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How The Petrodollar Quietly Died, And Nobody Noticed
Two years ago, in hushed tones at first, then ever louder, the financial world began discussing that which shall never be discussed in polite company - the end of the system that according to many has framed and facilitated the US Dollar's reserve currency status: the Petrodollar, or the world in which oil export countries would recycle the dollars they received in exchange for their oil exports, by purchasing more USD-denominated assets, boosting the financial strength of the reserve currency, leading to even higher asset prices and even more USD-denominated purchases, and so forth, in a virtuous (especially if one held US-denominated assets and printed US currency) loop.
The main thrust for this shift away from the USD, if primarily in the non-mainstream media, was that with Russia and China, as well as the rest of the BRIC nations, increasingly seeking to distance themselves from the US-led, "developed world" status quo spearheaded by the IMF, global trade would increasingly take place through bilateral arrangements which bypass the (Petro)dollar entirely. And sure enough, this has certainly been taking place, as first Russia and China, together with Iran, and ever more developing nations, have transacted among each other, bypassing the USD entirely, instead engaging in bilateral trade arrangements, leading to, among other thing, such discussions as, in today's FT, why China's Renminbi offshore market has gone from nothing to billions in a short space of time.
And yet, few would have believed that the Petrodollar did indeed quietly die, although ironically, without much input from either Russia or China, and paradoxically, mostly as a result of the actions of none other than the Fed itself, with its strong dollar policy, and to a lesser extent Saudi Arabia too, which by glutting the world with crude, first intended to crush Putin, and subsequently, to take out the US crude cost-curve, may have Plaxico'ed both itself, and its closest Petrodollar trading partner, the US of A.
As Reuters reports, for the first time in almost two decades, energy-exporting countries are set to pull their "petrodollars" out of world markets this year, citing a study by BNP Paribas (more details below). Basically, the Petrodollar, long serving as the US leverage to encourage and facilitate USD recycling, and a steady reinvestment in US-denominated assets by the Oil exporting nations, and thus a means to steadily increase the nominal price of all USD-priced assets, just drove itself into irrelevance.
A consequence of this year's dramatic drop in oil prices, the shift is likely to cause global market liquidity to fall, the study showed.
This decline follows years of windfalls for oil exporters such as Russia, Angola, Saudi Arabia and Nigeria. Much of that money found its way into financial markets, helping to boost asset prices and keep the cost of borrowing down, through so-called petrodollar recycling.
But no more: "this year the oil producers will effectively import capital amounting to $7.6 billion. By comparison, they exported $60 billion in 2013 and $248 billion in 2012, according to the following graphic based on BNP Paribas calculations."
In short, the Petrodollar may not have died per se, at least not yet since the USD is still holding on to the reserve currency title if only for just a little longer, but it has managed to price itself into irrelevance, which from a USD-recycling standpoint, is essentially the same thing.
According to BNP, Petrodollar recycling peaked at $511 billion in 2006, or just about the time crude prices were preparing to go to $200, per Goldman Sachs. It is also the time when capital markets hit all time highs, only without the artificial crutches of every single central bank propping up the S&P ponzi house of cards on a daily basis. What happened after is known to all...
"At its peak, about $500 billion a year was being recycled back into financial markets. This will be the first year in a long time that energy exporters will be sucking capital out," said David Spegel, global head of emerging market sovereign and corporate Research at BNP.
Spegel acknowledged that the net withdrawal was small. But he added: "What is interesting is they are draining rather than providing capital that is moving global liquidity. If oil prices fall further in coming years, energy producers will need more capital even if just to repay bonds."
In other words, oil exporters are now pulling liquidity out of financial markets rather than putting money in. That could result in higher borrowing costs for governments, companies, and ultimately, consumers as money becomes scarcer.
Which is hardly great news: because in a world in which central banks are actively soaking up high-quality collateral, at a pace that is unprecedented in history, and led to the world's allegedly most liquid bond market to suffer a 10-sigma move on October 15, the last thing the market needs is even less liquidity, and even sharper moves on ever less volume, until finally the next big sell order crushes the entire market or at least force the [NYSE|Nasdaq|BATS|Sigma X] to shut down indefinitely until further notice.
