The Mysterious Movements Of US Oil Production, Demand, Price, & Interest Rates

In the midst of a bursting bubble in 2008, the Federal Reserve feared deflation would spiral out of control.  The Fed sought to reinstate "normal" inflation via abnormal means and what more immediate and impactful than indirectly goosing the cost of oil.  The chart below highlights the start of QE coincided with the bottom in oil, QE maintained the period of extremely high oil prices, and oil prices collapsed immediately upon the completion of the taper.

A close-up below of the exact period of QE plus a highlighted box on the extended period of $80+ oil once QE was fully in effect.  For $4.5 trillion in new dollars injected into the economy, the Fed had to get something!?!  And what they got were asset bubbles and expensive oil.

In fact, average prices for oil pre QE, during QE, and post QE are pretty telling.

Chart below is crude oil price vs. Federal Reserve balance sheet.  Apparently there is nothing to see here…just move along.

But when the Fed distorts markets, strange things happen.  For instance, why would equity prices continue rising absent QE while oil prices plummet?  Consider, from 2000 'til November of 2008, US shale oil or "tight" oil production increased just a hundred thousand barrels (from 400k to 500k) despite consistently rising prices and demand.  Noteworthy from '05 to '08 was the banking spread (the grey shaded area in the chart below) was minimal or negative.

However, in 2009 with the combination of the Fed's ZIRP (Zero Interest Rate Policy), a fat spread (incenting dubious loan issuance), and consistent $80+ oil prices…an essentially old technology was born anew with nearly free financing.  US tight production rose by over 4 million barrels in just a 5 year period (chart below).  So, the Fed's efforts to create inflation instead created over leveraged, oversupply, and further deflationary declines in oil that only continue.

But now the winds of change are blowing cold on US tight oil.  The Fed is raising rates, the spread is collapsing, the oil price is languishing in the mid range, and increased US production has the world oversupplied with oil.  The aberration that is US tight oil is not likely to thrive in these conditions…and more likely this is the epicenter of the next great American economic crisis.

Still, even more broadly, oil has me vexed.  Seemingly, US oil production has zero to do with price or consumption. In the chart below, two periods are circled where price soars, demand rises, and yet for long periods US oil production continually falls.

1973–>1981