to fears of fuel shortage and higher oil prices in the US. Fortunately, a deal with the Carlyle Group saved the day for Sunoco Inc. and the oil industry. But, the problems in the refining sector are far from over. Two refineries owned by Sunoco Inc. did close in the last eight months, which means a loss of nearly half the gasoline and other refined products in the East coast.

True, new technologies have increased the domestic oil production. For once, though, the infrastructure in the US has failed to catch up with the surging domestic oil production. Barges, rails and trucks, believe it or not, still transport crude. Naturally, the oil barely reaches the refineries and this mode of transport also makes oil more expensive for the consumer. How about pipelines? We know that imported oil is expensive. Still, the Marcus Hook refinery continued to import oil at $114 a barrel in 2011, even when the West Texas Intermediate crude traded lower. Why? Lack of pipelines, again. And with this paucity in pipelines, crude produced in the country isn't reaching the refineries. Of course, the much hyped Keystone XL pipeline would connect Canada's oil with refineries in the Gulf of Mexico and Houston, but that may take years.

Staying with refineries, the need for pipelines is more pronounced in the Gulf coast. The refineries in the Gulf coast contribute about 45 percent of the refining capacity, and 30 percent total crude oil production in the US. Of late, the imports have declined in the Gulf coast, thanks to drilling in the Eagle Ford Shale in Texas and Bakken shale in ND. Unsurprisingly, import of the more expensive light sweet Nigerian crude stood at 150,000 b/d in January, the lowest since 1996. (For the corresponding period, there's decline in the import of Nigerian crude to the East coast too.) Yet, imagine the figure with more pipelines in the region. Yes, the crude from Eagle Ford from Texas has started to arrive in the Gulf coast. However, the crude is sweet light. Most of the refineries in the Gulf Coast are more sophisticated, designed to process heavy and more sour crude. As investment to refine the lighter sweet crude is expensive, the only option for the refineries is to blend the different crudes. The irony.

Meanwhile, woes of the refineries in the East coast continue. Two have already closed, and the rest of them are barely managing to scrap through. These refineries are dependent on imported crude as they don't have easier access to cheaper West Texas Intermediate crude. Hence, they continue to import the expensive Brent crude. There are plans to transport oil from North Dakota to the East coast by rail, but when?

Although a continuation of the import story, the scene is slightly different in the Midwest. The refineries here are enjoying higher profits, credit to generous supplies from Canada and domestic oil. Imports from Canada reached 1.76 million barrels a day in the first quarter of 2012, an increase of almost 22 percent from last year (Source: EIA). Unsurprisingly, Canada is the largest supplier of crude to the US followed by Saudi Arabia.

Recently the Port Arthur refinery underwent expansion to almost double its daily capacity. So, why do refineries expand rather than build new ones? It's easier because of the environmental regulations. The apparent lack of logic in not having refineries does get answered when you take the environment under consideration. Refineries gobble up water, not to mention vast tracts of land, and contribute loads of CO2 to the air, as well. So, environmental regulation tends to be hard for anyone interested in refineries. The EPA regulations are also strict on the sulfur content Light crude is easier to process, has lower sulfur content so it's easier to get the environmental nod. Heavy sour crude, on the other side, has more sulfur and is more difficult to process. Sunoco Inc. is said to have lost $ 1 billion in the last three years, attempting to upgrade in accordance with the stricter EPA regulation.

Will the picture change? Everyone wants refineries, just is someone else's backyard. The new EPA regulation for new refineries scheduled to be released this November has been deferred because of the Presidential elections. How is it going to pan out? Mitt Romney is all for more drilling. He wants to drill "virtually every part of U.S. lands and waters" but is silent on his take on refineries. For his part, Obama is for 'energy independence' but with his strict environmental laws, no refinery is going to come up anytime soon. The situation is precarious. The demand isn't expected to rise anytime soon. EIA has lowered the forecast of oil consumption in 2012 and 2013.

Any destruction due to accidents (like the recent fires), weather conditions, and maintenance would affect the supply with immediate effect. For instance, the recent fire in the Chevron refinery at Richmond, California disrupted almost 16% of the supply in the region. Abundant reserves, yet prone to import fluctuations- which country would want to continue in this position?

If the refineries aren't taken care of, the dream of cheaper crude would continue to be a dream. That would be sad with the present domestic resources.