Chris R. Knittel and Robert S. Pindyck

The price of crude oil in the U.S. had never exceeded $40 per barrel until mid-2004. By
2006 it reached $70 per barrel, and in July 2008 it reached a peak of $145. By the end
of 2008 it had plummeted to about $30 before increasing again, reaching about $110 in
2011. Are “speculators” to blame for at least part of the volatility and sharp run-ups
in price? We clarify the potential and actual effects of speculators, and investors in
general, on commodity prices. We focus on crude oil, but our approach can be applied
to other commodities. We first address the question of what is meant by “oil price
speculation,” and how it relates to investments in oil reserves, oil inventories, or oil
price derivatives (such as futures contracts). Next we outline the ways in which one
could speculate on oil prices. Finally, we turn to the data, and calculate counterfactual
prices that would have occurred from 1999 to 2012 in the absence of speculation. Our
framework is based on a simple and transparent model of supply and demand in the
cash and storage markets for a commodity. It lets us determine whether speculation
as the driver of price changes is consistent with the data on production, consumption,
inventory changes, and changes in convenience yields given reasonable elasticity
assumptions. We show speculation had little, if any, effect on prices and volatility.