Concerned that companies may be reporting false inventory levels to benefit their own trading positions, regulators are now investigating whether companies are injecting false data into the marketplace to influence perceptions about crude oil supply and demand. A company could under-report barrels in its inventory to suggest oil is scarcer than it really is and then sell its physical oil at a higher price when the prices increase.

It is illegal to provide false data to the EIA. While the EIA does not physically check the inventory to audit the accuracy of the reported data, it looks at other data on supply and demand to determine if the reported data is correct.

The U.S. Commodity Futures Trading Commission (CFTC) is now probing to learn if companies are reporting false inventory. It is now taking depositions about big market moves by companies that occurred unexpectedly, especially during the rapid shift in the structure of the oil markets in July 2007. During that time, oil for near term delivery had been selling at a discount to oil to be delivered months and years into the future. Suddenly oil for immediate delivery became much more expensive when the inventory of oil at a key hub declined rapidly.

The CFTC has been under increasing pressure to take action. Congress is debating whether to require it to take new steps to curb abuses. It has also been criticized for lax regulation.

The present probe is a part of a long term investigation as well as an attempt by the CFTC to improve its information and understanding of the workings of the energy market it regulates. As a part of its investigation, the agency sent out information requests to large oil traders, Wall Street firms, energy companies, and physical oil merchants. The agency is seeking the names of firms’ biggest traders and the email and instant messaging correspondence about the markets dating back to early 2007. In some cases, the correspondence requested dates back to 2005. The agency has also requested details of storage holdings and other physical assets the traders may own or control.

The probe as already started drawing criticism. The information requests are being characterized as overly broad. Critics also say that the CFTC is asking the companies and firms to disclose any unfair, improper, unethical, and unlawful practices.

The government, in an effort to control the ever increasing oil prices, has taken a few concrete steps, including efforts to rein in the speculators, and these efforts are beginning to show results. The price of oil today is less than what is was a couple of months back.

The probe is a step in the right direction. It is critical to ensure the integrity of the futures market in oil given the impact oil prices can have on all consumers.

The legislation requires the Commodity Futures Trading Commission to eliminate excessive speculation in oil. It aims to do this by restricting the amount of trades by certain participants. The CFTC will have to differentiate between “legitimate” and “non-legitimate” hedging by market participants and gather data on over-the-counter and index traders and swap dealers. It will increase transparency and disclosure requirements so as to equip the CFTC to more effectively carry out its proper role of commodity market oversight.

The legislation also authorizes the CFTC to increase its staff by 100 to fulfill its new responsibilities.

The legislation will place sensible checks on the influence of speculators by placing reasonable limits on large, over-the-counter trades and by closing the loopholes that have permitted traders to make large-scale speculative trades through overseas exchanges. It will compel U.S.-based traders to abide by the U.S. regulatory regime when placing trades on foreign exchanges.

The legislation is sponsored by Senate Majority Leader Harry Reid (D-Nev.) and Sens. Dick Durbin (D-Ill.), Patty Murray (D-Wash.), Charles Schumer (D-N.Y.), and Amy Klobuchar (D-Minn.).

Critics point to a provision in the legislation that would allow the regulator to order companies to liquidate their swaps transactions if it concludes that a major market disturbance has occurred. In reality, this would require companies to break their privately negotiated risk management contracts, even if the swap complied with trading limits that were in place when it was originally negotiated. In its present form it is likely to face strong opposition, especially from the Republicans, unless it includes provisions for expanding domestic oil drilling. The legislation could drive commodity markets out of the U.S. and make it more expensive for bona fide hedgers to protect themselves from volatile prices, according to the group.

This legislation is not the only effort underway to rein in speculators. Collin Peterson (D-Minn.), House Agriculture Committee Chairman, is working on a bill to tighten regulation of over-the-counter and swaps trading in the agricultural and energy futures markets. The Chairman of the House Energy and Commerce Subcommittee on Oversight and Investigations Rep. Bart Stupak (D-Mich.) has introduced legislation to curb participation by investors and other financial players in the energy markets.

Is it just speculation or is there more to the rise in oil prices? On July 18, oil prices tumbled below $130 a barrel for the first time in more than a month. Did the proposed legislation have anything to do with this? What will happen if the oil prices increase after the proposed legislations is passed?

The Hirsch Report laid out three possible scenarios for mitigation and risk management. In the first scenario, alternative energy sources, redesign of U.S. infrastructure, and other extraordinary measures are taken 20 years in advance of peak oil, with significant negative impact on the economy but a good chance at a positive outcome after a period of adjustment.

In the second scenario, extraordinary coordinated emergency measures are taken at all levels of government 10 years in advance of peak oil, with a period of severe shortages and social stress in the immediate 5-10 years after peak oil.

In the final and scariest scenario, nothing is done until after worldwide peak oil production occurs. In this scenario, severe shortages, widespread social upheaval, the collapse of financial markets, and violence are predicted, with an uncertain and painful adjustment period that could take decades.

What is alarming is that the U.S. government and the oil industry have known since the mid-1950s that peak oil would occur sometime between the year 2000 and 2010 if not earlier. Shell Oil itself commissioned the original study, done in 1956 by geophysicist M. King Hubbert. Hubbert predicted that after the peak, reserves would drop off very sharply, creating an environment in which social upheaval, famine, violence, and general chaos could occur if other energy sources were not in place. The first chart at the top of this post shows M. King Hubbert’s original 1956 peak oil curve.

Ever since Hubbert’s peak oil curve became the touchstone for oil supplies and the mitigation of their depletion, very little has been done in terms of preparing for what both the U.S. government and big oil have known would happen all along. I think it is disturbing and revealing that, even though the Hirsch report was commissioned in 2005, the U.S. is still basically doing nothing to mitigate the effects of peak oil.

Why would that be? Is it because the U.S. Department of Energy thinks peak oil is still 20 years off in the future or more? Or is it because it is already too late and the U.S. is being run by a pack of oil executives like George W. Bush, Dick Cheney, and Condoleezza Rice? I mean, it’s not like they personally are going to suffer when the worst consequences hit. On their way out, to very wealthy established lives, they have little to lose at this point.

Houston, I think we have a problem.

I think we had a problem back in the seventies, and we should have dealt with it then by instituting a sane longterm energy policy. We didn’t. By general agreement, we passed our own peak oil production point during that same time period and for the past 30 years have been relying heavily on imports (as shown by the chart at the bottom; the middle chart shows all the competing current theories on when peak oil will occur worldwide). By all the best estimates, globally, we are now at or just past peak oil, and we’ve done basically nothing to mitigate its effects. This has happened just as global demand for oil in developing industrial nations like China and India has spiked and continues to climb rapidly.

Yes, commodities speculators are driving up prices right now, including oil prices, but trading in oil commodities is tightly regulated. Speculation is a very small part of the total picture. What is happening right now with oil (and by default gas prices) is more consistent with increased demand in the face of limited or even decreasing supply.

If in fact we have passed peak oil production, we will know it very quickly because things will get very, very bad very, very fast.

But let’s say the optimists are right and peak oil will not hit until 2020 or 2030. (I think they’re wrong, but for the sake of argument, let’s say they’re right.) Even then, by our own government’s study on mitigation, we know that right now we need to be taking extraordinary measures toward alternative energy and energy independence just to soften the blow. Where are these measures? Why are we not taking them?

Think about that for awhile, and while you’re thinking about it, think about planting some food in your backyard and getting to know your neighbors.

I think we’re in for quite a ride.