Tuesday, January 01, 2008

Oil exporting country dump USD peg .vs. China allow its currency to rise.

Stop using USD as Oil price currency will be long term bull for USD, although that is unlikely to happen any time soon.

I seldom comment on issues out of IT industry -- you can tell from my other blog posts. Well, let's do something new in the New Year then. (Not really, I majored in ERP which is a hybrid combining IS with business.)

OK, here is what the topic about -- in 2007 about US Dollar. Lots of buzz that crude oil exporters will decouple from the USD and every time this rumor surface, the USD had a big hit – it depreciate in response.
On the other side of the coin, every single US politicians is pushing China to let its' RMB to appreciate significantly. . .

"USD is oil dollar!" if oil exporters abandon selling oil in USD, USD will worth nothing -- at least Iranian president said so.

Wait a minute, that's too straightforward to be true though (if that's really that simple, I guess we don't need PhD in Economy anymore - one of the most daunting topic is now simply understood by everyone). Usually I doubt about things that too obvious -- something too good seldom is true.

Let's have a look at crude oil price -- fundamental only for now, (the speculators and opportunists are the ones who want us believe in "simple rules" so they can predict our reaction and take advantage of us.)

Oil is priced in USD, at beginning of Jan 2002 it was $16.65; at the end of Dec 2007 it was $95.98 -- a 5.8 time rise.

During the same period, EUR/USD rose from 0.86 to 1.4586. So, if you measure Oil in Euro, it only appreciated 3.4 times.

So in the face of rising oil price, America took 5.8 time hit, while because of the freedom Euro zone enjoyed, they only took a hit of 3.4 times. No wonder why Euro economy is much less hit by the recent recession (though some may argue a recession is yet to come in US).

All exporters are greedy (hey nothing wrong about that, if I have a crude oil well in my backyard, do you think I will offer it as charity? It's perfectly humane to be greedy when you have something other people want!) They (with the help of opportunists) see a chance to get more money. Because Oil is valued in USD, so US has to take the biggest hit (I'm not talking about why US gets the biggest hit which everyone has their own speech to make, just the math no politics please). While for all other economy who can fluctuate their currency, can ward off this hit somewhat by allowing USD to depreciate - so that the increase in Oil price is offset a little.

Why Euro zone economy is still robust when its currency nearly doubled in the past 5 years? One thing is in current global economy energy cost is one of the biggest part of all cost, and why Euro appreciated, Oil is measured in USD, so the real cost of energy to Euro zone companies are not as huge as it is for the US companies, and because the appreciated Euro, workers in Euro zone relatively had enjoyed a somewhat more "affordable" life compare to their US counterparts - so they can spend "more". (or in other words, they were hit much less than their US counterparts).

So is it really true that if Oil is no longer valued in USD, USD will collapse? Well in short term it might. Because if that's the case, Oil exporting countries may need to sell some USD, and European companies will no longer need USD to by Oil.
However, that's not the end of the world, why? Cause if you check who has the biggest reserve of USD outside of US? You guessed right, China.

Some people say that USD can maintain its dominancy only because Oil is valued in USD. While it may sound like music to anti-American ears (which means – a lot of people), it stands on shaky ground.

Oil is not exported by US, they don't have control over Oil -- if they did, there would be no Oil crisis in the 70's and it will not reach 100USD in 2008. Yes, they want to control it, (who doesn't?) but they simply can't.

OPEC controls it and like it or not, they decided to price Oil in USD. Why? Because US buys the most of the Oil. And since China's RMB is pegged to USD, the combined volume of Oil sold in USD is much higher than any other currency. So selling Oil in USD, makes Oil exporter's financial book much easier to keep.

So if someone really thinks that it’s US warship in the gulf kept Oil exporters to sell Oil in USD, they are politics obsessed. I found most of this kind of people has a background of living in an arbitrariness or dictatorship – where everything is controlled by the government.
In a free world, there are more than politics in this world. It’s not that the “governments in a free world” are any ethic, it’s just they don’t have the arbitrary power dictatorship enjoyed to implement their will.
However, people with experience living in a dictatorship tend to over estimate the ability of governments (in other words tend to underestimate influence of other forces in a free world).

Now why it’s long term bull for USD if Oil is sold in another currency? We mentioned that because Oil is priced in USD, US actually saw a 5.8 time price rise while Euro zone only see a 3.4 time rise. So Euro is having a much lighter hit than US has. That’s why. If Oil is priced in something else, let’s say something hyper theoretical – OPEC-D. Euro and USD then will each price their currency against this Oil Dollar. And Euro won’t need to depress USD to reduce the Oil price impact.

Of course in short term, lots of countries will sell some USD to buy OPEC-D, but that’ will not be the end of the world -- As long as China do not sell its' USD, USD will be ok. May loss another 10% or 20% but will not collapse.

And at the end of the day, Oil exporters and China have the same reason to peg their currency to USD – they export to US and USD is what their biggest customer (read United States) will give them. So it’s interesting to see that many US politicians WANT Oil exporters to use USD to price Oil (another evidence that US is managed by a bunch of stupid politicians) and on the same time, pushes China to un-peg their currency.
Like it or not, the consequence of China un-peg its currency is far more destructive than Oil priced in Euro.

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