Oil Prices - A Little More of the Story

A few days ago, I wrote a post titled Why Are Oil (and Gasoline) Prices So Low? Since then, OPEC has voted to cut oil production 1.5 million barrels a day. In spite of this, the price of oil is about 5% lower. The purpose of this post is to add an update, with a little more of the story about why the price of oil is dropping more than some of us would expect.

One of the issues I mentioned in that story was

4. Rising value of the dollar

I noted in that post that the price of oil seems to drop as the price of the dollar rises against currencies such as the Euro. As I delve into the question more, I am starting to learn more about why the value of the dollar has recently been rising. It seems that the rising value of the dollar is tied to a combination of things--one is the flight to the US dollar for safety, another is the unwind of the carry trade, and a third is margin calls on hedge funds and other borrowers. The rising level of the dollar because of these issues seems to be a major contributor to the recent decline in oil prices.

This is an excerpt from a Reuters article talking about the connection with the flight to safety:

Treasuries ride high on dollar inflows, for now

NEW YORK (Reuters) - As global investors reverse trades in foreign currencies and stocks and run to the U.S. dollar amid fears of a global recession, they are sheltering much of the cash they salvage in a familiar safe harbor, the U.S. government bond market.

In the near term, Treasury debt prices stand to gain from this capital flight out of a range of other assets across the globe.

But when the flow back to dollars ultimately abates, a big risk awaits holders of U.S. government bonds. If the dollar falls out of favor with global investors just as the government accelerates debt issuance to pay for financial system rescues, bond yields will spike, analysts warn.

"The Treasury rally will turn into a Treasury bear market once the dollar starts to roll over," said Don Coxe, global portfolio strategist with BMO Capital Markets in Chicago.

So what are the big risks that the cash is fleeing from?

One seems to be the fact that the emerging markets are "tanking". Their stock markets are down by 50% or more from values earlier this year. Investment dollars are fleeing these struggling markets to the relative safety of the US dollar.

Another risk is that the European banks seem to have lent heavily to the emerging markets. According to this U. K. Telegraph article, these debts are now likely to become a huge problem for European banks.

The latest data from the Bank for International Settlements shows that Western European banks hold almost all the exposure to the emerging market bubble, now busting with spectacular effect.

They account for three-quarters of the total $4.7 trillion (£2.96 trillion) in cross-border bank loans to Eastern Europe, Latin America and emerging Asia extended during the global credit boom – a sum that vastly exceeds the scale of both the US sub-prime and Alt-A debacles.

If this is the case, the Euro is not likely to be a good currency to be in. In fact, the situation starts to look very bleak.

Another reason the US dollar has been rising is because the co-ordinated interest cuts have reduced the profitability of the "carry trade". This was pointed out in the comments to my earlier post by Steve from Virginia. In the "carry trade", investors borrow the currency with low interest rates, and invest their money in countries with higher interest rates. With the smaller interest differential, this is becoming unwound. This unwind is affecting both the US dollar and the Japanese Yen. The effect is to increase the value of these currencies that are being unwound relative to other currencies. With a higher US dollar, the price of oil is lower to US consumers.

A closely related issue to the "unwind of the carry trade" is the fact that hedge funds are now being forced to sell their investments, either because of margin calls or because investors are leaving the funds. In my earlier post, I mentioned the fact that hedge funds were historically net long on oil, and sale of oil futures by the hedge funds would cause a downward pressure on oil prices. What I didn't consider was that the hedge funds were also selling foreign investments. The sale of these investments and return of the borrowed US dollars would also would also raise the level of the dollar. All of this raising of the level of the dollar has been acting to lower the price of oil. This is an article about the problem:

Dollar roars back as global debts are called in

For six years the world has been borrowing dollars to bet on property, oil, metals, emerging markets, and every bubble in every corner of the globe.

This has been the dollar "carry trade", conducted on a huge scale with high leverage. Now the process has reversed abruptly as debt deflation - or "deleveraging" - engulfs world markets. The dollars must be repaid. . .

Hedge funds are 75pc dollar-based, regardless of where they come from. Many are now having to repatriate their dollars as margin calls, client withdrawls, and the need to slash risk forces them to cut leverage. The hedge fund industry had assets of $1.9 trillion at the peak of the bubble.

For the countries from whom investment is being withdrawn, the combination of the withdrawal of investment funds and the lower levels of their currencies have very negative impacts. At these lower currency levels, imports of all types, including oil, cost more. Also, the withdrawal of investment funds from these other countries harms the economies of these countries, further exacerbating the flight of currency from these countries.

I might also note that with reduced investment in these countries, it is likely that the demand for oil is dropping, or will soon start to drop. This reduced demand for oil, by itself, is likely to exert a downward impact on oil prices.

This destructive cycle will not continue indefinitely. At some point, central banks will sell US dollars, to try to get currencies more in sync. Hedge funds may begin to fail, as the value of the assets sold is insufficient to cover the debt supporting the assets. Also, it is not clear that the US can continue indefinitely as the source of safety. The US will be issuing many billion dollars of debt to pay for all of the bailouts. At some point, it may be difficult to find buyers for all the debt.

Alternatives to US Dollar

We are at this point hearing talk about the possibility of a replacement for the US dollar as the reserve currency. An official Chinese paper had this story in the last couple of days:

U.S. has plundered world wealth with dollar--China paper

BEIJING, Oct 24 (Reuters) - The United States has plundered global wealth by exploiting the dollar's dominance, and the world urgently needs other currencies to take its place, a leading Chinese state newspaper said on Friday.

The front-page commentary in the overseas edition of the People's Daily said that Asian and European countries should banish the U.S. dollar from their direct trade relations for a start, relying only on their own currencies.

This week-end, an Asian-European group held its biennial forum. One of the primary topics discussed was the financial crisis. According to this report,

"I'm pleased to confirm a shared determination and commitment of Europe and Asia to work together," EU Commission President Jose Barroso said at a closing news conference.

He said participants would use the statement as the basis of their approach at the Nov. 15 Washington summit of the 20 largest economies.

Although short on details, the statement, adopted Friday, calls on the IMF and similar institutions to help stabilize struggling banks and shore up flagging share prices.

On Saturday, there was also a meeting of the Gulf Co-operation Council, talking about dealing with the financial crisis. The Gulf Co-operation Council has been working toward a common currency, effective January 1, 2010 (less than 15 months from now). According to the report of this weekend's meeting:

The Gulf states, which are preparing for a single currency, emerged from the meeting with few public statements on how they would work together.

Asked about the level of impact on Gulf economies, Qatari Minister of Finance Youssef Kamal said: “The likely effects of the global crisis, we can and we are dealing with through the measures we have already taken. The crisis proves how much we need a single currency and that a single central bank should be a supervisory body that will help in crisis hours.”

On November 15, there will be a G20 Summit meeting in Washington to deal with the financial crisis.

In the meantime, we can expect a lot of volatility in financial markets. The fluctuating value of the dollar is likely to continue to flow through to affect the price of oil. There are clearly supply and demand issues as well, but the volatility in the financial markets is likely to hide what would be "normal" trends.

That's pretty rich. The last I heard was that China has plundered the US with their trade surplus, not the other way round. Besides that, the reason the oil price is falling is macro-economic affordability. You may (or may not) be able to afford gasoline at $10 a gallon but the US economy cannot afford to import 14m bbl/day at $200 or $300 a bbl. So economics caps the oil price IMO. More and more countries can't afford to import oil at $100+ because they can't get the financing.

Martin Wolf in the FT (pink paper version so no link) recently said that the total current account deficit of the countries in deficit is $1.68 trillion with a corresponding surplus for the other countries. This is the amount that the global balance sheet must expand each year to keep trade going on the same basis. The markets are having difficulty financing this deficit now which is one of the reasons the dollar is rising. There is a shortage of dollars for financing the deficits, unwinding the carry trade and deleveraging the hedge funds and the banks all at the same time.

Who will finance these deficits if the banks can't and the surplus countries won't?

Tip: Take a Prozac before you read the Telegraph link above. You'll need it

Ambrose Evans from the Telegraph makes Nouriel Roubini look plain optimistic...

Ambrose Evans is retarded-this is a mirror image of the insane housing bubble. Look, if the US dollar is so fundamentally strong because of the "reverse carry trade" and "dollar hegemony" has returned, Obama shouldn't plan on a 1-2 trillion dollar deficit next year-go big-why not 5-10 trillion. Obviously, permanently the USA has discovered a way to turn water into wine-mathematics has been overruled-just make every USA citizen a millionaire and your economy will boom.

Ambrose Evans is the closest thing the establishment allows
to reality.

Iceland's just the first in the long line of sovereign default
nations that are really colonies of NATO, which is just
an umbrella(shell corporation) holding company for our colonies.

Russia has all but taken the major naval base away from us there.

and this is just the first. It's how empires pay their debts.
they trade away colonies. Taiwan's next. I bet the US asks
permission before transiting the Taiwan Straits now.

Mac, you need to stop talking nonsense if you wish to be taken seriously. NATO is an organization, not a government, corporation or a company. They have Member Nations not colonies. And they did not "trade away" Iceland to help pay its debts? How much do you think they got for Iceland anyway? How much will they get for Taiwan, enough to finish paying all its debts? I don't think so because Taiwan is not a member of NATO and Iceland is STILL a member of NATO.


You need to really point out where I've been fundamentally wrong since Katrina.

Let's move to the strategic. Answer me this.

Do you really think that the US is not the Greatest Empire the World has ever known?

"And they did not "trade away" Iceland to help pay its debts?"

And you need to get that sentence correct.
Like this:

Iceland was abandoned bt the NATO countries when it defaulted.
Russia stepped in with the loan. Only then did the IMF(US out of $$$)
step in.

"How much do you think they got for Iceland anyway?"

The US "got" the ability to keep what it already had. How much for Taiwan? How about we get to keep one of our vehicle manufacturers.

China's not interested in destroying our military. They want to own it.

Note how no one's talking about china defaulting on anything.

I think I noted that NATO was a shell corp for the holdings in it's sphere of influence. Japan would be our "shell" in Asia.
But they want to own us too BTW.

"Iceland is STILL a member of NATO." We'll see. Hungary/the Ukraine
default in the next week or so.

We still haven't understod how costly our Georgian Fiasco of 080808

NATO or gas. Pick One. Before Winter.

Except the Russian loan did not or at least has not yet happened. Iceland has gotten money from Norway and the IMF and I believe that they're talking to Sweden.

The deal was never actually announced, only that the two countries were discussing it. I can think of many reasons for Putin to decide the deal wasn't worth it. Iceland's finances were likely worse than he was led to believe, he's spent several tens of billions recently propping up his own economy, and it was a Naval _Air_ base whereas a naval _ship_ base would be much better for him, but he'd have to spend serious cash to build it.

BTW I'm not claiming that the Russian economy is about to tank or any such. He has still spent much more propping it up than was ever discussed for Iceland.

Hello Richard,

Nebulous describes it. We're only seeing the smoke.

Russia and the US should be in alliance.

... make every USA citizen a millionaire and your economy will boom.

I've already picked out the color of my Ferrari!

Gail sez:

This destructive cycle (the flight to dollars) will not continue indefinitely. At some point, central banks will sell US dollars, to try to get currencies more in sync.

As Brian T sez, it's another US- Treasury/Fed- generated 'investment' bubble ... so that won't work.

Hedge funds may begin to (will) fail, as the value of the assets sold is insufficient to cover the debt supporting the assets. Also, it is not clear that the US can continue indefinitely as the source of safety. The US will be issuing many billion dollars of debt to pay for all of the bailouts. At some point, it may be difficult to find buyers for all the debt.

