Supply and demand drive oil prices

Like other presidents before him, Barack Obama has criticized rising gasoline prices and has called for an investigation into possible price fixing and manipulation. Like other presidents, however, he has little to go on. The Justice Department will look into gasoline prices, which are now pushing $4 a gallon nationwide, for any evidence of conspiracy or fraud. It is not likely to find much evidence.

Obama's announcement might make good politics and might defer some criticism of his administration, but it makes little economic sense. High gasoline prices are the result of high crude oil prices, which are soaring as the result of two primary factors: the decline of the dollar and unrest in oil-producing countries in the Middle East. Markets are uneasy over volatile situations in Libya and other oil-rich countries. Uncertainty breeds price spikes. Add to these factors the increasing demand as the world recovers from recession, the emergence of higher energy demands in developing countries and the onset of the vacation season in the United States, which always increases demand for gasoline.

The price of any object is the result of supply and demand. The market price is that amount which a willing seller and a willing buyer agree upon. In times of shortages or increasing demand, buyers are willing to pay more, and sellers are motivated to demand more. That, rather some nefarious conspiracy, is why gasoline prices are spiking.

Obama has few choices when it comes to moderating gasoline prices. He could release oil from the government's Strategic Petroleum Reserve, but that would have minimal impact and might jeopardize the U.S. oil security the SPR was designed to protect. He might take some actions to strengthen the dollar, such as reducing the federal deficit, and he could try to increase domestic production through tax incentives or eased environmental rules. But the results of these actions would be slow in coming and might not amount to a lot. Settling the volatility in the Middle East, something that is likely beyond the ability of the United States to achieve, would do more and more quickly than any domestic policy shift.

It seems likely that gasoline will climb past the $4 barrier and frighten American consumers out of buying so much or driving so much. Those decisions should reduce demand for gasoline and, eventually, lower the price of gasoline. Obama can only hope that this moderation comes well before he faces voters again in 2012.