So what happens next, now that the primary USD-recycling mechanism of the past 2 decades is no longer applicable? Well, nothing good.
Here are the highlights of David Spegel's note Energy price shock scenarios: Impact on EM ratings, funding gaps, debt, inflation and fiscal risks.
Whatever the reason, whether a function of supply, demand or political risks, oil prices plummeted in Q3 2014 and remain volatile. Theories related to the price plunge vary widely: some argue it is an additional means for Western allies in the Middle East to punish Russia. Others state it is the result of a price war between Opec and new shale oil producers. In the end, it may just reflect the traditional inverted relationship between the international value of the dollar and the price of hard-currency-based commodities (Figure 6). In any event, the impact of the energy price drop will be wide-ranging (if sustained) and will have implications for debt service costs, inflation, fiscal accounts and GDP growth.
Have you noticed a reduction of financial markets liquidity?
Outside from the domestic economic impact within EMs due to the downward oil price shock, we believe that the implications for financial market liquidity via the reduced recycling of petrodollars should not be underestimated. Because energy exporters do not fully invest their export receipts and effectively ‘save’ a considerable portion of their income, these surplus funds find their way back into bank deposits (fuelling the loan market) as well as into financial markets and other assets. This capital has helped fund debt among importers, helping to boost overall growth as well as other financial markets liquidity conditions.
Last year, capital flows from energy exporting countries (see list in Figure 12) amounted to USD812bn (Figure 3), with USD109bn taking the form of financial portfolio capital and USD177bn in the form of direct equity investment and USD527bn of other capital over half of which we estimate made its way into bank deposits (ie and therefore mostly into loan markets).
The recycling of petro-dollars has benefited financial markets liquidity conditions. However, this year, we expect that incremental liquidity typically provided by such recycled flows will be markedly reduced, estimating that direct and other capital outflows from energy exporters will have declined by USD253bn YoY. Of course, these economies also receive inward capital, so on a net basis, the additional capital provided externally is much lower. This year, we expect that net capital flows will be negative for EM, representing the first net inflow of capital (USD8bn) for the first time in eighteen years. This compares with USD60bn last year, which itself was down from USD248bn in 2012. At its peak, recycled EM petro dollars amounted to USD511bn back in 2006. The declines seen since 2006 not only reflect the changed global environment, but also the propensity of underlying exporters to begin investing the money domestically rather than save. The implications for financial markets liquidity - not to mention related downward pressure on US Treasury yields – is negative.
* * *
Even scarcer liquidity in US Capital markets aside, this is how BNP sees the inflation and growth for energy exporters:
Household consumption benefits: While we recognise that the relationship is not entirely linear, we use inflation basket weights for ‘transportation’ and ‘household & utilities’ (shown in the ‘Economic components’ section of Figure 27) as a means to address the differing demand elasticities prevalent across countries. These act as our proxy for consumption the consumption basket in order to determine the economic benefit that would result as lower energy prices improve household disposable income. This is weighted by the level of domestic consumption relative to the economy, which we also show in the ‘Economic components’ section of Figure 27.
Reduced industrial production costs: Outside the energy industry, manufacturers will benefit from falling operating costs. Agriculture will not benefit as much and services will benefit even less.
Trade gains and losses: Lost trade as a result of lower demand from oil-producing trade partners will impact both growth and the current account balance. On the other hand, better consumption from many energy-importing trade partners will provide some offset. The percentage of each country’s exports to energy producing partners represents relative to its total exports is used to determine potential lost growth and CAR due to lower demand from trade partners.
Domestic FX moves are beyond the scope of our analysis. These will be tied to the level of openness of the economy and the impact of changed demand conditions among trade partners as well as dollar effects. Neither do we address non-oil related political risks (eg sanctions) or any fiscal or monetary policy responses to oil shocks.
