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Economics

Money and Oil

By from the December 2012 - January 2013 issue

One hundred years of monetary disorder.

(Page 2 of 2)

Almost two-thirds of world trade, not including the international trade of the United States, is still transacted in dollars. U.S. dollar financial markets are the repositories for as much as $6 trillion of foreign reserves, not easily invested elsewhere.

AS WE CONTEMPLATE THE WRECKAGE left behind by a century of financial disorder, we must be mindful that we can only play the cards we are dealt. Having wandered the oil patch in North America from 1990 to 2005, and the Russian oil sector after 2000, I do have some conviction about the future price of oil, the most important price in world markets other than the dollar exchange rate.

You will have noticed, if you have studied the oil market, that oil equities are highly correlated to variations in the oil price. If that relationship continues to hold, the oil sector should outperform the market and the overall economy in 2013. And depending on the scale of Federal Reserve credit expansion (QE3) and the dollar’s direction, the oil price should, with fits and starts, head upward until the end of 2015.

Why? Major moves in the oil price are subject to econometric analysis. The prices of non-durable goods, primarily oil and food, change systematically with variations in what my partner, John Mueller, and I call the world dollar base: the sum of the U.S. monetary base and official foreign dollar reserves (a large part of which is held in the custody account at the Federal Reserve). There’s an interval of approximately 30 months between the rapid expansion of the world dollar base and a big move in the oil price.

We’ve seen several foreseeable mutations in the oil price since the end of convertibility in 1971, opportunities for concentrated, successful investment in the oil sector. During the recession of 1970, President Nixon and his chairman of the Fed, Arthur Burns, decided (not least to boost Nixon’s chances for re-election) upon a vast expansion of Federal Reserve Credit, which under fixed exchange rates intensified the expansion of foreign dollar reserves. Nixon’s landslide victory in 1972 was followed by an enormous move in world oil prices during 1973 and 1974.

In almost every case of a big oil price move, there is a political event that the press reports as the plausible cause. In the 1972–1974 case it was an Arab embargo, for example. But without the previous vast expansion of central bank liquidity, the oil move, under conditions of a more stable money stock, would have been far less dramatic.

In 1978, the Fed, under G. William Miller, a Carter appointee, repeated the Nixon-Burns credit experiment in a stagnant economy, rapidly expanding the Fed balance sheet. The dollar exchange rate fell swiftly and there was a huge accumulation abroad of official dollar reserves. By 1980 the oil price peaked at $40, up more than fivefold from 1975.

Similarly, the world dollar base expansion resulting from the Treasury’s effort to sink the dollar from 1985–88 led to the commodity inflation of 1989–90, followed by recession.

The final case is, of course, the Greenspan-Bernanke Fed, which, after the recession of 2000–2002, went into overdrive. Quantitative easing in the early years of the new century brought the Fed funds rate down to historic lows. The dollar fell sharply on the foreign exchanges, leading to a massive expansion of official foreign holdings of dollar reserves, to which the oil price is very sensitive. We measure the rate of gain of the world dollar base expansion in order to gauge the future pace of the oil price rise. In this case, the oil price peaked at $150 in 2008, exceeding our 2005 forecast of a doubling to $100 a barrel.

Using our world dollar base model, what can we say about next year? Remember, our forecast is based on the regular interval between rapid expansion of the world dollar base and the move in the oil price. The unprecedented Fed balance sheet expansion of late 2008 through the summer of 2011 was associated, as in the previous cases, with a fall in the dollar and the accumulation of official dollar reserves abroad.

So considering the previous intervals between world dollar base expansion and the oil price move, we should anticipate and plan for a steady rise, with intermittent downdrafts, in oil prices from early 2013 through 2015.

For a more thorough look at the relationship between the world dollar base and the oil price, consult my new book, The True Gold Standard: A Monetary Reform Plan Without Official Reserve Currencies and the book of my partner, John Mueller, Redeeming Economics.

Page:   12

About the Author

Lewis E. Lehrman is a senior partner at L. E. Lehrman & Co. and chairman of the Lehrman Institute.