In the financial world, every evanescent money phenomenon is marketed as a long term change in fortunes. Internet businesses will put 'brick and mortar' stores out of business ... forever. Real estate will 'go up' ... forever'. Oil prices will soon be over $300 a barrel and gold has no upper limit ... forever!

Meanwhile, back at the ranch, the US economy is shrinking to a level relative to 'hard' capital; the nominal (cash) trade and government deficits are set to explode along with undeterminable unfunded liabilities; economic decision making is concentrating in the hands of fewer ... who are incompetents or criminals; administrative (discount) rates are set below the level of inflation and jobs are being shed by the tens of thousands, reducing both business and government revenue and driving the deflation cycle forward.

Obviously, the dollars is and will be strong ... forever! Why didn't I think of that? (Slaps self on side of head!)

The Treasury would like to see all the worlds' assets traded for dollars so it can sell it's vast amount of toxic debt into the dollar market. In that sense the Chinese State Newspaper mentioned in the main article is correct ... only for today. Tomorrow is another story.

Nobody can create debt to sell like the United States Government. Right now at the Treasury Department, there is an intern in a Ramones tee shirt slouched in a back room - not far from the loading dock - with laptop in lap and finger poised;

"How many zeros you want after that number, Boss?"

$9,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000 ...

Following the script as it has played out so far, as soon as the dollar reaches a level where people on the street who know and care little about such things remark about the dollar's strength in casual conversation ... the Treasury will dump and the whole bubble will deflate with a whoosh.

I know that, Gail the Actuary knows that, the Chinese know that ... the Treasury HAS to know that ... right?

Will this be the 'last bubble'? I don't know!!! I thought the Fannie/Freddie bailout was the 'last bailout'. I was so wrong!

The potential for greater bubbles is only dependent on how effectively fear can be monetized. The fear of losing all; 'Double or Nothing!'

'Double or nothing, again!' It's only Monopoly money, after all. Other peoples' Monopoly money.

Lessee .... Dot Com Stocks ... residential real estate ... commodities ... now US dollar. Each bubble coming harder and faster on the heels of the last, faster and faster ... so fast it's hard to keep track ... each crashing in turn. Obviously an endgame of sorts to the unlimited- credit money policy - it has to be! The cycle is faster, more destructive bubbles. These bubbles are having greater significance overseas; bad real estate loans brought the banking system to its knees worldwide, the commodities bubble put millions on the edge of starvation. What happens next? There are too many nukes and Kalashnikovs ... out in the great world to be gambling so recklessly ... like idiots.

Ironically, if the US cancelled the banking bailouts, negotiated its debt with overseas creditors, decentralized business and cut its umbilical to the national till, encouraged organized labor, rationed fuel and energy, put limits on entitlements and announced a multi- trillion dollar energy and transport infrastructure upgrade ... the dollar would tank. People love the fantasy that endless money growth will make us all winners in the economic lottery.

When the Ferrari bubble hits, I'm ready.

... now US dollar. Each bubble coming harder and faster on the heels of the last, faster and faster

Or, based on Evans' article, was the Euro a bubble? It changes so fast, it's hard to keep up. For now, I'm bearish on the Euro, but that could change in a few months.

Maybe the World cannot pay its debt. Then, inflation.

Regarding the enigma of when the dollar will finally succumb to financial reality, perhaps Minyanville.com's Mr. T Gold Indicator gives us a clue:

In a stunning development, the Minyanville Mr. T Gold Indicator has formed a rare double sell signal on the chart. [snip]

Why? How could this happen? Quit your jibba jabba and we'll tell you.

The first signal was generated when Mr. T began appearing in a national television spot for the World of Warcraft video game. [snip]

The second signal, formerly called the Hindenberg Omen until we realized there was another indicator already called the Hindenberg Omen, is now known as a Romney Retracement Parable. The Romney Retracement Parable occurred yesterday when gold bounced after the initial move down created by the World of Warcraft spots, but quickly collapsed after the following exchange between Republican presidential candidate Mitt Romney and CNN's Wolf Blitzer . . .

Gold was $850 when this indicator flashed its warning and is bouncing around now in the low $700s. Based on the phenomenal success of the Mr. T's Gold Indicator, I propose the Supermodel Dollar Indicator. When supermodels begin demanding payment in dollars . . . SELL!!!

Full explanation of the Mr. T Gold Indicator here: http://www.minyanville.com/articles/index.php?a=15012


hmm... I don't know, I find this article very British-centric but it's maybe me, I've read plenty of articles like that before the current crisis defending the British decision not to accept the Euro.

That's pretty rich. The last I heard was that China has plundered the US with their trade surplus, not the other way round.

But China lost hundreds of billions on their dollar assets.


Actually, China is right. The United States has taken wealth from the rest of the world because the U.S. dollar has been the international standard. I don't know if I'd use the word "plundered" yet, but it's only a matter of time.

What you seem to not understand is that, first of all, most oil and other things must be bought in dollars and then exchanged for another currency. Because of this, Americans don't need to pay the price to exchange money, whereas all other countries do. This gives the United States benefits over other countries. In addition, the United States is able to tax most of the world, not just its own citizens. First, you need to think of inflation as a tax. If your $1,000 this year is still $1,000 next year, but only buys $900 worth of goods, then we can say that you have been taxed $100. This is a hidden tax, yet a potentially horrific one. When the Federal Reserve prints (or types into a computer) more money with no physical backing, and the amount of money in circulation thus increases, then prices rise. There is more money chasing fewer products. Because more than half of the U.S. dollars in existence are held outside of the United States (something few if any other countries enjoy), then when the Federal Reserve devalues the money (as it will through the bailout and other money printing), everyone who holds dollars - including those overseas - are essentially taxed. This would not be the case if the U.S. dollar were not the main international currency.

This is what the Chinese paper must have been talking about.

This is the genius of the dollar hegemony tax system. It is voluntary and hidden. No one is forcing foreigners to hold dollars or treasuries.

They do it more or less voluntarily. They could buy gold or other currencies as soon as the dollars arrive, but they choose to hold dollars. This tells me that they think dollars are the best option compared to the alternatives.

Or, more likely, they have ulterior motives such as keeping they own currencies from appreciating. If that is the case they are getting what they deserve when they hold depreciating dollars. Keeping one's currency artificially low is just as evil as depreciating it with the computerized printing press.

The other reason they hold dollars is that the American twin trade and fiscal deficits are so huge that no other store of value is large enough to absorb a conversion without causing instability in that market. The ensuing instability might result in a net loss for any country attempting it.

What you're saying, Z, is that in a "Global" economy you've gotta have a "Global" Currency. A "Clearinghouse," if you will. A traffic cop.

The Dollar is It. When "push" comes to, "shove," they all run home to "Mama," and, "Mama" is the U.S. Greenback.

We've, somehow, got to get the money from the manufacturing, oil-producing nations to the customer (laboring) nations. Somehow, we've got to organize a mass lending from the U.S., Euro, Chinese, Russian governments (taxpayers" to the Azerbaijani, Ukrainian, Hungarian banks.

Jeez. Well, nobody said it was all gonna be "Easy."

It was like when the US was running a big deficit with Japan in the 1980's. The wisdom was the US was getting the goods and the japs were getting bits of paper in return. The same thing is happening with China, and the Chinese have just realised.

Well, that deal seems to have worked out okay for the Japanese doesn't it?

Indeed. What really happened was that the Japanese modernised their entire country, the US got a load of cheap crap and sold off the working lives of their children in exchange.


This is my first post though I've read here since last March.

Do you think that the US Gov, having recognised that the game was almost up on exporting worthless dollars for solid commodities (inc FFs), is consciously taking advantage of its reserve currency position so as to create a mass destruction of emerging/commodity based economies. Then as the "last man standing" taking control of what it needs to keep Americans in the unreasonable wealth they have become accustomed to at the expense of much of the rest of the world.

Maybe the runnup in oil prices made the US Gov realise time was running out, and that they needed a paradigm shift in relative wealth of nations to protect the USA.

ie if the 25% of world resources consumed by the Americans who make up 5% of world population must continue to grow to keep the American way of life, then by reducing the wealth of the other 95% or even worse reducing the other 95% population through poverty and war, the US government can make sure that in the future the USA can grow its consumption to 30%, 40% or even 50% of total world resources, and the American dream is alive and well. At least until Global Warming fries everyone.

I'm not sure that is the way I see it.

I think they may have seen that the time was running out on exporting worthless dollars for solid commodities, and decided to do as much as they could now, to max out the credit cards, before time ran out. I am not inclined to think that people conspired to hurt other countries. I think that more likely they convinced themselves that the countries would truly be better off if they borrowed a lot of money and emulated the "developed countries". Of course, the time when commodity growth could be cheaply expanded ran out, making it much more difficult for these countries to repay their debts.

You might be interested in a post I wrote quite a while ago with Shunyata. It was called Monetary Policy and Weaseling Out of Debt.

I don't think it's been as blatantly planned out as what you say, but the fact is that the US Government (and others around the world) will try nearly whatever it can to keep the standard of living from dropping in the short term. Just as much as this means taking wealth from other countries, it also includes taking potential wealth from future generations.

Just like a company that doesn't care about the fate of the world, but only cares about this quarter's revenue or its current stock price, the government and most people in general are blind to future problems. They just want to get profits now.

Just think of how easily people can say "unsustainable". Nearly everything we do has long been known to be "unsustainable". In school, I learned about "renewable" and "nonrenewable" resources, and I knew that oil was nonrenewable. But that simple fact doesn't dissuade anyone from slowing their usage of nonrenewable resources until a crisis appears and they don't have the means to consume like before.

There is no question that the government is partially responsible for the commodity price collapse. The futures markets and naked short selling show that you can sell massive amounts of paper that represent commodities even if demand for those commodities is exploding. Take silver, for instance. We're currently going through the largest shortage of silver in history, as far as I know. I tried to order some today, and the company said that they might be able to get it to me by April of next year, and if not, I could get my money back. (Imagine if your local gas station told you that you could reserve your 10 gallons of oil - that you need to get to work today - for delivery in April!) Does that situation seem natural to you? Normally, with that demand, silver would be at $50, not $10. But there's much more paper silver out there than real silver, and the paper silver is being sold like at no other time in history. However, there will come a time when more people want to take delivery of silver (cashing in on those promises). This will crack the COMEX. It's like in 1971. Under the Bretton Woods system, the foreign countries could exchange their U.S. dollars for gold at a certain, unchanging rate. Well, there were more dollars (or paper promises) for gold than there was gold. France realized this and started demanding gold. This alerted the world that the gold price had been unfairly suppressed. Nixon then nullified the dollars' convertability into gold. This will happen again with the suppressed price! In 1970, gold was $35 per ounce (fixed). In 1980, gold was over $600 per ounce. Even when it was realized that gold was overbought and the price came down later, it still never went back down into the double digits. I expect that soon, the triple digits will seem very low. This price does not even take into account inflation. When you add that in, it becomes very easy to see why the government and corporations wanted to get the prices of commodities as low as possible in preparation for an explosion.

Many good points, but I don't believe for a moment that we're experiencing a silver, gold, platinum, or copper shortage. There is a silver coin shortage, but I can buy 1000oz silver bars at only a small premium over spot from a number of sources.

That being said, I am profoundly concerned about the weak fundamentals of the USD. It's just that right now, I don't see any appealing alternatives, in precious metals or forex.

You will notice I purposely didn't quote the title of the Ambrose Evans article--thought he was going overboard.