GDP growth
The least impacted oil producing country, from a GDP perspective, is Brazil followed by Mexico, Argentina, Tunisia and Trinidad & Tobago. The impact on fiscal accounts also appears lower for these than most other EMs.
Remarkably, the impact of lower oil for Russia’s economic growth is not as severe as might be expected. Sustained oil at USD80/bbl would see growth slow by 1.8pp to 0.6%. This compares with the worst hit economies of Angola (where growth is nearly 8pp lower at -2%), Iraq (GDP slows to -1.6% from 4.5% growth), Kazakhstan and Azerbaijan (growth falls to -0.9% from 5.8%).
For a drop to USD 80/bbl, it can be seen (in Figure 27) that, in some cases, such as the UAE, Qatar and Kuwait, the negative impact on GDP can be comfortably offset by fiscal stimulus. These economies will probably benefit from such a policy in which case our ‘model-based’ GDP growth estimate would represent the low end of the likely outcome (unless a fiscal policy response is not forthcoming).
Global growth in 2015? More like how great will the hit to GDP be if oil prices don't rebound immediately?
On the whole, we can say that the fall in oil prices will prove negative, shaving 0.4pp from 2015 EM GDP growth. The collective current account balance will fall 0.58pp to 0.6% of GDP, while the budget deficit will deteriorate by 0.61pp to -2.9%. This probably has the worst implications for EM as an asset class in the credit world.
Energy exporters will fare worst, with growth falling by 1.9pp and their current account balances suffering negative pressure to the tune of 2.69pp of GDP. Budget balances will suffer a 1.67pp of GDP fall, despite benefits from lower subsidy costs. The impact of oil falling USD 25/bbl will be likely to put push the current account balance into deficit, with our analysis indicating a 0.3% of GDP deficit from a 2.4% surplus before. Fortunately, the benefit to inflation will be the best in EM and could help offset some of the political risks from reduced growth.
As might be expected, energy importers will benefit by 0.4pp better growth in this scenario. Their collective current account will improve by 0.6pp to 1.1% of GDP.
The regions worst hit are the Middle East, with GDP growth slowing to 0.3%, which is 3.8pp lower than when oil was averaging USD105/bbl. The regions’ fiscal accounts will also suffer most in EM, moving from a 1.7% of GDP surplus to a 1.8% deficit. Meanwhile, the CAB will drop 5.3pp, although remain in surplus at 3.9%. The CIS is the next-worst hit, from a GDP perspective, with regional growth flat-lined versus 1.91% previously. The region’s fiscal deficit will worsen from 0.7% of GDP to -1.8% and CAB shrink to 0.7% from 3% of GDP. Africa’s growth will come in 1.4pp slower at 2.8% while Latam growth will be 0.4pp slower at 2.2%. For Africa, the CAB/GDP ratio will fall by 2.4pp pushing it deep into deficit (-2.9% of GDP).
Some regions benefit, however, with Asia ex-China growing 0.45bpp faster at 5.5% and EM Europe (ex-CIS) growing 0.55pp faster at 3.9%, with the region’s CAB/GDP improving 0.69pp, although remain in deficit to the tune of -2.4% of GDP.
* * *
And so on, but to summarize, here are the key points once more:
- The stronger US dollar is having an inverse impact on dollar-denominated commodity prices, including oil. This will affect emerging market (EM) credit quality in various ways.
- The implications of reduced recycled petrodollars has significant ramifications for financial markets, loan markets and Treasury yields. In fact, EM energy exporters will post their first net drain on global capital (USD8bn) in eighteen years.
- Oil and gas exporting EMs account for 26% of total EM GDP and 21% of external bonds. For these economies, the impact will be on lost fiscal revenue, lost GDP growth and the contribution to reserves of oil and gas-related export receipts. Together, these will have a significant effect on sustainability and liquidity ratios and as a consequence are negative for dollar debt-servicing risks and credit ratings.