Letter to the Editor View all comments (32) |

Von Mises Jr| 12.3.12 @ 7:53AM

Our government and government economist always talks of inflation as the rise in price of goods. This is the same reason the Europeans love the VAT tax. As the prices rise, government can blame capitalism, speculators or greedy businessmen.
But the real metric is that as Lew Lehrman points out is the expansion of the money supply devalues the dollar. So when you are holding dollars or cash equivalents, as the Fed prints more dollars, the real purchasing power of your dollars craps the bed. If you are still being paid the same or a few dollars more per year, and your 401K still looks about the same, it is more difficult for the non-economist or non-finance professional to grasp that their real purchasing power has been crushed due to the Federal Government and the Federal Reserve, not capitalism, markets or greedy private sector businesses.
This is so insidious since it is the redistribution of wealth on steroids in disguise. At 3% inflation, your value of your money declines by half every 24 years (Rule of 72). So if your parents left you $100K and you do the same for your child; he only has about $50K worth of today's purchasing power.
People are starting to figure this out as evidenced by today's headline at Drudge, or they are just panicking: http://www.zerohedge.com/news/.....anke-night

Jack in Wi| 12.3.12 @ 8:02AM

This is a brilliant essay. It explans so much of what happened in the lst 100 years in a very short form. It is too bad Mr Lehrman was not elected governor of New York when he ran against Mario Cuomo in a close race. He would of been a far better successor to Reagan the G. H. W. Bush.

TLP| 12.3.12 @ 10:15AM

I find it very Apropo that Mr. Lehman chose his High School Yearbook Picture at the bottom. That's about how Old his line of thinking is concerning what we're facing Right Now.

It's not The Fed. It's not Monetary Systems or Exchange Rates or Currency Flunctuations and Manipulations. It's something else.

It's Cloward and Piven.

It's Alinksy and it's Marx and Engels and Lenin and Chavez. It's Barack Hussein Obama. And, it's ON PURPOSE.

Who thinks that anything he does, is Good for Job Creation? Nobody IN THE HISTORY OF THIS COUNTRY, has Spent the People's Money, like he has.

If Churchill were alive today, he would say that: Never before in Human Conflict, has So Much been Owed to the Chinese, by So Few, for So Little.

He is Intentionally running this Country into the Ground. Intentionally, making it Impossible for Employers to add jobs. Intentionally, Bankrupting everything that he gets his hands on. Be it - Banks, Businesses, Coal Mines, Coal Fire Electrical Plants, Hospitals, Small Oil Companies, or the U.S. Treasury with "a Credit Card from The Bank of China, and putting the Burden on our Children".

WHY would he do this? WHY are his Czars so Far Left Radical? WHO thinks that Thousands upon Thousands of New Business Killing Regulations is a Good Idea?

Occam's Razor, for God sakes.

There are none so Blind, as those who Refuse to see.

And, I'm thinking that all of these Brainiacs, need a New Pair of Glasses.

I don't even have a Riding Mower, and I know this Sh*t.

FBX1999| 12.3.12 @ 3:31PM

You are absolutely right, sir. Obama's destruction is deliberate. The goal of all of it is a total collapse of the world economy, I mean a real collapse, and from the ashes will arise a global oligarchy with Soros, Buffet, Gates, et al in charge. One world electronic currency. Total control of all.

TLP| 12.3.12 @ 4:41PM

I'm giving you an A.

FBX1999| 12.4.12 @ 3:30PM

Thank you sir, from one Catholic to another.

aware| 12.3.12 @ 6:06PM

Yeah, keep concentrating on the puppets and pay no attention to the puppetmasters. And FBX, none of your supposed list of suspects has the name of Rothschild or Rockefeller, so these are just puppets too.

This is how the Shadow Rulers stay in the shadows, by giving you easy targets to blame.

SUBVET| 12.4.12 @ 10:25AM

shhhhhhhhhhhhh......aware don't confuse him.

FBX1999| 12.4.12 @ 3:30PM

It's the JOOOOZ! (not)

C. Vernon Crisler | 12.3.12 @ 11:29AM

Keynes knew this would happen. He believed inflation was a way to fool labor into accepting real wage cuts. Labor wouldn't recognize them as real wage cuts because their nominal wages would remain the same or even increase.

Keynes was naive to the point of imbecility or perhaps even perverseness. He apparently thought labor unions were stupid and couldn't hire their own economists to see through the Keynesian subterfuge. Hello, can you say COLAs?

Anyone who doesn't receive the new money is hurt, especially old people who don't know anything about economics but who have their retirement money lose its purchasing power. Inflationists are simply redistributionists who make themselves feel good by spending the money of the old and infirm. Inflationists will face a harsher judgment one day, much harsher than the inevitable crash after the inflationary boom.