The whole issue of the emerging markets defaulting seems to be a valid one, and one that we have not looked at much on TOD.

We don't think about demand being propped up by credit, but it is, because without credit, a lot of businesses using oil could not exist, and people earning salaries that allow them to buy gasoline or diesel would not exist.

Credit also props up supply, because it is used by the companies that drill the wells, extract the oil, and transport petroleum products to customers. (Some oil companies, more than others, of course.)

When the credit bubble breaks, we lose both the demand and supply. The demand side is probably bigger, at least at this stage of the bubble.

I agree with your statements above. However, in the longer-term I think the credit-crunch impact on supply will be even greater than its impact on demand. In particular, new energy (whether wind, solar, nuclear, geothermal or whatever) needs to be financed, both with equity and with debt. With both equity and debt markets in disarray, it seems to me that the only plausible source of large-scale financing is through printing money.

Obama talks a lot about his energy program that will create five million new jobs in the renewable and alternative (and presumably nuclear) fields. Where is the funding coming from to finance all the investment ("investment" in the strict economic sense) that will be needed to create these five million jobs coming from?

More and bigger deficits. In my opinion, we have hardly begun to see the expansion in U.S. deficits that will be coming over the next four years, regardless of who is elected president.

It seems to me that we need to look at future development in terms of the resources it will take to produce this development. I am not as convinced that long-term debt will work for this purpose. I should write a post trying to explain better why. Long-term debt works well when available resources are expanding, but much less well when available resources are shrinking.

I expect that the use of long term debt will greatly contract (nearly disappear), as lenders gradually come to realize that with shrinking resources, it is very difficult for debtors to pay back their loans with interest. The risk of default becomes very high. By the time the risk of default is properly priced into the system, interest rates become so high that virtually no investment can make a high enough profit to afford the loans. When this happens, most financing has to be done through savings, or through government programs (using tax revenue to buy resources for development).

I don't see continuing big deficits for very long. At some point, the fiction that anything is being accomplished by raising debt and buying it back ourselves evaporates.

I see big deficits continuing and increasing for the U.S. In all probability, they will get as big relative to GDP as the deficits during World War Two did. Deflationary winds are blowing up a storm, and to combat deflation I can see a two trillion dollar deficit in fiscal 2009 followed by a bigger one in 2010.

World War II was financed in the U.S. with bonds that had interest rates of 2 and 1/2% and 2 and 3/4%--which is rather remarkable, when one thinks about it. I don't know at what rate our future deficits will be financed, but the Treasury can always issue more debt (to be purchased by the Fed) to pay the interest on this new debt. A Ponzi scheme you say? Perhaps, but a Ponzi game can go on for a decade or more. IMO, more printing of money is in our future, either to prevent or to combat a debt deflation.

The only reasonable way to finance them is against direct savings - not against future growth in revenues. That brings us back to hard caps on the scale of the economy at least in emergy terms. Hard and declining caps. Nothing else will be credible and trustworthy. People will be arguing what descent path is credible. And if there is a way to make it more physical; maybe people will rather take chickens in pay than money. Hard to figure.

cfm in Gray, ME

Some Random Thoughts About Interest Rates

In all probability, they will get as big relative to GDP as the deficits during World War Two did. Deflationary winds are blowing up a storm, and to combat deflation I can see a two trillion dollar deficit in fiscal 2009 followed by a bigger one in 2010.

America ran up a big deficit during the war, but we borrowed the money from ourselves. When the war ended, we had the only functioning industrial plant, we had millions of capable workers with technology advances for them to leverage. We also had a market for our goods; a strong domestic market of the millions of new families ready for the middle class, and millions of destitute Europeans who needed ... everything.

Some of the Congressional bodget managers have been speaking on C-Span and appearing at hearings on Capital Hill. The situation is sobering ... yet the Congress continues to rubber stamp the banking industry's demands for cash. People keeps speaking truth to power about the deficits, but this falls on deaf ears.

The long term interest rate issue is very interesting.


Blue areas are periods of expansion.

This is courtesy Bob Hoye @ Prudent Bear;


History tells us long term borrowing will be expensive. While 'long' rates currently climb toward double digits, the shorter rates are being held to a level close to zero. The issue is how much will it cost to keep short rates low? During the past month the coordinated central banks injected at least one trillion dollars into the banking system worldwide attempting to keep interbank lending rates from climbing above the funds rate. What this says is there is a strong tendency for short rates to trend higher all things being equal; the 'natural' short rate is probably two or three hundred basis points or more above the established Fed funds rate/Treasury bill rate.

The natural rate being what short funds would cost without massive Fed borrowing and spending to hold it down.

As short rates increase, the penalty to the government becomes severe, as more and more borrowing is falling toward the short end of the debt spectrum. The $11-12 trillion deficit @ 1% is a modest $110 billion a year. This amount can be borrowed, too ... which makes it like 'free money!'. At 5% that amount jumps to a greater figure than all discretionary spending and almost equal to the defense budget. The Treasury's unpalatable choice is to either pay down interest rates by throwing trillions at the banking system or paying more interest in the bond market.

Since both liquidity injections and interest on debt are added to the deficit ... the deficit cycle becomes self- reinforcing; another positive feedback loop.

If all rates trend higher - for an (hyper-)inflation premium - 10% interest on $12 trillion is over a trillion dollars ... over a third of the US government budget. All this leaves out the unfunded expenditures such as Medicare or swap liabilities 'popping up' out of some of these entities the Treasury is taking over and assuming fiscal responsibility for.

One comes away from Mr. Hoye's charts with the realization that long term rates decline in economic booms ... as borrowers believe that longer term prosperity will continue to finance borrowing costs out of future growth. This belief has mostly taken place in the context of energy constraints. These constraints were not increased costs or demand competition, but rather the absense of tools to transform or even recognize the utility of the resource in the first place! Mot knowing you can burn that black gooey stuff is the same as not having it, in a matter of speaking. Despite these constraints ... finance bubbles formed.

There are a number of (hasty) conclusions to be drawn from this, but I think it's a good topic for thought.

Another take on the 'virtual laborers' aspect of petroleum leads us to China. The economy there is very much different from ours in the US. Theirs is by design a kind of 'make work' system that is set to busy as many hands as possible for all sorts of economic and social reasons. Their government creates markets for goods and provides financing so as to have customers for Chinese products; they build factories and even cities with as much hand work as reasonable. The Chinese will accept certain 'losses' on some transactions as long as employment continues to rise. This contrasts to the US which has automated millions of workers out of high- paying jobs and replaced them with oil- and electric machinery. Good for us; no strikes, no unions, no labor problems ... Unfortunately, these 'virtual employees' don't pay taxes or buy products and depress the economic value of those who do.

It is hard to put a price on this oil- for human worker swap, but the overall cost has to be very high.

Your are right. The interest will quickly kill us if we try to borrow our way out of our problems.

Also, not hiring workers looked like a good solution for a while, but it doesn't make sense in the long term.

Sorry about the crappy charts. I have to work on the image hosting.

The outcome of this catastrophe is obviously unclear ... but the craft method (as opposed to industrial, assembly line processing) with great local diversity of businesses and products, large human inputs versus machine inputs and some sort of merchantilism tying it all together seems to be a way forward.

Lots of currencies would mean work for lots of bankers to make change.

Craft method doesn't necessarily mean making wooden knobs by hand. Helicopters are made by craft methods. So are satellites. We are being killed by 'Rock Bottom Low Prices'.

A lot of what we are enduring now is a by-product of the meatpacking industry.

The size and scale of the (Union) stockyards, along with technological advancements in rail transport and refrigeration, allowed for the creation of some of America's first truly global companies led by entrepreneurs such as Gustavus Franklin Swift and Philip Danforth Armour. The mechanized process with its killing wheel and conveyors helped inspire the automobile assembly line. In addition, hedging transactions by the stockyard companies played a key role in the establishment and growth of the Chicago-based commodity exchanges and futures markets.


This all makes sense, somehow ...

"...as lenders gradually come to realize that with shrinking resources..."

Not going to happen anytime soon, Gail. The recession/depression will hide the realities of resource depletion from anyone who wants to believe in more growth, and that will be almost everyone. They have so many ready-made excuses (it's the environmentalists, it's the credit crisis, it's lack of demand, lack of investment, etc) for why supplies fall. We will inflate to fix this, and when it doesn't work, it will only be because we didn't inflate enough, so then we will inflate more...

great summary.

i read somewhere that the yield on t bills went negative briefly in recent trading.

and with credit tight, wouldnt you think banks, short on money to create credit from, would raise the rate on savings and cd's. i havent seen it so far. but maybe some of these foreign funds are finding their way into savings and cd's so that the supply and demand is keeping the rate low. the cap on fdic probably limits these funds.

kitco has a few articles on the conundrum of the strengthing dollar. they expect a drop as steep as the run up.

This is about all commodities, actually, not just oil:


The market, realizing that there is a lot of bad leverage out there, is wringing the leverage out of all asset categories about now. Hedge funds, in particular, are forced sellers as their banks call in their loans. My guess is that in 90 days time we will be reading reports that recent NYSE and commodity volumes were 75%+ hedge fund forced liquidations. Those guys represent 20% to 50% of NYSE volume on a regular day.


Ambrose Evans channelling Alan Greenspan-the USA continues to borrow more and more foreign money to run the country, relying less and less each day on tax revenue, permanently-maybe he is channelling Cris Angel.

Have you followed Evans articles? They are very very different from what you suggest. The USD strengthening is a sign of weakness in the global economy. Everytime the dollar strengthens it makes things worse globally, including for the US. Also the dollar is strong because everywhere else is far worse.

More worrying is Pritchard's analysis of British lending. It's a puzzle how a country with inadequate savings for domestic investment and the budget deficit could find spare cash to lend to Asia.

Gasoline prices are low?

we are still up 9 cents year over year here in the USA.

so looking at the long term it's still high

another though, since the dollar is getting stronger is the price going up in importing countries local curreny? (won, euro, etc)

Hi Gail,

Very well presented article that answers many questions. My Canadian pension is being hammered. No more shopping in Bellingham.

If Europe unwinds as per the Times article the dollar will be the only currency left standing. The yen will probably hold too. That leaves us with more of the same and do imminent US dollar decline.

China may find it is de-facto the strongest of them all.


I wonder if part of the new strenghth in the dollar is due to expectations changing to include deflation in the U.S. During a major deflation, of course, the value of the dollar increases greatly. With falling commodity prices, I don't see much chance for vigorous INflation in the near future of the U.S. One can imagine stable prices in a declining real economy; stranger things have happened.

My question stands-what would prevent a 10 trillion 2009 deficit if there is fundamental logic behind this US dollar value? Put it this way-if a projected 2 trillion 2009 deficit and a giant current account deficit logically strengthens the currency, why not put everything on the card-nuclear,rail,wind,highways,-you name it-a magical money machine has been found.

A magical money machine has been found: It involves the Treasury issuing more securities and the Fed buying them up to keep interest rates low. This, of course, is called monetizing the debt, or, more informally, printing money.

I expect a deficit in the neighborhood of two trillion dollars for the U.S. in fiscal 2009. However, this deficit might not be inflationary enough to counteract the forces tending toward a deflationary depression. As for 2010's deficit, that is anybody's guess; my WAG is two to four trillion dollars. Again, that might not be enough to stop a deflationary depression. There is no way the deficit is going to ten trillion dollars in 2010, though I can imagine it happening in 2012 if there are thirty to forty percent unemployed by then.

Excellent article.

expect the dollar to hold until the crash has bottomed.

That is when the dollar will crash, interest rates will have to be raised
to 10% so that savers can be created.

