Investment banks and other large institutional investors speculated on oil commodities futures and drove the price to artificial highs in July.
In the same period of time, demand dropped and supply rose, therefore supply and demand had no relation to the price. It was solely the result of an unregulated method of trading, similar to the Enron electricity prices on the west coast around 2000.
demand is demand and will always set prices. speculators also took a bath holding oil when demand slowed. If they gave us high prices, they also gave us the low prices we enjoy now.
Speculation is absolutly necessary. The market would not function with out it. Anyone that doesn't understand this, doesn't understand very basic economics. There will always be speculation in commodity markets. people only seem annoyed be who is doing the speculation.
Orion is absolutely correct in that artificial incentives to invest will make the bubble worse, but the boom and bust cycle is a natural function of the economy.
There was a higher demand coming from the economic growth of developing countries. Oil prices rising coincided with this, as demand increases set against a static supply curve will increase prices. The fall comes with the sudden realization that growth will not continue, and that the world is due for a recession.
Speculation is an entrepreneurial function that refers specifically to the data of demand within a specific market but is itself not demand.
The difference between speculation and demand is that while a higher demand will generally raise prices speculation can drive prices the other way as well. Imagine that an entrepreneur decides he is going to increase production of some commodity based on speculation that demand for it will rise (i.e, he will be able to ask a higher price). Well, if real demand for this product does not increase the prices of these newly created products must drop. The entrepreneur guessed wrong. That is speculation and is a necessary aspect of the market.
Demand can be thought of as a magnitude whereas speculation would refer to a vector for demand.
either way, who gives a shit. speculation occurs in almost every free market transaction. We seem fixated on who is doing the speculating and what they are speculating. Most farmers would be up shit creek without speculators to purchase crops before they are even planted.
Speculators simply inherent risk producers (or consumers) are not willing to bear. Some make a bunch of money "at the expense" of producers, some lose a shit load of money that would have losses for the producers.
Cool, thanks for the explanation. I have only recently started reading into different types of investment. My curiosity was piqued by spending a year doing consultancy for an insurance company, the whole subject is fascinating if a little confusing.