Tuesday, 13 October 2009

Fisk fisked again over currency rumours

There’s been lots of speculation about the currency oil might be traded in at some time in the future, mostly because of a conspiratorial piece in the UK Independent that included the words “Robert” and “Fisk.”  "Ridiculous hype" Mish called it, but those stories linger nonetheless – some of them giving this as a proximate cause for the US dollar’s ongoing collapse.  In a terse assessment of the rumours, Julian Jessop at Capital Economics asks “does it matter what currency oil is traded in?”

    “We are deeply sceptical of all this [says Jessop and his team]. The report was written by a veteran Middle East political correspondent who does not usually comment on economics or markets issues. [In other words: he’s a fruitcake.] The report cited anonymous “Arab sources” and “Chinese banking sources in Hong Kong”, but has since been widely denied. Nonetheless, there has been talk for many years of re-pricing oil in other currencies, so this is a good opportunity to revisit the fundamental points.
• First, moves to price oil in some unit other than the dollar would, on their own, have no direct effect on the value of the US currency. Suppose, for example, that oil were priced in euros but payment continued to be accepted in dollars. An oil consumer who preferred to pay in dollars would simply convert the euro price into dollars and transfer the relevant dollar amount to the producer.
• Indeed, if oil were re-priced into a basket of currencies, it would make no commercial sense for producers to insist on payment in several different currencies and decline to accept one payment in dollars (at the prevailing market exchange rates). Similarly, if gold were somehow involved in the pricing of oil, it is inconceivable that purchasers would actually require payment in precious metal. Again, purchasers would simply covert the gold price into dollars and pay in dollars…
• …[any] decision to re-price oil would be a consequence of other factors that have undermined confidence in the dollar, such as worries about inflation or the fiscal position, rather than a cause of weakness on its own. Indeed, a rebalancing of reserves away from the dollar would still happen under these circumstances even if oil itself continued to be traded in dollars.
• Note finally that even if the report in The Independent was spot on, it would still be many years before the dollar is replaced in oil trading. In the meantime, there is ample opportunity for fundamentals to change and sentiment to swing back again in favour of the US currency. Talk of moving away from the dollar in oil trading is therefore a sideshow compared to the far bigger issues driving currency markets.”

And those “far bigger issues” are, let’s be clear, very big indeed. Projections by the US Office of Management and Budget, for example, “imply that the US will run deficits equal to 43.3% and 39.9% of expenditures in 2009 and 2010, respectively. To put it simply, roughly 40% of what [the US] government is spending has to be borrowed…”

That after-effect of stimulunacy has serious historical hyperinflationary implications. How serious?

“There have been 28 episodes of hyperinflation of national economies in the 20th century, with 20 occurring after 1980… [T]he 12 largest episodes of hyperinflations … were caused by financing huge public budget deficits through money creation … the tipping point for hyperinflation occurs when the government's deficit exceed 40% of its expenditures…

If you’re wondering why the dollar is collapsing, you don’t need to look for rumours to explain it.  Just look at what’s happening right in front of your eyes.


  1. If the price of oil is set in euros, that is the oil producers will only accept euros in payment, then US dollar holders would have to sell dollars to buy euros, this would drive down the price of dollars and increase the price of euros.

  2. @Mark V
    How does what you say differ if the oil producer receives payment in US dollars and then immediately sells those dollars in exchange for Euros? The oil remains priced in USD but the oil producer has decided that he no longers wishes to hold US dollar reserves (presumably for those bigger macroeconomic issues).

    The only possible difference is a timing difference which might be a few days.



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