AgLand worth pennies on the dollar will then become attractive.
But imagine as all that grain then bypasses America's stores
on the way overseas.

The American debt slave will not be happy.

"Agland worth pennies"..grain bypassing our stores?

Right now that 'agland'is quite expensive.And I know for I just sold some . As chaos comes raining down many will squat on other peoples land and find that holding it might be far,far harder than finding it.

If ALL you have is property and its viable then how far would those go to hold it and defend it? This to me is the great unknown.
Scholarly types I am sure will differ. Face it, for the worse scenario land ownership will be everything and the only thing because that is the ONLY place food can come from.

Grain bypassing? I guess this would be the slooowww meltdown version of chaos.

Actually most grain will likely rot in the grain bins or become totally infested.

When chaos comes I doubt that what farmers did have will soon be gone one way or another and land will be the only item of value.At that time it will be every man for himself.

Airdale-the smell of doom in the morning..it will get very bad before it ever starts to get better...some people chasten me for my doomer views. ...I say then that I was alive during the end of the Great Depression and alive during WWII and rationing and also the 1973 oil blockade as well as watching riots and cities being burned thru the years as business owners using highpower rifles to defend what they had as the police stood afar off and watched. Not forgetting the bloodletting in Chicago many years ago as hippies were beat senseless.
Or Kent State. Todays youth do not remember this I am sure,hell most aren't sure of where Iceland is or what it is. They surely don't recall the cold war when nuks ruled the day. All they get they must obtain thru and Ipod.
I flew Naval surveillance aircraft for many thousands of hours to ensure they didn't bomb us to hell and back.Our reports were sent directly to Norad.The world stood on tippytoes and many knew just how close it came. I was teaching guided missle technology as JFK played , "You Bet Your Country" with Russia over Cuba. My site was already pinpointed since it was close enough for targeting. Each siren that went off sent many running for cover and sweating profusely.

So all these 'happy dayse' were the norm?
Some recall it differently.

"expect the dollar to hold until the crash has bottomed"

Only if the problems are restricted to the US. Otherwise, the crash will continue even after the dollar bottons.

You're doing good work, Gail. It's a mess; but, it looks like we "might" be able to work through it. Europe is the "black box," right now. I've got a hunch that it's the big European banks that are inspiring the most Global nervousness at the moment.

All the U.S. ninja loans were the "cancer," but it was the sudden skyrocketing of the cost of oil that precipitated the sudden mestastization. It's Scary, but we might be up to 50 - 50. Let's hope.

"It's a mess; but, it looks like we "might" be able to work through it."

Let me help. The world's sovereigns(Central Banks a subset) now own
their financial systems. The one's who don't are the same ones
threatened with Sovereign Default.

There are Zero Savings in the US now. And no way to flee the ravages
of what's coming because all avenues of escape have been closed off.

No accident that the Bankruptcy Laws-the Original Founding Fathers'
Version to be enshrined in the Bill of Rights after this-were changed.

We've been calling this since Katrina. No accident that NO still
has not been rebuilt.

One of several prophets (Catherine Fitts Austin (the Tapeworm), Ruppert, Michael Hudson, Peter Shiff, Jan Lundberg), have all been saying it:

"Since there isn't any stable external environment untouched by the crisis, this may become a uncorrectable and self-reinforcing feedback loop. Also, since most economic statistics have substantial lag, we may not even know it is occurring until we reach the next big tipping point.

Hopefully, the global system isn't as efficient as we designed it to be.

NOTE: Here's an interesting academic paper that looked at whether the great depression of the 20th Century could have been forecast using modern economic techniques/analysis (remember, the depression looked like it was merely a recession when it began). It concludes that it couldn't have been anticipated. It was a black swan."

It is a black swan.


we're doing the exact same thing that Hoover did.

Some oil companies took on debt to finance expensive projects (i.e. Canadian Natural Resources). As cash flow diminishes there is less desire to start marginal projects. There are existing contracts for drilling rigs, production platforms, and pipelines to be built.

The average observed decline rate of worldwide oil fields is about 4.5% per annum (ConocoPhillips). The theoretical decline rate is higher than what was observed. Crude plus condensates production was close to 75 million barrels in January. The world needs about 3.375 million barrels of new production each year to make up for production lost to depletion.

OPEC has announced a 1.5 million barrel cut in production and is scheduled to meet again in December.

Lower prices reduce sbility to fund oil company projects while lower gasoline and diesel prices might eventually lead to demand improvement. As the expense of developing oilfields increases, there might be a long term drag on economies dependent on massive oil inputs increasing their desire to conserve energy.

seeing as how the magic bakers' military efforts to achieve global hegemony have bogged down, they've switched to financial warfare for a while... at least until the next "new pearl harbor" materializes and they can mobilize their american armies to a total war footing,

luckily for the magic bakers, the world outside america seems to have swallowed more than its share of the magic bakers' ever-expanding poison pie... so the world sickens and devalues.

who in their right mind would pay retail for global hegemony when they can buy it at firesale prices?

Here's the question to ask, yourself. If you're an oil exporter, and Bangladesh, or Pakistan comes to you with a Billion Dollar order, and a "line of credit" from a Ukrainian Bank, do you bite? What if it's a Belgian Bank? What if it's Citibank?

Okay, everybody's running to the U.S. Dollar. It will be up to us to make the call. Do we do "Heroic" things to prop up the European Bank? What about the Ukrainian Bank? Where do we draw the line? Who can we let fail?

Good questions.

With peak oil, I expect debt defaults to just keep getting worse and worse (perhaps a little fluctuation, but the trend will be toward more defaults.)

Even if the US could prop up all those banks today, it can expect its ability to prop up banks to go downhill in the future, partly because US finances will continue to go downhill, and partly because the number of defaults at each of the banks will keep growing. Propping up European Bank +Ukrainian Bank + Citibank might make sense now (although I doubt it). A year from now, it definitely won't. By two years from now, propping up Citibank may be a real issue.

Very true, but we still have to figure out how to do it. The alternative is just too awful. And, I really, really mean "Awful."

I think we'll have to disguise it by "guaranteeing" European loans. We'll have to have a "Global Coalition/Conference to Save the World" type thing where we all throw our "resources" into the pile, and hope the American taxpayer doesn't notice that he's "guaranteeing, in essence, every "major" bank in the world.

If it doesn't work all the "Doomers" can "take a bow." They will have been proven right. I hope I'm wrong (or, at least, that it works.) :)

That is classic-the American taxpayer "guaranteeing" every major bank in the world-the American taxpayer can't even cover internal liabilities, much less global liabilities.

Keep in mind, folks, that 5% interest on $4 Trillion is only $200 Billion/Yr. That's less than 1.5% of U.S. GDP.

Not a bad price to avoid another "Great Depression."

"only $200 Billion/Yr."

great, you can pay my $667 per capita share of that amount, keep in mind it is only $667.
would you like to pay that in a lump sum or monthly, $55.58 per month for as far as the eye can see. can we set up an auto-pay plan ?

maybe we need a debt adjusted gdp. so if annual gdp is $12t and $2t is created out of thin air money then debt adjusted gdp is $10t, we are already in a "great" depression, real great.

If the sh*t really hits the fan, then why do you suppose that 5% interest is realistic?

I might also note that with reduced investment in these countries, it is likely that the demand for oil is dropping, or will soon start to drop. This reduced demand for oil, by itself, is likely to exert a downward impact on oil prices.

Oil demand has already dropped severely in emerging markets. Their central banks are nearly bankrupt and they can't afford large commodity purchases.

This is Very dissimilar to 1929, Mac. We're trying to keep trade open, whereas in 29' Congress shut down trade with Smoot-Hawley (thus starting a trade war, and putting Millions out of work.) The Fed kept rates too high then; not now. There was no FDIC, then; there is now. There are several other differences having to do with disruptive technologies, problems in the Ag sector, hard right-wing congress, etc.

We've got big problems, here; but, this ain't 29'. YET!

Over simplification here;

The finance world went on an exponential tear creating money, mostly in the form of debt, on a massive scale.

Money is a claim on something tangible.

The ratio of money to anything even remotely close to tangible value is astronomical.

The race is on to see who can end up with money that actually is a claim on something tangible. The music stopped, the room is filled with ten thousand people, and there are only 3 chairs.

First challenge is to settle out all your debt and end up with something left over.

Next challenge is to either tie your remaining money to something of value or take possession of something of value.

Right now the selling of things in order to settle debt outweighs the buying of things which is why paper gold is falling and physical is scarce and going up in $.

Soon the buying will outpace the selling and tangible things will undoubtedly go up in value, most likely WAY up.

That’s when things will start to get interesting. Ha Ha!


If you take a look at the lease rates for gold, silver and platinum on kitco, it looks like a substantial amounts of them are being borrowed and sold. The bump up in the lease rates correlates highly with the drop in gold. i.e. It's being pushed.

1. They only borrow the stuff. They'll have to buy it back.
2. It looks to me like a good way to get dollars at a 2.5% interest rate (or better). As long as gold keeps falling.

I'm not fighting this. I'll replace the gold in my portfolio when the lease rates drop back to normal.

Well said. I've also read of money being described as a claim on labor. Eventually, money is in fact a claim on energy. Despite all the bluster, accepting paper in exchange for energy will increasingly become a losing proposition for energy suppliers. Speaking of paper-


Now that we are well on the way to sub-$2/gallon gasoline in the US, it is time for the USG to enact fuel taxes that bring the consumer cost of gasoline to $5 per gallon. Take the proceed and invest in raising the CAFE to 45 MPG. No exceptions for SUVs or consumer trucks. Subsidize wind, solar, geothermal, and algae-based biofuels. Enact new, higher 'Energy Star'-type standards for air conditioners, computers, and appliances. After moving out on these initiatives, invest in enhanced freight rail lines and high-speed intercity passenger rail, as well as buses and trolleys and trams.

The 'true price' of fuels will be held down, minimizing our contribution of dollars to people who harbor organizations of people who wish to cause us harm. Greenhouse gas emissions will decline. 'New energy' jobs will be created in the U.S.

This is the valid role of government...the 'free market' will just keep raising and lowering oil prices in a see-saw patter to maximize milking us dry, then allowing us breathers to refresh the economy and choke off any alternative energy implementation. We are in one of these 'rescue' phases right now. The USG needs to rig the game with taxes to create a high floor for consumer oil product prices, thus controlling demand and investing in alternatives to ME oil.

If that is too 'socialist' for you, get over it and start using logic.


Not too socialist for me, but I see at least one hurdle that seems insurmountable - all the Gordon Geckos.

It seems to me that a tax on gasoline that keeps the underlying price low in the face of depletion would lead to too much revenue for the government. We actually have a stand-by gasoline rationing plan that would to the job of keeping the price low while keeping revenue transfers private through a white market in rations. This only takes an executive order to invoke so there is no need to put congress on the spot to raise taxes.



Earmark the tax on fuel to pay for our foreign adventures, eg: Iraq, Afganistan.

or just start living within our means. neither is likely to happen anytime soon.

