Today we are taking a short break from our usual rant/commentary. As long as governments see fit to tinker with the economy and trade, there will be no shortage of fallacies to refute, advice to give, defeats to lament, and victories to cheer. We see it as our duty to add a voice to the cause of Liberty, no matter how weak and crackled that voice may be. However, here at The Mint, apart from bombarding our readers with seemingly incessant yet strangely entertaining commentary, we endeavor to go a step further and attempt to educate. By educate, we mean assist you, fellow taxpayer, in cutting through the onslaught of data to pick out important trends.
As we have mentioned before, at the bottom of every Mint, we provide data on eleven metrics that we have given the title “Key Statistics.” We follow these Key Statistics daily in order to understand what is broadly happening to the economy within the confines of the US Dollar system which has come to dominate world commerce. Please note that we define the US Dollar as a system, and we must emphasize that this system, which is often mistaken for Money, is in fact a large fishing net, one that is cast over the world in an attempt to measure every activity under the sun.
With all of that said, we will now move on to our educational Mint of the day, the topic of which is oil.
Oil is important to the world economy for a number of reasons. Ever since the industrial revolution up until recently, the number of uses (and consequently the demand) for oil have increased to the point that one would be hard pressed to name a consumer good in which oil is not a direct or indirect input in its manufacture or transport. This quality of being a nearly ubiquitous commodity of the first order merits its price being key to understanding what is and what is to be in the world economy.
But oil has another, perhaps lesser known quality that makes it indispensable to gaining an understanding of what is going on in the US Dollar system. Most of us are aware that, in 1971, the US Dollar was officially taken off of the Gold standard upon which it was based. This move would normally have killed a currency much sooner had it not been for one minor detail. That detail was that all contracts for the delivery of oil on the world’s futures markets were denominated in dollars. This fact remains largely unchanged today. In a sense, the US Dollar survived because of the perception that it was indirectly backed by oil. Some take this link so far as to speculate that many US military adventures have been motivated by the need to protect this link. Belief in this hypothesis has given birth to the term “Petrodollar Warfare.”
Whether or not the Petrodollar Warfare hypothesis is correct, the fact that contracts for oil and a number of key commodities are originated in dollars indirectly obligates a large portion of the world’s population to participate in the US Dollar system.
The price of oil is important for yet another purely economic reason. Because of its quasi-backing of the US Dollar, the price of oil is a bell weather for the quantity of US Dollars in existence compared with real goods. You see, oil is becoming increasingly scarce at the same time that dollars are becoming increasingly plentiful. The cost of oil continues to increase despite the incredible amounts of capital that have been devoted to its exploration and processing worldwide for the past 140 years. For more information on the modern oil industry, please click here here.
This brings us to where the price of oil is today. In case you haven’t noticed, it is rising rather rapidly. We believe that the price of oil is rising for two reasons, both important to understanding of the current economic and investing environment.
The first reason is obvious, the supply of easily accessible oil is diminishing. Finding oil is becoming more and more difficult. This fact, and not global warming, is slowing causing the world to look for alternative sources of energy. Prices determine production and consumption patterns (otherwise famously known as supply and demand).
The second and perhaps not so obvious reason is that the supply of dollars, the other side of the oil/dollar equation that we call the “price of oil”, has rapidly increased in the past few years thanks to the numerous measures taken by the financial authorities to “stabilize the financial markets.” This “stabilization” will have dire consequences for commodity markets that are still on the horizon for most of us. Apart from our personal value judgments, you can follow the changes in the M1 and M2 Monetary Base (measures of the supply of US dollars), along with the price of oil, in our Key Statistics section and draw your own conclusions.
The Federal Reserve’s “spill” of US Dollars, unlike the BP oil spill in the Gulf of Mexico last year, has yet to be capped, the currently increasing price of oil will soon ooze its way into everyone’s budget and have a negative impact on current consumption patters that will make any damage caused by the BP spill look mild by comparison.