Why Is Oil Going Up?

Some people on TV are blaming the Federal Reserve's easy money policy for the record prices for oil.

The chart below of the US Dollar vs. the price of oil [WTIC] vs. the S&P500 shows between early 1995 and January 2002 the US dollar gained nearly 50% when it went from just over 80 to 120 while oil prices were volatile but flat to higher.
 

Click chart to see it full sized

For more information, see "Stock Market Returns After Oil Prices Double in a Year or less."

If a falling dollar makes oil more expensive, then you would think a gain of 50% would make oil cheaper. As the chart shows, it is not that simple as oil prices went up considerably between the mid 1990s and the early 2000s but for a brief dip under $20 during our short recession in 2001.

For sure a falling dollar makes importing oil more expensive but it is not the main reason oil is so expensive. Oil is going up because supply is limited and demand is growing. A falling dollar simply makes us less competitive bidding for oil against other countries that have growing economies with stronger currencies.

If we want lower energy prices, then we need to

• Increase supply
  • Find more oil in other countries that are willing to ship it now.
  • Drill where we know there is oil in the US such as ANWR and off the coast of California and Florida.
• Lower demand
  • drive more hybrids and PEVs,
  • drive less by combining trips and car pooling
  • take the bus
  • take vacations closer to home
• Strengthen our currency so our dollars buy more relative to others currencies
  • Raise the Fed Funds Rate
  • Eliminate deficit spending
  • Grow our economy

None of these solutions are painless but we must do all or some of them unless we want to transfer the great wealth our nation has accumulated in the past 200 years to others in a single generation.

Disclosure: None.

Comments

[Brian Pursley:]

Just because the dollar and oil prices are not always correlated does NOT mean they are never correlated.

The weak dollar impact on the commodity of price is already known and has been demonstrated by AGI: seekingalpha.com/artic...

2008 May 29 08:55 AM

[mikeylikesit41:]

Wow... glaring problem with your logic...

Did you ever think that when the dollar went up, that kept oil from going even higher.

The trend for oil has been up for years now. A rising dollar simply stalled the trend in place since it cost less dollars to import, refine, etc.

Now, if the supply also went up while the dollar went up and we still saw the price of oil go up... then there is a problem.

Nothing is black and white. Take all variables into account before you make such silly statements.

Better yet, take a statistics class so you understand what coorelation is.

2008 May 29 08:58 AM

[pachanguero:]

very good . The falling $ does not help but it is supply and demand...very simple

2008 May 29 09:24 AM

[Kirk Lindstrom:]

I wonder if the writers of the first two comments read the article? If so, then how do your comments square with what I wrote in the 2nd half of the article below the chart?

I'll repost it here for you:

If we want lower energy prices, then we need to

* increase supply
o Find more oil in other countries that are willing to ship it now
o Drill where we know there is oil in the US such as ANWR and off the coast of California and Florida.
.
* lower demand
o drive more hybrids and PEVs,
o drive less by combining trips and car pooling
o take the bus
o
take vacations closer to home
.
* Strengthen our currency so our dollars buy more relative to others currencies
o Raise the Fed Funds Rate
o Eliminate deficit spending
o Grow our economy

The point of the article was it is not "the fault of the FED" that oil prices are high. Blame people who drive big cars, people in emerging markets who are finally making money and using energy, and blame all of us who elect officials and ourselves who make it too hard for oil companies to pump out the oil we have in the US in "sensitive" areas like off the coast of CA or ANWR.

2008 May 29 02:38 PM

[Dr. No:]

Unfortunately the assertions do not take into account the mechanics of a futures driven market, that is dominated by index/financial speculators in an environment where more and more assets are chasing "unique" investment opps and create positive feedback loops.

KL's assertions would work if there was no such thing as a commodities exchange and if we would have a straight physical market. We don't. In fact the physical market is between 10-25% of trades.

2008 May 30 11:12 AM

[VintonCounty:]

Dr. No is the one who does "not take into account the mechanics of a futures driven market". That market is totally dominated by transactions in which an actual commodity is bought and sold. The other participants in futures settle their contracts with cash payments equal to the differences between contract and market prices. That is a parallel industry of side betting about what the actual commodity market prices will be. The side bets have no more effect on commodity prices than sports betting has on the scores of college football games.

2008 Jun 03 09:58 PM

[ajaxson:]

It is speculation and the value for the contracts. There is no supply problem. OPEC has cut production to record low because there is no place for anyone to store the oil. If you want prices to drop make those who buy contracts take delivery of the oil and watch the bottom fall out.

May 01 02:21 PM