Ironically this very day I saw an article about how Southwest Airlines has managed to get a leg up over its competitors by using hedges to lock in favorable oil prices:

The airline, one of the largest at Los Angeles International Airport, locked in more than 70% of the fuel it expected to consume this year at about $51 a barrel, far below Thursday’s closing crude price of $126.62 a barrel.

I posted about the same kind of hedging by the same airline above, a year and a half ago. At that time, SWA was benefiting from hedges created years earlier. Ironically, oil prices at the time I wrote were a seemingly high $60, and SWA was effectively paying far less. It seemed then that the hedging strategy had run its course, but now we see that the airline was in fact setting up new hedges, locking in those “high” prices and looking very smart now that oil has doubled.

The question is whether the spin on the new article, the same spin we heard before, is correct this time:

The advantage won’t last forever because oil prices could plummet, and even if they stayed high the amount of fuel Southwest has been able to hedge in future years diminishes considerably from 55% next year to 30% in 2010.

I wonder if Southwest is defying the skeptics and eagerly locking in $120 oil for use in 2009-2012? Nobody seems to consider this as a possible strategy, but then nobody was talking about locking in $50 oil back in 2006.

> “Resources, in the sense they are finite, consist of atoms and energy. We don’t use up most types of atoms at all and, at any given time, use only a minute fraction of the Earth. Similarly, we use only a minute fraction of the solar energy hitting the Earth.

> “There’s also the rest of the Universe…”

If you are building economic forecasts based upon the fantasy that the rest of the Universe is available for human consumption no wonder why they are so substantially wrong. Humans have the Earth, and only the Earth, and only temporarily.

Secondarily: It is true that humans have only used “only a minute fraction of the Earth”. The minute fraction that we have used, however, is the only part of the Earth which is available for human consumption. By way of analogy: If you happen to find yourself on a liferaft in the middle of the ocean with a bottle of water it is altogether true that by consuming that bottle you have only used a minute fraction of the water in your environment. You’ll still die from dehydration in spite of the millions of gallons of (sea)water which surrounds you.

Finally, about the solar energy hitting the Earth: Yes, humans only use a small fraction of this power. Do economists take it on faith that in the future humans will possess the ability to utilize more solar power because humans will absolutely need that power to survive? I’ve got bad news for you: Plenty of humans have died waiting desperately for some new technology to solve their problem(s). In the future, plenty of humans will die because these promised desperately-needed technologies will fail to materialize.

> “The fact that such prices have not been rising as much as you think they should just might reflect that other people think they are more abundant than you do.”

Prices reflect a subjective opinion regarding a resource’s abundance within the short-term timeframe which is meaningful to the market. Abundance leads to scarcity when billions of humans consume the resource as quickly as technology and gluttony allows. When scarcity appears future generations will have no choice except to live and die without.

Oil is cheap only because future generations won’t have any oil to consume. The present generation is stealing from the future on behalf of ego, horsepower, technology, luxury, convenience and obesity. Do you care about the future, Mr. Hertzlinger?

As others have mentioned, economists take finite resources into account via commodities prices. The fact that such prices have not been rising as much as you think they should just might reflect that other people think they are more abundant than you do.

As for how abundant resources are: Resources, in the sense they are finite, consist of atoms and energy. We don’t use up most types of atoms at all and, at any given time, use only a minute fraction of the Earth. Similarly, we use only a minute fraction of the solar energy hitting the Earth.

There’s also the rest of the Universe…

BTW, have you taken a survey of economists that shows them to be ignorant of the size of the Earth?

The Earth is finite, hence all of its resources are finite.

Okay. What are those limits?

The BOE report is a very good summary. It confirms my suspicion that most institutions are betting on the oil price by using oil company shares, so the fact that oil company shares are at a discount to the market in general suggests that the weight of market participants are not expecting higher prices.

As you said the report says that oil ministries and large oil companies tend not to hedge (supposedly at the request of their shareholders). I can see why agents don’t like to hedge, the upside goes to the owner, but the agent shares in the downside. Could this structure be bringing some distortion to the market though? The agents are the ones that know about the supply part of the picture best. (How many hedge funds can analyse seismic logs?). So the agents might assign quite a large probability to the possibility of high prices as a result of this knowledge, but, since they gain no advantage if they are right but take a considerable part of the downside, the evidence has to be very strong in order for them to act by withholding oil from the market place to sell at the probable future high prices.