Soaring oil prices are the real problem

IT has gone virtually unnoticed that rising oil prices and a weak dollar have been running in tandem for some time.

Some economists attribute the dollar weakness to the serious deficits in the US. Others blame the decision by the Federal Reserve not to underpin the currency due to the need for the biggest economy in the world to stop living beyond its means.

Last year, the US spent more than $600 billion than it earned. If that’s not living beyond your means then I don’t know what it takes to justify such a claim. It was made recently by Kenneth Rogoff, professor of public policy at Harvard University.

In a recent article for Newsweek, Rogoff questioned the view that a devaluation of the Chinese yuan would ease the woes of the US and restore some balance to its massive trade deficit.

He said Chinese consumers can buy a wide range of goods for 20% of the cost of similar products in the US.

On that basis, a significant yuan devaluation will still leave imported goods form China looking very cheap to the US purchaser.

Experience of international trading patterns shows a 20% dollar decline across the board would only eliminate one-third of the huge trade deficit in the US.

The glory days of manufacturing in Germany or high-tech silicon-chip makers in the US will not be restored by rejigging currency exchange rates in the dollar’s favour, Rogoff said.

Most analysts accept that low costs, which are the engine of competitive advantage in a price-obsessed world, cannot be made up by a weaker exchange rate.

China is a huge concern for all economies, with over 150 million employable people without jobs.

The ramifications of that figure for cheap labour costs for decades to come are stark and underlie the view that China is looking increasingly like the economy of the future.

Only 20% of the typical product imported into the US from China represents Chinese added value. Much of the costs involved are being added in the markets when the goods are consumed which is an added worry.

So devaluation of the yuan as advocated by many international trade experts is ignoring the bigger picture facing the global economy.

Oil prices look set to harden at $50 per barrel or more. That’s what the future market oil prices are saying right now and why?

Oil major Royal Dutch/Shell replaced less than half the oil it pumped last year with new finds, according to final reserves data published on Thursday.

Shell said its proved reserves stood at 11.9 billion barrels of oil equivalent at the end of 2004, equal to less than nine years’ production at average 2004 rates.

In nine years, unless further discoveries are made, Royal Dutch Shell will run out of oil. That is the single biggest issue facing the global economy in the years ahead. Less oil is being discovered while more oil is being consumed.

Ignore the palaver that we always bounce back and find new solutions to our energy problems. Even if we find new solutions the implications for oil prices going forward are huge.

It doesn’t matter that oil would have to hit $90 a barrel to take us back to where we were in 1980, when it reached all-time record highs.

Oil is running out and the demand for it is increasing. As China and the rest of the world demands more energy, competition to buy the black gold, as it was once affectionately called, will intensify.

Consider the following figures issued during the week by Goldman Sachs. It said resilient demand had caused it to revise up its super-spike range to $50-$105 per barrel up from $50-$80 per barrel previously.

Goldman Sachs believes oil prices are continuing to harden and that buying at $55 per barrel forward offers huge potential gains to investors.

The implications for economic growth and the cost of motoring will be massive in a few years. Energy/oil and output are inextricably linked. That penny appears not to have dropped just yet.

Happy motoring.