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You forgot about this, http://www.4thmedia.org/2014/10/the-kerry-abdullah-secret-deal-oil-gas-p...
So Gold will devalue?
What happens when a nation with the biggest nuclear stockpile no longer has the world's reserve currency which allows it to fund whatever it likes?
Does it become Pakistan or does it instead become North Korea?
Or does it sow chaos by spreading ebola?
I hope I am wrong but with psychopaths at the helm, i expect America to continue driving on the wrong side of the road.
50 years of denial to go through first.
russia has more nukes, than the U.S.
It would seem that this is about the time that we see a tanker
or two sunk in the Straights of Hormuz, or perhaps in the Suez.
That would kick the price back up good and proper.
Load
Aim
Fire
Shoot self in foot
didn't we technically win 2 world wars without being the "reserve currency"? maybe the game has changed, but I feel like I personally can still pinpoint and profit from valuable investments regardless of which reserve currency is which.
Almost OT
They are having difficulty finding 100oz bars
http://www.gainesvillecoins.com/category/824/100-oz-silver-bars.aspx
APMEX
has all the 100 oz bars you might desire
1741.$ will get you one
cash price...
$30/ barrel is coming. Crush the market to rebuild the fragile markets. Wonder if these new mandatory high milage clown cars saturate the market under unwinding regulatory centralized stresses.
Saving the planet is eating a shitty meal at a 'Planet Hollywood' restaurant chain.
Unless the rest of the economy adjusts down to 30/barrel oil, those Planet Hollywoods are gonna be serving up barbecue, weather permitting, because there won't be any gas for the kitchen.
If oil keeps going down, it butts up against the cost of its extraction. That's as far as it can go before supply takes its toys and calls it a day.
30/barrel CAN be supported, but not in a way that allows big finance to preserve its gains. Either you allow the economy downsize to, yes, maybe 30/barrel, or you stay stubborn, and keep prices of SOME shit artificially high while beating oil down, down, down, and you'll be hit first with severe shortages, followed quickly by soaring prices.
Push it to 30, and it'll rebound to 300 within 2 years. Just take your economy out back and put it out of its misery already...this ain't right...
That was fast. Obama has really fucked us good.
That moron doesn't make any decisions beyond what's for dinner. If that.
Yes, our sanctions against Russia over Ukraine have nothing to do with this.
so the petrodollar goes by the wayside and the price of oil gets cheaper in USD??????????????????????????????????????
pretty sure that is the opposite of what is supposed to happen
So now we can bomb the heck out of Saudi Arabia?
Interesting article. 2 ideas keep bothering me as time progresses. Would decoupling of paper and physical gold send prices higher or lower? Do people who bet on futures, without ever intending to take delivery inflate the demand or dilute value of limited amount of metal available? If the decoupling happens, will there be a stampede to get into physical or a rush out all together?
Likewise, if oil starts trading in other currencies more and less in dollars, will that devalue oil or devalue dollar? Where does the money eliminated from bilateral trade go? Does it segregate in non-oil related assets off shore, or does if lock back home? If it goes back, does it saturate domestic credit markets, causing inflation, or does it go towards paying off debts, reducing outstanding bonds and shrinking the money supply? Does the purchasing power of dollar increase or decrease?
Some weird shit is going on at the moment, and it's hard to tell which of the scenarios is unraveling.
In the meantime vlad is ensuring his ICBMs are ready to rock and roll. The US is firing it's people resonsible for the ICBMs, Seems like their getting ready to wipe out out some cities.
He certainly knows something is up. He is encircling and entrenching his resources in the north while stacking physical and flexing his military muscle. He knows the end is nigh and wants his resources secure for when the middle east blows up (into full scale war). Seems like we are barreling to WW3 and noone in the USSA really knows, or cares.
And with people like Obama, Boner, Reid, PeskyPelosi at the helm, we are in deep, deep trouble. Here's to catching Ebola before dieing of nuclear fallout induced radiation first.
"Seems like we are barreling to WW3 and noone in the USSA really knows, or cares."