A sensible plan, may be the last opportunity for US do adapt to coming Peak Oil peak.
Most countries are already do what you suggest, hence their lower energy intensity and higher GDP/barrel oil.
Then again, universal health coverage makes sense to most developed countries except US!
One possible way to sell a gasoline tax package would be to have 50% of increased taxes going directly to subsidize new high mpg vehicle purchases. They would not be "taxes", but "new vehicle down-payment plan" Basically would be writing off all SUV and other low mpg vehicles, could even have a an accelerated market buy-back and crush plan, starting with less than 15mpg vehicles more than 5 years or older.

the money is just sloshing around the system looking for somewhere safe or somewhere it can go to work....

it can run back to the dollar on this global margin call thing but it will just flow out somewhere else in waves with losses on every exit

sort off financial entropy with loses on every exchange signified by these large movements... out of financials into commodities, out to treasury notes and on and on, back and forward to and fro....

unless goods and services materialize out of nowhere(that energy thing) to create wealth to underwrite the value of the credit still in the system (based on supposed returns of debts never to be re-paid) then this sloshing effect will create volatility in the markets and currencies... what are the correlations and lags?

until it runs down.... decaying sine wave sort of thing.... sort of, not literally.. its complex and messy... most things are.

It seems like at some point, a lot of this debt just has to go away. There is no way that all of the derivatives can be paid out at full value, and a lot of the emerging market debt will never be paid. As people lose their jobs, more and more home loans, car loans, credit card debt, and student loans will default. Businesses will go bankrupt as well.

We almost need a "Day of Jubilee", and start all over again. A global "Control/alt/ delete". But that can't happen, because everyone thinks someone else owes them something.

time scales.... we don't get a reboot more a disk cleanup and de-fragging.. :-)

you right you can't just start over on international no debt day.. hence the messy nature as some guys are going to engineer a return come hell or high water

a lot of people could get angry.. both those that know what happened and are determined they are going to be the guy who gets the chair when the music stops...AND the huge mass who don't understand what happened to their jobs and pensions

what worries me most is governments seem remarkably bad at informing their populations...

in the UK the only people trying to inform us are the BBC... and they are rather muddled and conflicted about it.

physical realities are not so bad... we can make do on a lot lot lot lot less and not have a terrible quality of life by any means... but its the fear thing

i think the depth and pace of change may be more severe than i first thought and mechanisms by which this all unravels way more unpredictable than I would like...

It seems like at some point, a lot of this debt just has to go away.

Yes, of course. And I can think of but three ways debt [goes] away: 1) forgiveness 2) default 3) inflation. 1) ha! 2) happening 3) will happen?

I think 3) will eventually predominate. The reason being Peak Oil. It is turning vast swathes of the western (US) way of life into junk. That junk is what (much of) the vast pools of paper floating around the globe are a claim upon. I agree with Chris Martenson on this.

Edits: Silly me! There's 4) -- repayment. Another, ha!

Also, it might seems that there's asset deflation, e.g. houses. But that's only partly true -- houses that can no longer be affordably heated and gotten to and from have lost utility. Your old car losing value (well, price) isn't an example of deflation, it's losing utility and hence value.

I suppose the other option is a break in the system. For example, new government, with a new form of currency. Or such bad electrical outages that no one is sure who owes what to whom. Or major war, wiping out records and a significant share of the population.

"Day of Jubilee"

Remember, Nature never gets paid. Nature gets no benefit from the Jubilee. The polar bears keep swimming north. That debt to Nature was generated by grinding up real natural resources and sending them into the trash. The numbers can go away, but the ice and the coral and the fish and timber will not return.

It is not in our power to forgive that debt; it is not between humans and it will not just go away. And it's that debt that is crashing the system. A margin call on Nature and Nature can't deliver anymore.

cfm in Gray, ME

Good point. I guess the argument is that if the dollars are inflated enough, it will mask the lack of underlying resources.

Tacking yet another zero onto our currency is the only way I see of providing more time for the financial system to function. It allows us "growth" to kick the can yet another few years into to future.

In the words of Tony Stark ( IronMan movie )...
"that's how dad did it, that's how America does it...and its worked out pretty well so far."

Only in numerical systems and astrophysics does "infinity" actually exist. Infinite "growth" requires a system which allows infinity. Earthbound nature does not, hence we have to map it to something else which does... so we invent "currency" .

I think that is exactly what will happen. My crystal ball shows a series of unexpected boosts in the rate of inflation. Each increase in inflation will ride up a short-run Phillips Curve before it shifts the curve itself. In the long run there is no tradeoff between inflation and unemployment. But in the long run we are all dead. In my opinion, the political pressures for increased deficit spending and easy money will create a kind of stair-step increase in the rate of inflation. For example, suppose that now expectations are for a long-term rate of inflation of 3%. Then the rate of inflation goes to six percent and stays there for a year or so until the rate of inflation is bumped up to 12% per year. This unexpected increase in the inflation rate would stimulate the economy. Of course, the stimulation wears off as expectations adapt to the new higher rates of inflation.

In my opinion, expectations about inflation are usually adaptive (looking back to recent experience) rather than rational (looking forward with perfect knowledge of all existing information).

Don, it appears to me that we are entering a much more chaotic period than your model implies, with sudden shifts in currencies, collapses of institutions and countries and knock-on effects.

Central banks are printing money at an exponential rate, but the velocity of money often slows to near zero, until bills need paying.
Alt-A mortgages will be up for renewal shortly, again with cliff-like effects on credibility and credit.

I can see things coming unstuck with frightening rapidity, perhaps over the course of a week or two.
The trillions of dollars being created to counter de-leveraging form a tidal wave like mountain of currency, which could sweep away a currency's value in a couple of days.

I don't think anything "big" is going to happen in the next few days or the next several months. I'm looking at a time horizon of about ten years for things to get really scary, as global oil production and net oil exports both decline very significantly.

My perception is that financial markets are a lot calmer than they were a month or two ago.

I hope you are right Don.
However, to me it looks as though what is happening is that the 'calm' such as it is has been attained by committing ever larger sums of debt to unwind the huge over-leveraging of derivatives, and that the intervals of comparative calm are getting shorter, so we have now gone from companies going bankrupt to countries, and massive currency movements due to the end of the carry trade.
The £200 billion or so at the IMF's disposal is looking very small beer indeed, as is the £40 billion or so of the UK Government when contrasted with the money loaned by the banks for over-valued investments.
The money committed may have decreased the periodicity of collapses, but that appears to me to be at the expense of increasing the amplitude, with collapses getting bigger and bigger.
A sudden failure, of, say, the funding of US Treasury bills, seems to me increasingly possible, and the fact that there are numerous other catastrophic financial events possible, which might suddenly fail dragging down the whole house of cards does not give me great grounds for optimism.
I will count us lucky if we make it to Nov 4th without an attack on Iran.

The one thing we do not have to worry about is a failure in the funding of T-bills. The Fed is ready, willing, and able to buy up any amount of new Treasury debt that the government wants to sell. The Fed is the lender of last resort, and it has bottomless pockets to buy up any quantity of new U.S. Treasury debt.

Also there is no need to worry about a U.S. attack on Iran before Nov. 4, because the U.S. does not have the military forces in place (including Navy carriers) to make an attack on Iran any time soon.

On the other hand, there are plenty of other things to worry about.
Peak Oil is the great grandmother of all crises.

Much of the money supporting US expenditures comes from China and Japan, if the Feed were the only one buying at an auction for T bills I would have thought that the game would be pretty well up.

What you are telling me about forces in place for an attack on Iran is reassuring, as I had understood that substantial forces had been moved there, and recently bunker-busters had been released to the Israelis.

Couldn't just Israel fire a few of its nukes at surgically selected sites in Iran, without need for build-up?

Good point. I guess the argument is that if the dollars are inflated enough, it will mask the lack of underlying resources.

Hi Gail,

You wrote, "It seems like at some point, a lot of this debt just has to go away."

Yup I reckon so too, because ultimately there is no other place for it to go.

But I think that in the meantime every other alternative destination will be tried first, and in the end it will of course land upon the powerless because they are, by definition, lacking the power to dump it upon anyone less powerful than themselves.

I've spent pretty much all my life trying to dodge that particular bullet, and it has taken me to some pretty strange places (jungle to arctic, Metropolis to Podunk, society to backwoods). Now that I'm old it doesn't seem quite so important as it used to, but when the subject is raised I still like to jump in and have a say.

For example, when political leaders explain something it is is almost never the truth and only occasionally a bald faced falsehood. More often it is an oversimplification that stops well short of some truth that you really do need to know. The intent is that you will make an erroneous judgment that serves their interests instead of yours.

How many times recently have we seen the term "root cause" tossed around? Usually as justification for a "solution" that some huckster working the rubes (Paulson for example) is telling us will address and resolve the 'root cause' of the crisis. Only it's obviously not the root cause and the "solution" is so weird and crazy that you would have to be in a submissive trance to do anything other than laugh out loud.

The debt problem will not be resolved because it is not possible to resolve a lie without stating it... and among the monied classes NO ONE is willing (or perhaps even able) to publicly admit to the lie that is the true 'root cause' of the global financial crisis.

The lie is that there is anything legitimate about PROFIT.

Profit is theft. There's no need to obfuscate the fact, and it rather ticks me off when people try. It only muddles up everyone's thinking.

Life itself is fueled by theft, but only humans side-step that brutally simple truth with towering rationalizations and philosophic flim flam. Other life forms simply take the lives or energy of their prey and that's that. Then they die and give it all back. But not us. We gotta explain how it is all okay.

Ah, but we like to think of ourselves as enlightened and civilized, not as a hoard of ravaging pillagers. Well, okay, I like that, so when do we stop stealing and get civilized?

The hundreds of trillions of dollars of funny-money debt is just a bunch of accumulated theft, and the thieves aren't all Wall Street fat cats. Responsibility goes way down the food chain, way WAY down. All the way to thee and me and few billion others.

Everyone who has taken or accepted more than what their work was actually and literally worth... has stolen. That the victims were strangers, or years and miles away does not withstand.

So the dough's been stole and now someone's gotta pay. Personally, I think we should all just take our lumps, but that's not the way it's gonna go down. Some of us are going to take the hit harder than others, and all of this jockying around is just the effort to make the consequences land on someone farther down the food chain than ourselves.

In the end it will land, as usual, mainly on the working poor. Our leaders will literally or figuratively use force to tell 'em "Your money or your life! ... or, come to think of it, BOTH!"

The way I see it, the privileges conferred by the agreements that constitute the debt are deemed more important than the lives of the less powerfrul. Some of those intended victims will decide to be predators rather than prey. There will certainly be violence. If there are enough of them then there will be a revolution. If there is a revolution then the victor's first action will be to tilt the playing field in their own favor and begin the game anew.

That's life. But thankfully only a part of it.

those who are able are obliged to prey on those who are unable to prevent it.

those who choose to be neither prey nor predator will be cast out.

Hi Flickervertigo,

Yup, that's pretty much it, and since we are doomed by our nature to be earth's dominant predator it behooves us to cut a narrower swath than what we are actually capable of. Looking around the planet at this time it seems we are about to eat ourselves out of house and home.

That 'narrower swath' of predation, by the way, also applies to our fellow humans. Just because we are able to play rough and take other people's stuff so as to live in pampered luxury does not mean that it's in our own best interests to do so.

D-Benton-etc, there's some serious errors in your otherwise sensible post.

Profit is theft.

That's an outrageous insult to the many people who make their meagre profit by conscientiously providing some service or other at oppressively low rates.
And quite how do you get your money yourself?

in the end it will of course land upon the powerless because they are, by definition, lacking the power to dump it upon anyone less powerful than themselves.

Not in the remotest "of course". There are many people who would fail to dump the misfortune on others simply because they are honourable people (by which I don't mean "honourable" judges etc).