Bob K| 12.3.12 @ 7:21PM

That's what Keynes really meant when he said: "In the long run we are all dead!" Roll over in the clover now and when you die let the living pay for it!

And so on until the Kiplings "Gods of the Copybook Headings" return to explain it once more.

"The dog returns to his vomit, the sow returns to her mire and the burnt fool's damaged finger goes wobbling back to the Fire! And after all this is accomplished and the brave new world begins, when all men are paid for existing and no man must pay for his sins; as surely as water will wet us, as surely as fire will burn, the Gods of the Copybook headings with terror and slaughter return."

SUBVET| 12.3.12 @ 12:06PM

Read the nuts & bolts of the Federal Reserve in "The Creature from Jekyll Island" by G. Edward Griffin.

Von Mises Jr| 12.3.12 @ 7:53AM

Either way, if you have a 401K rollover or Brokerage Account that you haven't liquidated, I think Lew just told you to buy gold and oil stocks.

Peter Schiff advises the same, and in his book "The Real Crash" thinks one should own physical gold when possible and buy metals and miners, oil and commodities and dividend paying stocks that reside overseas or do much of their business in foreign countries especially with foreign currencies.

Pecos Pete| 12.3.12 @ 8:18AM

The Plan: King O nationalizes oil and mineral companies. King O issues an Executive Order that criminalizes ownership of gold.

Von Mises Jr| 12.3.12 @ 8:39AM

Forget TLP's contest this Friday. Pete just won the "brass ring." This is another reason why oil is off limits. It and gold have value. The Ruling Class wants it to bribe the hoi polloi with "bread and circus."

Our dollars will be worthless, but the commodities and real money (gold and silver coinage) will belong to Barry and Moochelle. They will treat Nancy to another face lift before she kicks off.

TLP| 12.3.12 @ 10:56AM

So. You admit that everything is becoming Worthless, and whatever does retain its Worth, will be gobbled up by the Bourgeoisie. Yet you still Trash The Contest.

Have you forgotten all of The Imaginaray Prizes?!!!!!!

Apparently.

Unfreakinbelievable.

Von Mises Jr| 12.3.12 @ 11:12AM

I did not call for a boycott of your contest. I just simply stated no one can hope to outpace Pete with his succinct and prescient observation on Monday.

TLP| 12.3.12 @ 1:05PM

I don't have any Brass Rings, so I'm sending Pesco Pete an Imaginary Cck Ring, instead.

2Anglico| 12.3.12 @ 9:13AM

To paraphrase Voltaire, "Paper money always reverts to its intrinsic value, zero." Now we don't even have paper money, we rely on "digital" dollars.

Drunken Sailor| 12.3.12 @ 2:35PM

bullets hold their value well and may become precious at this rate.

BackToBasics| 12.3.12 @ 9:31AM

from the article - "....in America...reduced the real earnings of the middle class and those on fixed incomes—sowing the anger, envy, and bitter political warfare we witness today"

I enjoy reading Lehrman's articles. Interesting that the negative effects he speaks of did not translate into defeat for Obama as it was expected as too many looked to government to meet their needs, angry or not. If Romney had won by enough of a margin to overcome the voter fraud by the democrats, oil may well have begun a decline in price as our output would have risen significantly.

Lehrman always makes sense but poor political decisions in social and fiscal areas have had as much negative effect as bad monetary policy and I don't think the former was simply a cause-and-effect outcome of the latter. When we were on the gold standard in the 19th century, prescient thinkers warned of the government corrupting our republic through the "buying of votes."

BackToBasics| 12.3.12 @ 4:42PM

I will add that I think Lehrman is right in speaking about the problems of going off the gold standard and using fiat currency. My point wasn't to contend with this but rather to say that the same problems we have now may have eventually ensued even if we had stayed on the gold standard. I would better have mentioned that it would most likely have taken longer to reach the large numbers of problems we face now. I just think that even good monetary policy, although much preferred, is no guarantee against the bad effects of greed among the general populace and thirst for power by leadership that have been evident throughout history.

Cobalt| 12.3.12 @ 9:39AM

"The abandonment of the gold standard made it possible for the welfare
statists to use the banking system as a means to an unlimited expansion of
credit. They have created paper reserves in the form of government bonds
which- through a complex series of steps- the banks accept in place of tangible
assets and treat as if they were an actual deposit, i.e., as the equivalent of what
was formerly a deposit of gold. The holder of a government bond or of a bank
deposit created by paper reserves believes that he has a valid claim on a real
asset. But the fact is that there are now more claims
outstanding than real assets."