Apart from those organizing the barelling.
first by deflation then by inflation yada yada..
and what a shrud, talented slate of freshmen going to Washington in January, just in time to handle all of this.
kinda warms the heart. in that burning the furniture in the fireplace sort of way..
Yo Pandora!
Whatever you do, don't let on that only three weeks ago the media was full of stories about a triple-dip recession creeping up on the first world. Remember this?
The crooks in Washington, London, Brussels, etc etc may tell everyone that everything is fine, but when the crooks in Riyadh drop the price of crude down to 80 bucks a barrel, you better not be kidding yourself that it's Obama out to get Putin.
We could be looking down into the abyss.
Remember it's the same crooks in Washington, London, Brussels who control the information that's released about supply and demand.
You have to intuit what demand is from what you see when your eyes are open.
What's a pp?
"Global growth in 2015? More like how great will the hit to GDP be if oil prices don't rebound immediately?"
I thought that lower oil prices is supposed to be good for global GDP given that the cost of doing business is lower?
"The implications of reduced recycled petrodollars has significant ramifications for financial markets, loan markets and Treasury yields. In fact, EM energy exporters will post their first net drain on global capital (USD8bn) in eighteen years."
This is good no? It means the real economy gets a chance to expand (given the lower oil prices) while the ponzi financial economy shrinks.
"Oil and gas exporting EMs account for 26% of total EM GDP and 21% of external bonds. For these economies, the impact will be on lost fiscal revenue, lost GDP growth and the contribution to reserves of oil and gas-related export receipts. Together, these will have a significant effect on sustainability and liquidity ratios and as a consequence are negative for dollar debt-servicing risks and credit ratings."
Death to the Petrodollar. Stackstackstack.
The trend of the decoupling of a global reserve currency as a store of value to that of a medium of exchange that has to be shared with an emerging economic power - China.
The trend of severe downsizing of financialized economies like US with evaporation of paper assets.
Not bad for the 99% if the global reset comes from debt defaults rather than the grueling debt repression for the generations ahead out of deflation. A deflation in the real economies that CBs and cronies are in their last leg to prevent.
This is what you call reaching over to Russia's plate and mopping up the gravy. China had all those bilateral deals with Russia and now they are stuck in a quandary paying for the cheap Saudi oil with de-valued Rubles. Woops, Saudi doesn't take Rubles.
DOh!
on a more serious note. some bread comes without heels in the store. what do the bakeries do with the cut off heels and can I buy them cheap for my toast?
WTI below 77 USD/barrel
Brent below 83 USD/barrel
Wow...
oil always drops in the months leading up to the usa elections.
there is no market, there is only old yeller
Have you seen the price of oil? Somebody fucking noticed. Shiiitttt
The worth of the article can be seen from this line:
"the Fed itself, with it's strong dollar policy".
Um, yeah. QE1,2,3 is the Fed's strong dollar policy. Who writes this stuff?
Many here read too much into some of these articles. Bottom line for me is governments are preparing to use other currencies because the new wars are financial wars. I do not blame them to be honest. I do not think any country wants to be the worlds reserve currency including China. Our world reserve staus will eventually sink us. This admininstrations basically ordering the world to not buy Iranian oil changed all of that. The world basically told this administration to take a hike including our allies. Fucking with the SWIFT system screwing over other countries general population to do international transactions while stating they are punishing the governments that are supposedly our enemies did not and does not sit well with the world.
We are now doing it with Russia and the world is sick of it. So they are going to set up alternative systems to put a stop to this. Fighting a government is one thing screwing over the general population of a country is another. Having lived around the world for 14 years, I have found most people want the same thing you and I want.
The fractional reserve fiat currencies are all getting replaced by aurum
http://www.peakprosperity.com/podcast/84359/new-way-hold-gold
from gold in the Global Debt Facility, a trust fund established in 1950 by Ferdinand Marcos.
@KarenHudes
How to avoid unnecessary conflict:https://s3.amazonaws.com/khudes/Twitter11.4.14.pdf