Generally we think of the Federal Reserve as being very queasy, in an old school sort of way, about rising oil prices. But at a time of collapsed trade flows and the attendant reduction in Dollar reserve building, might the Fed secretly welcome an advance in the price of oil? Readers of this site know that in a number of posts this year I’ve laid out the case that recession is bullish for sovereign debt, but collapse is not. In addition, at a time of 1.5 -2.0 Trillion dollar annual budget deficits in the US, I’ve also noted the punk rate of saving here domestically that cannot hope to cover such spending increases. And so, into this gaping maw the Fed itself has been active, buying 300 Billion of Treasury debt so far in 2009. But with the rise in the price of oil, have oil producer recycling flows started back up again?
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The price of oil melted down starting 15 months ago, and dug itself a hole right into the most acute phase of the global industrial slump. You will recall of course the idle ships, stalled rail freight and dead trucking that accompanied the lows in global trade, during Q4 2008 and Q1 2009. Those spectacular falls would have been made all the worse, however, by the price crash in the world’s number one most important commodity. For example, according to the EIA, OPEC alone earned nearly a trillion dollars in net export revenues in 2008, a 42% rise on the previous year 2007. Consider also that OPEC oil generally accounts for only 40% of total global oil production. So you can see how a swing in the price of dollar-denominated oil would form a not insignificant part of total world trade.
Yes, oil revenues are down big in 2009 compared to 2008 for all oil producers. But given that oil spent at least four months in Winter around an average price of 40 dollars, it stands to reason the six month recovery to 80 dollars coming out of March has been quite beneficial to dollar flows, and dollar liquidity. And so I have to ask: have the large oil producers returned (at least to the short end of the US Treasury market), snapping up issuance like yesterday’s auction of two year notes?
At the current rate of global oil production around 72 mbpd (million barrels per day) the gross dollar revenue difference annually between 40 dollar oil and 80 dollar oil comes in at around 1 Trillion dollars. Again, that is just a gross dollar value of production and a good portion of that is not directly recycled via oil exports. But it gives some sense of how just a 40 dollar swing in the price of the master commodity can impact global liquidity. While I will leave for another time the myriad issues that surround the distortions of this capital build up in oil producers, and the self-destructive effects this has on big importers like the United States (which continues to have no energy policy), it does seem fair to conjecture that the rise in oil prices is helping the US Treasury. The next time you hear the Fed Chairman, who is currently running a low interest rate operation, comment publicly on the price of oil, it might behoove you to consider that the petrodollar recycling machine is very much back in play.