Oil prices: devaluation of the dollar?

[Natorgator]

From an interesting article I came across today:

Why Are We Paying $89 A Barrel for Oil? (Answer: It's Not What You Think)

Oil hit a new high today, $89 a barrel. Some analysts predict it will soon hit $100. All this has caused much anxiety in the markets and handwringing in the press, which has generally attributed the increase to 1) unrest in the Middle East 2) increased demand, particularly from China and India and 3) speculators.

Okay, so all of these things are a factor to some extent. But what analysts and pundits generally fail to point out is another reason for high oil prices in the U.S. market is the devaluation of the dollar. If it weren't for that, oil would cost about $60 a barrel, as it does effectively does in Europe and Canada. On George W. Bush's inauguration day in January 2001, you could have purchased a barrel of oil for about $30. If you lived in Europe, a barrel would have set you back about 32 Euro. Because the value of the U.S. Dollar has fallen so substantially since then (it took 93 cents to buy a Euro in January 2001, it now takes $1.42), the increase in the cost of oil for a U.S. consumer has far outstripped the increase for a Euro (or Canadian, or Swiss, or just about any other) consumer.

Today, it takes US $89 to buy a barrel of oil, but only 62 Euro. Going from 32 Euro to 62 is a healthy rise, but is less than a 10% annual increase since Bush has been in office. By contrast, the move from $30 to $89 is nearly a tripling, or more than 17% per year. See this chart, where the price of oil in U.S. dollars is represented in white while the price in Euros is in red:



Thus, of the $59 increase in the cost of a barrel of oil to a U.S. consumer, more than $30 is due to the depreciation of the U.S. Dollar and the fiscal and trade policies that have contributed to it. Not Middle East tensions, not China's increased appetite, etc. Same thing is true with skyrocketing price of gold; gold is going through the roof, sure, but what's really happening is that the dollar is going through the floor.

Many things have led to the devaluation of the U.S. Dollar. But a big portion of it can be attributed to a growing deficit. Now some, like MoJo contributor James K. Galbraith, would argue that deficits per se aren't bad. But the problem with this deficit is that it is largely attributable to 1) runaway spending on a disastrous war with no end in sight—in fact the chart shows how the divergence between currencies really starts to pick up following the invasion—and 2) massive tax cuts to the wealthy.

And that ain't good.

Thoughts?

[J]

It's part of the reason, but far from the main reason. That is, oil is simply running out. Oil production topped out in 2005 and it's been slowly edging downward since then while demand remains very strong.

[Colonel Olrik]

Isn't oil commercialized only in dollars? Following that logic, shouldn't everything sold in the US be much more expensive now than one year ago?

Even the Euro curve contradicts him, it's a long way from being a flat line.

[Starglider]

Even the Euro curve contradicts him, it's a long way from being a flat line.

No it doesn't, he only claimed that half the price rise was due to the falling dollar, and the curve supports that.

Prices here have gone up fairly smoothly from 69p/litre in 1998 to 96p/litre today - of course a lot of that is tax.

[Darth Wong]

I like the way he argues that if oil prices only doubled in <7 years instead of tripling over that same time, then there would be no reason to suspect anything unusual was going on.

[Admiral Valdemar]

It's not good whichever way you look at it. Higher energy prices down to fundamentals or not don't help the US economy, and by extension, the world's during the credit and housing crisis.

A falling dollar, a fast falling dollar like this means Mr. "B-52" Bernanke is full of shit in his policies and the CPI is far higher than he says and any economist would have apoplexy if they saw the M3 data.

[Illuminatus Primus]

Evidence? Those are some bold economic claims for someone who is not in the field? Not that I'm definitely disagreeing, but you have a bad habit of asserting things pithily merely on your own authority.

[Admiral Valdemar]

It's quite simple. It's one, or the other, or both.

Unless you feel the traders just wanted to see how high they could push randomly. It's no secret that US inflation is far higher than the Fed states and that the dollar is falling while oil output is practically standing still as demand grows.

I know people with MAs in economics who can't figure this shit out when it's blatantly obvious, be that because they don't want to or because they really are that gullible. Having some qualifications in economics and a lot of common sense helps my case.

[Illuminatus Primus]

Well I am a major critic of the current Fed regimen, but you're saying they're using clever accounting or just bullshitting to cover the public figures while they keep flushing the interest rates?

[Admiral Valdemar]

Well I am a major critic of the current Fed regimen, but you're saying they're using clever accounting or just bullshitting to cover the public figures while they keep flushing the interest rates?

Bernanke is a problem, yes. This is the guy who sees the solution to credit being unchecked as being to open the presses up to full throttle and lower interest rates. They don't report the M3 data any more and in most major read pieces to do with inflation, food and energy are ignored from the CPI. Because food and energy aren't that important to us humans now.

The mantra now is "the market isn't supported by the fundamentals", that is, OPEC et al say there is plenty of oil, but that rogue traders are hiking the price for... whatever purpose. It's a combination of all three problems in my mind, from the dollar losing the trust it used to have as the global reserve currency to fucking idiots with credit cards, tension in the Middle-East causing traders to get a bit more keen on commodities that are safe and oil not growing in production as the EIA and IEA had hoped (hence their revising down of output and up of demand).

We're in demand destruction and the economy has other problems unrelated with oil to contend with right now without another war in the ME and OPEC saying they won't put out more black stuff.

[Illuminatus Primus]

Core Inflation is a joke, even Greenspan admitted disregarding food and commodities is not tenable or useful any longer. Increases are here to stay and not irrelevant in the long-term picture.

[Gerald Tarrant]

Bernanke is a problem, yes. This is the guy who sees the solution to credit being unchecked as being to open the presses up to full throttle and lower interest rates. They don't report the M3 data any more and in most major read pieces to do with inflation, food and energy are ignored from the CPI. Because food and energy aren't that important to us humans now.

The Fed has two priorities: 1) Prevent financial meltdowns of the collapse of banking sort, and 2)manage inflation. Sometimes those have conflicting solutions. Preventing financial meltdowns from the Fed's perspective is simple, they need to lower interest rates and increase liquidity. Solving the second problem involves getting dollars "off the street" inflation is essentially too many dollars chasing too few goods DOMESTICALLY.

They don't report the M3 data any more and in most major read pieces to do with inflation, food and energy are ignored from the CPI. Because food and energy aren't that important to us humans now.

There is in fact a legitimate reason to ignore the CPI besides the callous indifference that you ascribe to the Fed. Choosing a different price index separates inflation from the price of food and energy which have been historically more volatile. Moreover there are non-monetary reasons for increases in those prices. The Fed's goal is to keep inflation due to monetary causes low; the current batch of inflation seems to be energy induced, and trade induced (falling dollar) those are outside the ability of the fed to correct.

As an aside the falling dollar is something that lots of economists including Greenspan have been secretly hoping for.