While the US dollar’s value against other currencies influences the price of oil, the relationship is complicated.
It’s not mere coincidence that the dollar’s rising value accompanies crude oil’s plunging price.
Intuition says dollar strength contributes to oil-price weakness. Oil prices are denominated globally in dollars. The stronger the dollar, the fewer dollars are required to buy a given quantity of crude.
But the causation, according to a working paper published last July by the European Central Bank (ECB), seems relatively new and “multidirectional.”
The authors—Marcel Fratzscher, Daniel Schneider, and Ine Van Robays—note that a strong negative correlation has existed between spot crude oil prices and the dollar exchange rate since the early 2000s, “while there was no such systematic correlation over the previous three decades.”
And the correlation emerged along with an increase in oil-price volatility.
A question addressed by the study is whether the oil price is an asset price “in that it reacts to other financial assets reflecting future financial and economic fundamentals.”
According to the authors, “Oil prices generally do not respond to US macroeconomic news, while other asset prices do. Yet oil immediately reflects changes in other financial assets, indicating that oil is a truly global commodity whose price is driven by US-specific factors just as much as by global economic and financial factors that are captured by various asset prices.”
Under current market conditions, metrics of the finding on multidirectional influence have special meaning for oil producers.
“A 10% increase in the price of oil leads to a depreciation of the US dollar effective exchange rate by 0.28% on impact,” the authors write, “whilst a weakening of the US dollar by 1% causes oil prices to rise by 0.73%.”
That insight might make folks whose fortunes depend on oil realizations at the wellhead stand in the street and cheer for the euro.
What they mostly need, though, is more demand for oil and a lot less supply.
(From the subscription area of www.ogj.com, posted Jan. 9, 2015; author’s e-mail: [email protected])
Bob Tippee | Editor
Bob Tippee has been chief editor of Oil & Gas Journal since January 1999 and a member of the Journal staff since October 1977. Before joining the magazine, he worked as a reporter at the Tulsa World and served for four years as an officer in the US Air Force. A native of St. Louis, he holds a degree in journalism from the University of Tulsa.