"In the absence of the gold standard, there is no way to protect savings
from confiscation through inflation. There is no safe store of value. If there were,
the government would have to make its holding illegal, as was done in the case
of gold. If everyone decided, for example, to convert all his bank deposits to silver
or copper or any other good, and thereafter declined to accept checks as
payment for goods, bank deposits would lose their purchasing power and
government-created bank credit would be worthless as a claim on goods.
The financial policy of the welfare state requires that there be no way for the
owners of wealth to protect themselves."

Cobalt| 12.3.12 @ 9:39AM

""This is the shabby secret of the welfare statists' tirades against gold.
Deficit spending is simply a scheme for the 'hidden' confiscation of wealth.
Gold stands in the way of this insidious process. It stands as a protector
of property rights. If one grasps this, one has no difficulty in
understanding the statists' antagonism toward the gold standard."
- - Alan Greenspan

Aaron Investigates | 12.3.12 @ 9:44AM

Really two way of looking at the article. The one way is accept whats coming and plan accordingly, why stand in the way of a freight train?

On the other hand, as BtB suggests, there were, (and are) ways that our illustrious leaders could have either mitigated or avoided the situation. Of course that would have meant saving main street rather than wall street and that never is much of a contest. The problem for at least "47%" of the population is that they don't have the extra dollars with which to purchase the only hedges which are available and thus the wheel continues to turn.

Abdullah| 12.3.12 @ 12:52PM

So, if you are living in Egypt and are poor, you get around $300 a year from the US Federal gov. foreign aid, mostly in food and medicine staples. But as soon as you move, or crawl over to the land of milk and honey, the Feds spend $30,000 a year to keep you fed, med and lodged. That is 100-fold instant increase. So, would somebody explain me why change of address entitles you to a life of leisure? As dollar keeps debasing, more and more poor 3-rd word folks will try to solve their problems by jumping the fence.

TLP| 12.3.12 @ 1:06PM

Have not seen you at The Contest, lately.

Abdullah| 12.3.12 @ 2:08PM

TLP, I was busy writing politically incorrect review for "Anna Karenina" the movie. BTW, it is a perfect team for the next competition. Conservative Constantine Levin vs liberal Vronski and Anna the ultimate feminist. WDYS?

elias| 12.3.12 @ 3:06PM

"Similarly, the world dollar base expansion resulting from the Treasury’s effort to sink the dollar from 1985–88 led to the commodity inflation of 1989–90, followed by recession."

Oil prices were more-or-less in the toilet from 1986 to 1995, in spite of the dollar base expansion you cite above from 1985 - 88. Where was your "18 month" oil pricing model during this period, Mr. Lehrman?

cicero| 12.3.12 @ 4:17PM

You can't eat gold, silver, or oil. Inflation , while a problem, can be the boon of the debtor class. I suggest everyone purchase about 1 - 10 acres of land, and built a dwelling on it. Learn to grow your own food. If you can, buy the land on or near water, and learn how to catch fish. For the really ambition, teach yourself, or learn, fundamental hun ting skills, or small animal husbndry.

The land never leaves. The worker will always survive, and those who put their trust in their hordes of cooin will always perish. Ask the Greeks, the Romans, the French, the Russians, etc.

mike 3/505| 12.3.12 @ 5:57PM

Yes and no. If you work and "are fortunate" enough to build a successful, productive farm, the proceeds will be stolen from you in the name of "fairness."

Theo Prinse| 12.4.12 @ 10:38AM

I disagree with the hidden axioms in this excellent article in that the level of innovation is to low and innovation on itsleves is not fully understood and or accepted as the only source of wealth ... Nixon - among many important measures - killed the Nuclear Thermal Rocket that had reached Technical Readiness Level 10 and can bring man on the Moon, Mars etc 1.000 times cheaper than conventional H-O rocketry.
2nd. Nobel Prize winner Paul Krugman is wrong saying there can be no economic interstellar trade.
Krugman is wrong because of the millions of tons of Helium-3 on the Moon. The prize of Gold = 40 USD per gram and Helium-3 300.000 USD per gram

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http://spectator.org/archives/2012/12/03/money-and-oil

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