Speculation, the Price of Oil, and the Run on the Dollar

There is a lot of talk this week (June 23-27) about international speculators driving up the price of oil.  Some people claim that oil would cost what it did in September of 2007, $70 to $80 per barrel, if speculation was eliminated.  However, the focus on speculation is distracting us from the underlying causes of the current oil price crisis.

 

International speculation, be it in global oil markets or in the value of a nation’s currency, has a significant impact on prices and markets only when speculators are able to take advantage of a weakness or flaw in the world economy.  This is true because speculators are a divergent group consisting of hedge funds, investment banks, currency traders, wealthy individuals, and trans-national corporations.  Many of them are based in Europe, Asia, or the Middle East, but a significant portion of them are located here in the United States.  This group of rich, but uncooperative financial actors only focuses its speculative energies on a particular commodity, national currency, or industry when there is widespread agreement about a problem or vulnerability in the world economy.

 

The greatest weakness in the world economy is pretty obvious right now.  If any country other than the United States had a federal government deficit of more than $300 billion, a trade deficit of over $700 billion, a currency that lost 15% of its value vs. the joint European currency (the Euro) since last June, and a central bank that slashed its prime interest rate from 4.75% to 2.0% in six months, then the sound you heard this spring would have been the thunder of a massive run on that country’s currency.

 

Until this year, the United States has not had to raise interest rates or cut government spending in spite of its chronic budget and trade deficits.  Its role as the globe’s military superpower and largest economy has made international financial actors unwilling to sell dollars at low prices and trigger a run on the currency.  All of that began to change in September of 2007, when the bursting housing bubble began taking down elite Wall Street banks and brokerage houses.  The U.S. Federal Reserve decided to rescue the mortgage bankers and Wall Street dealers from the consequences of their bad loans and proceeded to lower interest rates in a series of rapid, panicky decisions.

 

With the dollar already sliding in value, these cuts sent out a clear signal to international financial actors.  As a result, I believe what we are seeing is a back-door run on the dollar.  Speculators concluded last fall that interest rates for treasury bonds and other financial instruments would decline for the indefinite future as the United States drifted into a recession.  In addition, the value of their U.S. dollars would also continue to fall.  A number of countries, especially China and Japan, have vast reserves of dollars that they are unwilling to dump because of the hostile political and possibly even military reaction of the U.S. government.  Blocked from starting a successful run on the dollar, international financial actors purchased oil futures contracts at higher and higher prices.  Why – because oil is always traded in U.S. dollars.  When the value of the dollar falls, oil prices go up.

 

Thus, a speculative frenzy: with oil prices guaranteed to go up, gambling on oil futures last fall became a no-risk venture.  As more and more speculators bought oil futures the price kept jumping, from $70 per barrel in September to $99 in November to $110 in March to $135 in May.  Every time the Federal Reserve cut interest rates to bail out the banks, the speculators bought more oil futures at higher prices.

 

A parade of economists and spokesmen for international financial firms now claims that rising oil prices reflect supply and demand.  They say that as demand for oil grows and supply worries associated with the coming of “peak” oil add up, it is only natural for prices to increase.  However, between April 14 and May 22 the price of oil jumped 18%; no theory of supply and demand can account for that increase.  The truth is that runs on a currency are driven not by day-to-day demand for a country’s money, but a decision by hundreds of international investors that it is time to get out.  The rising price of oil – and of gasoline at the pump – is a vote of no confidence in the people who manage U.S. economic policy, especially the Federal Reserve Bank and the Bush administration.

 

But they aren’t the ones who suffer.  Instead, the American consumer is paying through the nose for gasoline because the Federal Reserve is bailing out the mortgage bankers and investment firms that made boatloads of money speculating on housing prices.  The cost of the housing bubble’s collapse has to be paid for one way or another, and by forcing down interest rates the Federal Reserve is deflecting the cost onto ordinary Americans – one gallon at a time.

 

For a longer essay that describes in more detail the connections between rising oil prices, rising interest rates, and the American empire, just click on this link and then scroll down to Rising Oil, Sinking Empire.

 

 

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