Hi Robin,

I should have elaborated what I meant by 'profit' but skipped it for the sake of brevity. I think we are alluding to different definitions of the word. I assume you primarily meant definition #1, below, and I was speaking of definition #5.

from Webster's:

Profit (noun)
1: a valuable return : gain
2: the excess of returns over expenditure in a transaction or series of transactions ; especially : the excess of the selling price of goods over their cost
3: net income usually for a given period of time
4: the ratio of profit for a given year to the amount of capital invested or to the value of sales
5: the compensation accruing to entrepreneurs for the assumption of risk in business enterprise as distinguished from wages or rent

By profit I do not mean the gain that derives from fair wage or equitable exchange. Certainly the workman is worthy of his hire, and loaned value or investment requires repayment.

By profit I mean the return, on any investment (be it cash, labor, or other) which exceeds the fair and equitable real value of what the investment actually produced. I buy a house and 10 years later I sell it for twice what I paid. Tidy profit. I added nothing to the house. It was just older, 10 years closer to being worth nothing at all. I buy a share of stock, it goes up by half and I sell it. Nice profit; but what did I add to the value of anything thereby?

At it's most basic, profit is the taking of more than was given. If I cut a tree and don't plant and nurture it's replacement (and also tidy up the environmental mess I made) then the tree was a freebie, pure profit, and the first step on the road to perdition.

A strong argument can be raised in support of the idea of paying interest on loaned value, and an equally strong argument on behalf of the evils of usury. Fair interest is good. Undue interest is PROFIT, and usurious. Finding the balance point deserves extremely careful determination because it has life & death consequences for enormous numbers of people.

Our culture teaches and rewards the belief that profit is good. I am personally certain that it is not. Profit simply amasses greater and greater inequity of exchange until it topples... usually in violent and destructive revolution. That is the most salient and consistent lesson of history.

As to your point that "There are many people who would fail to dump the misfortune on others simply because they are honorable people," I would only say that yes there are certainly many such honorable people. You are one such. So am I. And there are millions or billions of others.

Unfortunately we are greatly outnumbered in the halls of power. So, I'll stick to my prediction that the burden of paying the bill will be laid upon the backs of the working poor. I'll even go that one better and predict that the primary means of laying the burden will be the one currently in vogue: inflation. Real inflation (the rising price of necessities) will outpace wage increases by several percentage points... and that should do the trick quite nicely for so long as wage earners tolerate it.

Now on to the remaining point, you asked me "And quite how do you get your money yourself?"

I reckon you were a little annoyed with me, which would explain the snide tone, and so I'll simply forgive it because, hey, who of us hasn't cracked a bit snide when we think the other guy deserves it?

I'll make you a deal. It's a fair question so I'll answer it on one condition:

That you not think I'm "having a go at you" in any way. If you might think I'm that much of a jerk then it's probably best if you stop reading right here and just let it go.

11-12 years old: professional gill-net fisherman (with father and brothers), Anaklik island, Colville river delta, Alaska (just west of Prudhoe Bay) .
13-14 years old: field hand (Illinois), jig-saw operator (sign maker for IGA grocery stores, Illinois)
15-17 years old: greenskeeper, Lakeview Country Club, Paxton,Illinois
18-19 years old: student, Southern Illinois University, College of Fine Arts, President's Scholar.
19-20 years old :survey rodman, overpasses and river bridges, Interstate 57, Illinois
21 years old: deck hand and helmsman, USNR, USS Great Sitkin, AE 17, (ammuninition freighter)
22 years old: farmer & builder, Coopertiva de Rio Grande, Bahia, Brasil
22-32 years old: my floundering years, largely a washout, but tried PR, industrial espionage, journalism, the ministry, fiction writing, and more. Thank god I lived through it.
32-36 years old: wilderness homesteading, Trinity County, California. Built house from scratch, by hand, solo.
36 years old: screen writer, Marvel Studios (cartoons)
37-40 years old: computer assisted art, animation and technical writing, for Grupo Mundo AV (Mexico) , Soft Wizard (Italy), and Aegis Development (US), helped produce the computerized audio-visuals for the 1986 World Cup in Mexico City
41-42 years old: Renovated two houses, by hand... solo. Running Springs, California. Contributing artist to computer game "Defender of the Crown" by Jim Sachs for Aegis Development
43-45 years old: Built another house by hand, northern California
46-51 years old: traveled a lot, worked various construction gigs and computer assisted art through my tiny proprietorship, Chrysographics. Renovated a couple more houses.
52 years old: co-produced the "30th Annual World Championship Great Arcata to Ferndale Kinetic Sculpture Race" with Hobart Brown. Created and published 4 magazines and a web site for the event.
54-60 years old: just lots more of the same, plus technical medical writing for quarterly Union County General Hospital magazine "Vital Signs" and volunteer work for the Herzstein Memorial Museum, New Mexico
At present I'm building one house while renovating another that was flooded by the Mississippi flood of '08 in Hamburg Illinois (got my mug in the Washington Post on that gig, slinging sandbags)
and working with engineer Steve Jantzen to help get funding for development of his revolutionary IsoThermal engine. I'll be posting more to TOD when on that topic in the near future.

That covers the high points so far. Haven't made a lot a money but sure have made a lot of things.

Unfortunately unlike the laws of man which can easily be broken, laws of nature such as the laws of thermodynamics can't be broken.

Sadly, like the rest of the creatures on the planet most people (especially decision makers) clearly haven't the faintest idea about the thermodynamics or exponential growth or fractional reserve banking etc - but as long as entropy in the universe increases the entropy in your particular part of the system can decrease - if you understand this stuff (and many reading TOD do) take advantage of the situation, knowledge is power!


Do different!

It's all good. We are getting back to a more sustainable way. It is tough, but necessary. And once again, it is Mr. Market that is sounding the clarion call.

Mr. Market?
What are you, six?
I guess you haven't noticed that Mr. Market is unconscious on the floor and doesn't even respond to the ammonia of $850 billion dollars and the traders are stampeding in the exits.
If this lesson doesn't teach you that markets are fatally flawed nothing will.

Welcome to Hard Times!

(Yeah, it's all good)

kind of scary, real estate not looking so bad (relatively).

You completely misunderstand, if you don't mind my saying so. Mr. Market is not unconscious on the floor. He is extremely awake, and deleveraging everything, right now. I am not a proponent of unfettered free market capitalism. This recent episode illustrates with absolute clarity that unfettered, Havard and Columbia trained MBA's and JD's (and I am pretty close by) can do extraordinary damage to the global enonomy, almost overnight, greatly exceeding the damage that mere politicians can manage. My point is that it is the market that woke up first. Total indebtedness, public and private, in 8/2007 was 300% of GDP. 300% percent! In 1929, it was a mere 250%! The most vulnerable, subprime credits went into the ditch, and the market, which is all of us, saw that, and woke up, and started this correction. And that is a good thing. Were Mr. Market not present, we would just redouble all of our debt and therefore set up an even grimmer scenario. Mr. Market is like the miner's canary - the first one to sound the alarm (in the canary's case, by dropping over dead in the coal mine due to CO poisioning, before people do, as canaries are much less tolerant of CO poisoning than people - when the canary drops over, it is time to get out of the mine!) Make no mistake, I hate Mr. Market. But when he speaks, I listen.

Your comments are silly.
What do you think markets are?

In mainstream economics, the concept of a market is any structure that allows buyers and sellers to exchange any type of goods, services and information.

People getting out the market isn't a 'market'. It's market failure. These declines are from forced sales.

If you chose to see these declines as Mr. Market, you should probably buy at the bottom, it's the opportunity of a lifetime! But I wouldn't risk it personally.

It's more like Mr. Market is comatose and the room is emptying of suspects before the cops arrive.

If you want to talk to Mr. Market, I'd guess it's liable to be a pretty one-sided conversation.

Majorian - I agree that Mr Market is DOA...

...And the Invisable Hand has rigor mortise its be dead so long. Perhaps mummified now that I think of it.

"People getting out the market isn't a 'market'. It's market failure. These declines are from forced sales."

Yes, that is right. Forced sales. That is when folks borrowed money to buy things that they really could never afford. They get sold out, and prices plummet. The real concern is whether it gets to a closed fedback loop, a deflationary spiral. Prices plummet, and production plummets because the prices are unable to sustain production. That is my worry. I hope it will not be so.

I am not sure of the wisdom of ideological battles in all but name. Everyone seems to be on the same page in terms of "what's happening" .

arguing about how to semantically stylize or characterize it as thou the characterization was the important thing is unproductive

How big a disaster would it take for you to say that markets are not functioning? Is there ANY? What, to you, would signify a failure of the market? The way you pose it, markets work by definition -- the concept itself apparently being "too big to fail".

There is (or rather I read) another reason for the dollar's rise: the huge mass of dollar denominated derivatives which are unwinding. I read this less than a hour ago, but I forget where! It was probably in one of Ilargi's http://theautomaticearth.blogspot.com/
links. As these unwind, the holders need to be in dollars one presumes.

That is a good point. There is a huge volume of these derivatives unwinding. This could act to raise the dollar as well.

There are clearly supply and demand issues as well, but the volatility in the financial markets is likely to hide what would be "normal" trends.

Agreed, the events associated with the current credit crisis are hiding the "normal" trends, including the oil price trend.

The last three charts below have been updated for the recent OPEC 1.5 mbd cuts and the IEA OMR Oct 2008.

The IEA continues to forecast increases in global oil demand by 0.4 mbd in 2008 from 2007 and another 0.7 mbd in 2009 from 2008. Non OECD demand is forecast to be strong enough to more than offset weakening OECD demand growth.

Just as the oil price probably went too high in July to over $140, the deleveraging of this credit crisis has been driving the oil price probably too low. Consequently, the oil price is forecast to rebound and exceed $110/barrel by the end of 2008. However, if there is a sudden fall in the USD index, the oil price could move much higher. The chart below shows the recent parabolic rise in the USD index from about 72 in July to about 87 now. As the rate of deleveraging slows, the USD index is likely to drop just as fast as it increased, placing upward pressure on the USD oil price.

USD Index to Oct 2008 source - http://quotes.ino.com/chart/?s=NYBOT_DX&v=dmax

Until there is clear evidence of a global decrease in oil demand, the long term oil price trend remains upward. However, continued price volatility is expected and many new oil projects could be delayed further due to credit constraints and uncertain investment returns. The 1.5 mbd OPEC cuts, effective November 1, might help to reduce some of this oil price volatility, ensuring that some new oil production is not delayed further. Unfortunately some important new production increases from Brazil may already have been delayed. Petrobras has postponed their business plan announcement from this month to the end of this year.

Supply, Demand and Price to 2012 - click to enlarge

If OPEC adheres to their recent cuts, this should ensure a significant fall from the crude and condensate production plateau which started in 2005. The recent estimated low production in September and October is not due to OPEC but instead due to production outages from the Gulf of Mexico and Azerbaijan. These outages should stop but will be offset by the OPEC cuts.

Crude and Condensate to 2012 - click to enlarge

The final chart has not changed significantly due to OPEC cuts. However, on an annualised basis, it appears likely that 2005 will become the peak year for crude and condensate production, including tar sands, at 73.74 mbd, according to the EIA. 2008 production is estimated to be 73.69 mbd. The important issue is that world crude oil and lease condensate production is likely to fall off the 74 mbd production plateau. 2009 production is forecast to be less than 73 mbd.

Crude and Condensate to 2100 - click to enlarge

thanks ace
what does your 3% depletion rate assume about new projects, higher cost existing projects that might now be below marginal cost?


The 3% decline rate in crude/condensate, starting about now, is an output of the forecasting model, based on aggregation of all oil producing countries.

If oil prices are considered too low for future new projects or high cost existing projects, then oil production will decline faster until the oil price increases back up to more favourable economic levels.

My forecast has not been adjusted for delays in higher cost projects including Canada tar sands or expensive offshore deepwater projects.

