Topics discussed include the role of commodity speculation, OPEC, and resource depletion. The paper concludes that although scarcity rent made a negligible contribution to the price of oil in 1997, it could now begin to play a role.

INTRODUCTION
How would one go about explaining changes in oil prices? This paper explores three broad ways one might approach this. The first is a statistical investigation of the basic correlations in the historical data. The second is to look at the predictions of economic theory as to how oil prices should behave over time.

The third is to examine in detail the fundamental determinants and prospects for demand and supply. Reconciling the conclusions drawn from these different perspectives is an interesting intellectual challenge, and necessary if we are to claim to understand what is going on.

In terms of statistical regularities, the paper notes that changes in the real price of oil have historically tended to be (1) permanent, (2) difficult to predict, and (3) governed by very different regimes at different points in time. ...

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James D. Hamilton
Department of Economics
University of California, San Diego

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CONCLUSION
In this paper we have reviewed a number of theories as to what produced the high price of oil in the summer of 2008, including commodity price speculation, strong world demand, time delays or geological limitations on increasing production, OPEC monopoly pricing, and an increasingly important contribution of the scarcity rent. Rather than think of these as competing hypotheses, one possibility is that there is an element of truth to all of them.

Unquestionably the three key features in any account are the low price elasticity of demand, the strong growth in demand from China, the Middle East, and other newly industrialized economies, and the failure of global production to increase. These facts explain the initial strong pressure on prices that may have triggered commodity speculation in the first place.

Speculation could have edged producers like Saudi Arabia into the discovery that small production declines could increase current revenues and may be in their long run interests as well. And the strong demand may have moved us into a regime in which scarcity rents, while negligible in 1997, became perceived to be an important permanent factor in the price of petroleum.

The $140/barrel price in the summer of 2008 and the $60/barrel in November of 2008 could not both be consistent with the same calculation of a scarcity rent warranted by long-term fundamentals. Notwithstanding, the algebra of compound growth suggests that if demand growth resumes in China and other countries at its previous rate, the date at which the scarcity rent will start to make an important contribution to the price, if not here already, cannot be far away.

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