(Corrects spelling of ``scarce'' in 27th paragraph. Commentary. Caroline Baum is a columnist for Bloomberg News. The opinions expressed are her own.)

June 27 (Bloomberg) -- One of the more memorable moments in presidential debates occurred in Cleveland in 1980.

Incumbent president Jimmy Carter accused Republican challenger Ronald Reagan of planning to cut Medicare. Reagan, shaking his head, straightened up his 6-foot-1-inch frame, looked Carter in the eye and said, ``there you go again,'' before making mincemeat of the soon-to-be-unseated president.

Reagan's phrase comes to mind every time oil prices levitate to new highs. The breaching of the $60 per barrel price barrier last week triggered a predictable gusher of gobbledygook from economists and analysts, as reported in the media.

Never mind that $40 oil was going to sink the global economy. Then it was $50.

Now that crude oil prices have averaged almost $50 --$48.46 to be exact -- for the past year, $60 has become the new tipping point.

New highs in oil prices ushered in the same old nonsense. Analysts will tell you that oil consumption remains strong at $60 a barrel. They claim that prices can move higher still. And, without missing a beat, they predict those higher prices will further depress economic growth, meaning current prices have already done so.

So why is demand for oil still strong at $60 a barrel?

Stronger demand pushes up prices. Higher prices reduce demand. According to this analysis, we're just slip-sliding along the same demand curve. Or are we?

Ps and Qs

If I could pick one graph in the entire field of economics to illustrate my columns, be they on the Federal Reserve, the yield curve or oil, it would be the supply and demand curves.

I would draw a vertical axis marked P (price) and a horizontal axis marked Q (quantity). Then I'd draw a downward- sloping demand curve and an upward-sloping supply curve. I'd mark the point where they intersect ``E,'' for equilibrium: Supply and demand are in balance.

Economics textbooks are very good at explaining this stuff. Really. Economists are equally good at forgetting it.

For starters, the texts explain that consumers, represented by the demand curve, and producers (supply curve) respond to prices.

As the price of an item rises, the quantity demanded by consumers normally falls, and vice versa. Producers supply more as the price rises and less as it falls. Both of these responses are expressed by movements along the respective curve.

If the supply and demand curves describe the response of consumers and producers to changes in prices, what makes prices change?

Curve Shift

One curve or the other has to shift.

Let's say new research suggests that Omega-3 fatty acids, found in fish such as salmon, are not only heart-healthy but also prevent cancer. Consumers now want to buy more salmon at any given price than they did before. The demand curve shifts outward, to the right. The new equilibrium reflects a higher price and a higher quantity demanded.

If we were dealing with crude instead of fish oil, analysts would now claim that higher prices are going to slow demand and economic growth.

The supply curve shifts as well. When technological innovation allows businesses to produce more widgets for the same cost than they did before, they provide more widgets at any given price. The pictorial representation is an outward shift in the supply curve, resulting in a lower equilibrium price and a higher equilibrium quantity. Productivity, in other words, keeps prices down.

Shocking It's Not

Let's leave the world of theory for the practical universe. In 1973, oil prices soared when OPEC instituted an embargo on oil sales to the West. Prices rose, output fell, as the supply curve shifted inward to the left.

Today's situation is completely different. Oil prices have been rising because of strong demand. No one has suggested a cutback in global supply, although some economists continue to misuse ``oil shock'' to describe the effect.

With China and other emerging nations hungry for raw materials, world demand for oil has increased. There is more demand at any given price than there was before.

Here's where economists go astray. If one were to move along the initial demand curve to a price of $60, the quantity of oil demanded at that price is less than it was at $50.

Leaving Kansas

We aren't on the old demand curve anymore, Toto! The demand curve shifted out. That's how the price got to $60. It didn't get there because producers cut back on oil supplies. At current prices, any profit-maximizing company or country with spare capacity is pumping to meet demand.

Last week, I actually heard someone on TV claim that once Americans started consuming less oil in response to higher prices, ``the forces of supply and demand might get a little more in sync.''

And here I thought I was witnessing the harmonious interplay between the two.

In 1973, the Arab oil embargo was exacerbated by government price controls. The result was right out of the textbook: shortages, long lines at gasoline stations, the creation of a black market.

That's what happens when the market isn't allowed to ``clear,'' when prices aren't allowed to do their job of rationing scarce supplies. An artificial price cap acts as a disincentive to producers and an incentive to consumers. The amount of gasoline demanded is greater than the amount supplied. Supply and demand aren't in balance.

This is true of every market, not just oil. Yet there must be something unique about oil that causes a thinking malfunction (maybe it's the fumes?) when it comes to the application of the law of supply and demand.

When it comes to analysis of the housing market, for example, no one's claiming higher home prices will reduce demand.

To contact the writer of this column: Caroline Baum in New York at cabaum@bloomberg.net.

Last Updated: June 27, 2005 11:40 EDT