Brazil is a good example, since many of their projects are not only deepwater but also heavy oil. The scheduled projects from Petrobras as of June 2008 are shown in the chart below and also includes the recent discovery Tupi, in red outlined boxes.

Many of the projects scheduled for 2009 will probably go ahead as they are scheduled for early 2009 and much of capex would have been committed. However, those projects scheduled for 2010 and later could be delayed causing the 3% world production decline rate to be higher, say about 3.5%, starting in 2010.

Existing high cost projects such as Canada tar sands are already being delayed. Perhaps some current projects could have their production decreased, if oil prices remain depressed.

Many enhanced oil recovery workover projects could also be delayed. Many heavy oil projects require expensive steam injection. Other exising EOR projects include Cantarell which uses nitrogen injection.

My estimate is that these lower oil prices combined with credit constraints could cause the production decline rate to increase towards 4%/yr for the short term, before slowing back to 3%/yr. The future world production profile of crude/condensate from 2009 to 2012 might be similar to a mirror image of the crude/condensate production increase from 2002 to 2005.

Ace, why do you say 3% declines when IEA estimates global average declinerate to 5.2% - up from 4% last year?


Supply growth deriving from a concentration of new project start-ups during 2008-2010, allied to weaker economic growth, sees potential spare capacity rise in excess of 4 mb/d. However, this expansion slows from 2011 onwards when global demand growth recovers, leading to a narrowing of spare capacity to minimal levels by 2013. Since the 2007 MTOMR, significant downward revisions have been made to both non-OPEC supplies and OPEC capacity forecasts. Project delays averaging 12 months, coupled with global average decline of 5.2% - up from 4% last year – are the factors behind these revisions. Over 3.5 mb/d of new production will be needed each year just to hold global production steady. “Our findings highlight again the need for sustained, and indeed, increased investment both upstream and downstream -- to assure that the market is adequately supplied,” stated Mr. Tanaka. "



The IEA's global average decline rate of 5.2% relates to existing production only. My 3% decline number is an output of my forecasting model and takes into account existing underlying decline rates, offset by new oil supply addition. The IEA is usually optimistic and the decline rate is likely to be higher. Andrew Gould, CEO Schlumberger, said the following in 2005:

Secondly, the industry is dealing with a phenomenon that is exaggerated by the lack of investment over the past 18 years. This phenomenon is the decline rate for the older reservoirs that form the backbone of the world’s oil production, both in and out of OPEC. An accurate average decline rate is hard to estimate, but an overall figure of 8% is not an unreasonable assumption. The maintenance required to slow the rate of decline, and increase the overall recovery, is a key element of the supply picture going forward.

The IEA may be referring to conventional crude and condensate production only. If you divide the IEA's 3.5 mbd by 5.2%, you get 67 mbd, which is less than the EIA's 73 mbd 2007 crude/condensate production.

The Oil Megaprojects attempts to gather all new global supply additions.

For example, in 2009, the estimated global supply additions of crude, condensate, NGL, GTL and CTL are 4.96 mbd, shown in the chart below. If unconventional tar sands, NGL, GTL and CTL are excluded then the conventional crude/condensate project additions are 4.33 mbd.

If 10% loss occurs to project delays and another 10% due to actual production being under capacity then the adjusted conventional crude/condensate production additions for 2009 is 3.46 mbd, similar to the IEA number of 3.5 mbd. This implies that 2009 crude/condensate production would be, at best, about the same as 2008 at 74 mbd, using IEA's underlying decline rate of 5.2%/yr.

click to enlarge source - http://en.wikipedia.org/wiki/Oil_megaprojects

If Gould's average decline rate of 8%/yr is used instead, then 2009 production should be less than 74 mbd, about 72 mbd. Decline rates vary significantly by field. The IEA assigns a 0% decline rate to the 0.5 mbd Shaybah field in Saudi Arabia. In contrast, the IEA states the following about non OPEC decline rates for mature conventional crude/condensate fields, from the IEA OMR Mar 2008:

The results from 1999-2007 production data suggest aggregate non-OPEC decline of 7.7% pa, and that this has not accelerated markedly in the period under review.

The IEA's chart on page 23 shows that mature offshore field decline rates for North Sea, US offshore (Gulf of Mexico) and Australia exceed 15%/yr and states further that:

Our longer-term forecasts assume that the pace of deepwater decline accelerates, gaining rising importance for national/regional averages.

An extensive study of the impact of decline rates on longer-term oil and gas supply will also be included in the World Energy Outlook (WEO) for release in November 2008.

World Energy Outlook 2008, Nov 12, 2008

Prospects for oil and gas production: How much oil and gas exists and how much can be produced? Will investment be adequate? Through field-by-field analysis of production trends at 800 of the world’s largest oilfields, an assessment of the potential for finding and developing new reserves and a bottom-up analysis of upstream costs and investment, WEO-2008 takes a hard look at future global oil and gas supply.

The supply additions for 2009 are most likely inadequate to increase 2009 production above 2008, even before the credit crisis. Consequently, I am forecasting that 2009 crude/condensate production will be less than 73 mbd, maybe closer to 72 mbd, using Gould's 8% decline rate. This compares to estimated 2008 crude/condensate production of just under 74 mbd. Given that underlying decline rates are likely to accelerate and future annual supply additions are likely to decline, the peak crude/condensate year is highly likely to have been in the past in 2005.

Here's ace's projection plotted on a log scale using constant 2008 USD (5% forward inflation rate).

Fits kinda neatly.


Thanks for the updated graphs!

Do you think the deleveraging is going to slow, anytime in the foreseeable future, before investors run out of money? If one considers derivatives besides other investments, the amount outstanding would seem to be truly huge.


Deleveraging of credit and derivatives requires large amounts of US dollars for settlement. During this period of decreased gearing of financial institutions, often required by regulators, deleverage continues at a high rate.

Some deleveraging has caused some hedge funds to try to halt redemptions for up to 3 years.

My opinion is that key world central banks such the Fed, BoJ, BoE, China, and the ECB will do all that is possible to at least stabilise world debt and equity markets, in an attempt to slow the deleveraging process before Christmas. Libor/Euribor continue to show slow reduction, which is some good news.

Key world central banks are likely to cut interest rates again, which may help the financial system function, but at the expense of inflation of the money supply. The Fed is expected to cut interest rate by 0.5% this week.

If global currency and interest rates were introduced, then the size of currency based derivatives should reduce in size as there would be no need for new currency derivatives since there would only be one currency.

As Paul Volcker, former Fed Chair, said "A global economy requires a global currency."

There already is a global currency used by the IMF and the Bank of International Settlements, called the SDR (Special Drawing Rights), complete with an SDR interest rate and initially was backed by gold.

Syria is a step ahead of the rest of the world and has already pegged their pound to the SDR in October 2007.

The Syrian pound has been pegged to a basket of currencies based on the IMF's special drawing rights (SDR) since October 2007, resulting in a marked appreciation against the US dollar. Although the new regime is less rigid than the previous peg to the dollar, the authorities are unlikely to let it float freely, placing a high priority on exchange-rate stability. The dominant position of the state-owned banks and the Central Bank's control over foreign-currency transactions (even as some laws are relaxed) mean that the regime is well placed do this. The dollar has recovered slightly from its lowest point against the pound (SP45.8:US$1), but we do not expect any substantive change over the next year, and the 2009 average is forecast to be SP46.7:US$1.

The credit default swap derivatives, notional value of about $60 trillion, could be monetised by the world's central banks. If the likelihood of default on this $60 trillion of credit is about 10% then the world's central banks could print $6 trillion of fiat currency to buy these credit default swaps. This will hugely inflate the money supply but should save the world's financial system.

Some leveraged investors are already running out of money as their investments lose value, but central banks will continue printing money.

There are two directions currencies can go--more global or more local.

If the world can pull it off, I am sure global is the way to go.

What may happen is an attempt at global, that lasts for a time, and then falls apart as peak oil and peak resources become more of a problem. Or debt defaults could become such a problem that a global currency never works.

If the world can pull it off, I am sure global is the way to go.

Gail, can you clarify why you think that would be the way to go? I agree that it's likely an attempt (or an attempt at an attempt) will happen and the outcome will probably be as you suggest. But it's certainly not something that strikes me as a good idea. It seems to me the flow of money is entirely too easy.

A single currency masks huge disparaties in value, emergy and technology. Though I suspect exchange rates can do the same thing, there is no opportunity to frig with exchange rates under a single currency. One currency seems like building in rigidity poorly suited to different resource bases and levels of technology.

cfm in Gray, ME

Maybe what I should say is, "If you are trying to prop all countries' economies up simultaneously, a global currency is the way to go." It is hard to see how it could succeed. We are seeing how the disparities among countries is affecting the Euro. Worldwide, it would be even worse.

It seems like a global currency will be attempted. Ultimately, it seems like countries will need to trend more toward their own separate ways, as the certainty of getting debt repaid reduces, and as total resources become lower.

There has been a lot of babble on goldbug sites about the lack of silver and gold in the market in spite of lower prices. I'm wondering if we might start seeing the same thing going on with other commodities like oil; that is, gasoline might be only $2/gal but unfortunately, there wouldn't be any to be found. A real market disconnect seems to be happening here.

I know the WSJ article has an article titled Refiners Look to Reduce Production as Falling Gas Prices Cut Into Profits. I don't know of any actual evidence of shortages at this point though.

One place I do know of shortages is in Western Canada. We keep reading about refineries in the area being closed for maintenance (planned or unplanned), and as a result diesel being in very short supply, and gasoline in short supply to a lesser extent.


Does anyone have first-hand knowledge of what is happening? Is it just happenstance that three refineries are off-line at the same time, or can't they get oil supplies for some reason?

From the articles, sounds a lot like shortage of crude supplies. In Alberta? Hmmm... Perhaps simply the refiners unwilling to sell the crude they purchased high two months ago into a falling retail / wholesale fuel market. Maybe they spotted the drop in crude prices early and sold off everything they had into a foreign market, leaving them short now? Just wild guessing.

Interesting chart! Rotary drill rigs just keep increasing. Perhaps the credit crisis will cause number of drill rigs to decrease which could decrease oil production.

The high negative correlation between the USD index and the price of oil since July 2008 is interesting. It's almost as if everything that has value is being sold to deleverage and pay down USD debt, including oil positions.

source http://stockcharts.com/charts/performance/perf.html?$USD,$WTIC

my suspicious mind thinks that the whole project is deliberate: the housing bubble was deliberately pumped up, the resulting "securities" were bundled and peddled globally to poison the global economy... resulting in this "strong" dollar, which can be used to buy "hegemony".

the project makes a lot of sense in some ways: we have to reduce oil consumption in an attempt to arrest global warming, because we are not going to have enough energy left to move the cities.

we have to use remaining oil to figure out new ways to produce other sources of energy and build the necessary infrastructure.

but it looks to me like we should have started this project decades ago, with the truth instead of layers and layers of lies... lies that so far have killed maybe a million people.

worse, if this financial ploy doesnt work, there's the neocons' "nuclear primacy" solution... and i wonder how desperate, and how sane, those people are... will the last resort be a global samson option?

so i guess we should be thankful that we havent yet nuked russia and china.


i spose there's one other possibility: everybody saw peak oil coming, and this financial crisis is the best way to loot the system before it collapses.

...and maybe the most likely explanation for the situation is, (e) all the above: different people have different levels of awareness, and differing motives and tactics that are converging right now...

about that graph: the accuracy until 2007 is shaky, given that i traced commonly available graphs, and fitted them onto the basic time scale. for the last few months, i've been plotting the data points by hand, so they're accurate.

adobe illustrator has a data import function, and if i learn how to use it, maybe i can come up with a graph that is accurate and precise.

until then, that graph above is good enough to see what's going on.

