Can there be an oil bubble?

Question

My Basketball coach told me that the price of oil is likely to burst. However, my friend who is an aspiring financial adviser claimed that the price of a commodity cannot burst.

Answer 1

He's wrong.  Really, are you going to trust a sports coach on economics?

Answer 2

An analyst on CNBC provided perhaps the best perspective on the current Oil crisis. During the first Oil embargo that the Arab states imposed upon the USA in 1974 the lines at the gas stations stretched around for city blocks because of the demand. We don't see that today.

Answer 3

your friend is incorrect.  There can and likely will be an adjustment to the price of oil in the future that will return it to a more rational price given the fundamentals of supply and demand for oil.  that said, oil is definately going to trend upward over time until some substitute for its most common uses is established that has sufficient infrastructure in place to allow consumers to efficiently switch to the substitute in response to price increases.   right now we have limited ability to substitute for transportation and for home heating where there is not already natural gas service.  Since both of these uses are large and growing with the population, oil has a relatively inelastic demand at this time.

But even with a long term trend of rising prices, the price of oil can get too high in the short run and develop a bubble, which will then burst as rational thinking begins to prevail.

Right now the bubble in oil is assumed to be caused by a weak stock market, speculation using margin accounts, and a weak dollar.  If two of three of these things change quickly, I think you will see the bubble burst.   If they change slowly, then the prices will just ease or moderate into a normal range for a given level of supply and demand

Answer 4

There can be, and is a commodities bubble. As almost any economist would tell you, right now, the speculation of oil cannot reflect any possible supply and demand model in the future. You can tell it is a bubble just by looking into the futures market.

However, the problem is that you have no idea how or when it will burst, or how big of an impact it will make.

Oil has to keep raising in price, just by the nature of it, and when the commodities bubble bursts, it might not make that big of an impact on the price of crude.