That's a beautiful chart, flickervertigo! Is it your work? I think Tufte would approve of the information density, and the visual effect is soft, clear and clean. I see you've only been a member here for a little over 3 days, so welcome. If you can produce that kind of presentation quality, I look forward to your future contributions!


This unwind is affecting both the US dollar and the Japanese Yen. The effect is to increase the value of these currencies that are being unwound relative to other currencies.

Bewildered. Sorry if you have already covered this in another post but please explain why both the JPY and the USD are getting stronger.
The USD was the main counter-currency to the JPY in the carry trade market.
I know history shows it to be true, April 1995 being a golden example:
19th April 1995
JPY/USD 81.8797
JPY/GBP 132.395
USD/GPB 1.6179
USD/EUR 1.3082
But it defies normal logic.
I just read http://www.moneyweek.com/investments/what-is-the-carry-trade.aspx from Aug 2007 which mentions other high-yielding currencies, but isn't/wasn't the JPY - USD the largest carry trade?
Please humour this financial ignoramus.


The exchange rate for the Yen to Dollar has fallen from 107.9 on Sept 15 to 94.4 today. That's what you expect from the sale of dollar denominated assets sold to repay yen loans. The fact that many other currencies have fallen further and faster against the yen just indicates that the carry trade was not confined to the USD-Yen world and that the Yen was not the only source for loans. Consider that markets for the Loonie, Aussie, Kiwi, etc are much smaller, so even a lower absolute level of trade can have a bigger impact. Size matters. Euro, Yen, and USD are big.

Paul in Nevada (mining gold, the real money)

Thanks Paul,

That's what you expect ...

Japanese stocks at 26 year low / Yen at 13 year high (vs. USD)
Also to be expected according to 'FX Trading for Dummies'.
Just a game?
Oh well, as Basil would say, "Back to the land of dreams"

Oil: Where Next?

Legendary energy expert Charles Maxwell evaluates the current level of oil prices, previews the upcoming OPEC meeting, and shares his outlook for oil prices.

Released: 10/21/2008

Break Even for Oil Producers

Saudi Arabia $55
Russia $70
Most of OPEC $70-90
Iranians and Venezuela $90

My comments: why would any oil producer sell oil below average production cost? Assuming average production cost includes production costs for older already developed easy to access oil as well as production cost for new hard to find, difficult to access and utilising new expesive capital intensive technology it is then fair to assume the marginal cost for all new production in fact is way higher that the above mendioned average production cost.

Fair question to ask the would be - why would any oil producer sell it's oil below the marginal cost for added new production? Assuming marginal production cost for new oil is significantely higher then average production cost then certainly a much higher price then average production cost will be needed in order to incentivice further development of new production capacity.


"Charles Maxwell, a well-respected senior analyst at Connecticut-based brokerage Weeden & Co., suggests that the result of all this will be that “a new world economy will arrive in three waves” over the next 25 years.

Wave one of this process was the run-up to US$140. Maxwell earlier this decade called for oil to hit US$60 a barrel. Speculators took it way past that, obviously.

But wave No. 2, which Maxwell originally predicted would take oil above US$100 for the first time, will arrive when non-OPEC production peaks, sometime before 2012 (a bit before van der Veer’s prediction that the OECD will peak in 2015).

During this period, the world will be extremely reliant on the oil output of just five or six countries: Iraq, Iran, Saudi Arabia, Kuwait, the United Arab Emirates and possibly Venezuela. But even the mighty OPEC will peak some day.

This third wave, which Maxwell expects by 2020, will result in a final surge in oil prices. Global production will go into gradual, permanent, long-term decline, bringing the hydrocarbon era to a close. According to Maxwell, governments will have to address the issue of replacing oil, and energy in general, and that will “become the principal economic and political preoccupation of the rest of the century.”

Maxwell puts oilsands operators at the top of what he calls his peak-oil portfolio: a list of stocks he says will do well in the years ahead as oil depletion begins to outpace new supply. “Any company that has 30 years of oil on the books, as these companies do, is set to do well in the new world ahead,” says Maxwell. It’s an idea that may be going more mainstream.

Warren Buffett and Bill Gates were recently given a tour of the oilsands by Murray Edwards, vice-chairman of the board of Canadian Natural Resources Ltd., and it’s speculated that they were doing due diligence on Maxwell’s idea."

My comment - it's interesting to use Maxwell's logic on reality only to realise that the very aggressive run on the oil price up to $145 in fact correlates 100% with the fact Russia reached it's prouction peak and started to export less oil. Russia earlier provided some 80% of all non OPEC oil production increases and now Russias exports have declined with some 10%.

Charles Maxwell is known as the “Dean of Energy Analysts,” following decades working on Wall Street and for Mobil Corp. before the XOM deal. As global oil consumption rises and oil production peaks and ebbs, prices will shoot higher — a lot higher, says Maxwell, senior energy analyst at Weeden & Co. in Greenwich, Conn.

Maxwell forecasts $180 oil by 2015, and $300 a barrel by 2020. And at those prices, could rationing be far off in the future? Plus, check in with Tech Ticker later to get Maxwell’s take on smart oil investing plays as oil reaches the bottom of the barrel.

Non OPEC peak 2010
Big listed oil companys peak 2011-2012
Global Oil Peak 2015


I think this whole thing has gotten much more interesting. Diesel is, now, 45% more than gasoline in my area. The spread seems to be widening, rapidly.

Now what?

Interesting speculation but one weakness: the assumption that operators will not sell oil below its development cost. During my 33 years as a petroleum geologist I've seen oil/NG sold below development costs many times. I've never seen an operator use the development cost as a factor in the pricing decision. Many, if not the majority, of operators rely upon cash flow to fund current operations. Regardless of what an operator spent to develop a particular well he'll balance the market forces against his need for cash flow. Oil pricing has always been cyclic with price forecasting years into the future always a risky factor.

It's also good to remember that not all successful development plans produce as planned. An operator might have anticipated a development cost for a project at, for instance, $50/bbl. But as a result of finding less oil than targeted or cost over runs (or both) the actual development costs might be twice the anticipated.

With the current credit crisis operators will be faced with utilizing every bit of cash flow to maintain planned operations. (A side story to this bit of reality: I heard a report that Chesapeake drew down $1.2 billion of its credit line shortly after the bad PR of its CEO having his stock called on his margin account. Pure speculation on my part but I suspect it was done on the possibility that their credit line would be reduced.) Each operator has production with a wide of development costs...a few dollars per bbl or $100+/bbl. Few operators will look at individual development costs to decide if they'll produce or shut-in (or choke back) a producing well. In reality, most producing wells, excluding the most recent, have long ago recovered their development costs. A few operators might hold back and wait for higher prices. But that would be done because they can afford to…not because of original development costs. But many, like Mexico, need every $ their production can generate today. Given the $100's of billions of $'s many OPEC countries have borrowed for project development there is a limit to how little revenue they must generate today. This fact makes the recent OPEC decision to reduce production an interesting game of chicken: will oil prices rise fast enough to pay off the gamble of lower production rates? Will some members cheat?

talk about FUBAR.

would you agree a simplified picture of where we are at is the development side risky long term costing (guess) is a poor analog of the market spot price created by supply and demand forces on a very much shorter time scale?


If I understand your question correctly....yes, I agree. Just talking about the E&P side of the oil patch, we don't worry about the price of oil today or tomorrow. Virtually everyone runs their economic analysis based upon the yearly average price of oil. Most price forecast I've seen the last few months used $70-80/bbl for the first 12 months of the project and then actually dropped prices around 10% for years 2 and 3. Then there was a slight escalation for years farther out. I suspect most running economics this last quarter will use around $50+/bbl. This will certainly delay or kill a number of projects already on the board (although I think the tighter credit market will have an even bigger affect on future budgets). Average yearly oil price for 2008 was well above that of 2007 and certainly more than anyone used in their pricing forecast of 2 or 3 years ago.

Now the bean counters and the biz development guys are probably having some sleepless nights. They have to figure out how to manage somewhat wounded budget plans. And the hedging departments and future players have probably already lost complete bladder control. But on our operations side of the fence life still looks good. Some of us actually welcome a little slow down. Capital costs were really getting out of hand as well as equipment/manpower being pushed to their limits.

big oil reserves to be had cheap. where ? wall street and especially bay street.

This and the comments to it are intersting, but I find a fundamental flaw in many of them. I did not see the word "Panic" mentioned. In my opinion much of what is happening in commodities and markets is due to people acting from panic.

The people near retirement selling out of equities and going into CDs, Corporate officials announcing layoffs in anticipation of sales declines, and government officials throwing money around are all acting from panic. You can probably easily think of more examples.

Many of the comments give logical reasons for the market's actions but in a situation like the present panic often trumps logic. Oil prices are a good example: Prices under $60 per barrel is certainly cheaper than at least some marginal producers. Logically it is clear that short of the end of the world oil prices will have to be high enough to allow us to produce that oil. If we can not produce that oil more of our economies will be shut down.

Cheap oil is quite logical if it is felt that the economy will go down the pan at a greater rate than oil production will decline at those low prices.
Gordon Brown this morning was addressing the issue of world economic output doubling in 25 years!
It is a good job he is always prepared!


I suppose he more comfortable predicting global growth then British growth. Last detailed analysis I saw of their energy infrastructure system even $40 won't save them. It seemed that coal is all that could save them in the next 10 years(which would require breaking treaties with the EU).

There was a program on Radio 4 about the British Energy predicament yesterday.
Essentially what has been set up is a system where the suppliers have no advantage from creating more supplies or building storage for security of supply, as they make out like bandits if prices rise as no effective price controls are in place.
This is a very efficient system, as it means that those without money, who already pay a premium by using key meters as opposed to direct debits, will simply be unable to afford heat, thus reducing demand.
Don't even think about reducing demand, as that will put you into a higher band, paying more per therm than big users.
The margin of capacity is now around 800MW, so if one station goes off-line then there will be power cuts.

Still, loans are always obtainable from Friends Provident, at a rate of only 235%, so if you purchase some goods there perhaps the money that they have left off will stave off hypothermia in some pensioners until the spring.

An excellent related read on the outlook & relationship of various currencies, & some pretty stunning tables: The world isn't flat, it's flattened

Thanks, Chris. That is a mighty cheery article with which to send me off to dreamland!


why does asia times' resident neocon mouthpiece want war with iran so bad?

1680 x 1050

israel has all these gradiose plans for central asian oil, shipped 5 or 6 times farther than necessary (assuming it's headed for india), through a non-existent trans caspian pipeline, through the BTC and turkey, then through a non-existent pipeline from turkey to israel... and finally piped through israel and tankered then to india and points east, thus enabling israel to make a living from transit revenues, and further enabling israel to achieve its "benevolent global hegemony" through control of oil.

...and in addition, israel will have to start a war with iran ---thus practically ensuring the closure of hormuz--- which will cripple export of maybe 20% of the world's oil supply, but will stimulate pipeline construction west, towards israel and europe ---and pipelines to israel is what it's all about.

this scheme will be sold to europeans in the name of "energy security", not to mention "cheaper oil" ---seeing as how the trip around africa to europe will be eliminated.

...all of which goes a long way towards explaining what all the commotion in sudan and somalia is about... securing the red sea tanker route.

i spose, in the best of all neocon worlds, the radical fall of oil prices can be seen as "just what the doctor ordered" in preparation for closing hormuz.