OPEC on switching to the Euro

In 2002, OPEC's head market analyst commented on switching to the euro. Because it caused an immediate drop in the dollar, OPEC has since declared a moratorium on discussing the euro. But given the far weaker state of the dollar in 2008, you have to think it's being discussed.

Incidentally, Iraq had already switched to the euro after the kuwait war. That puts the war in a new focus, doesn't it?

If you were Ahmadinejad, it would have to occur to you that the unit of power in our new cold war is energy, not bombs. It would have to occur to you that the best way to attack the US is to work toward switching the oil markets from New York to London and from the dollar to the euro--consumption from SUV's to the instant cities in China and India.

The 2002 comments follow.

“First of all, let me take the opportunity to congratulate the European Union for its successful transition to the euro, from its twelve different currencies. Everyone was pleasantly surprised at how smooth and swift the switchover took place, considering it involved the largest currency swap undertaken in history. The question that comes to mind is whether the euro will establish itself in world financial markets, thus challenging the supremacy of the US dollar, and consequently trigger a change in the dollar’s dominance in oil markets. As we all know, the mighty dollar has reigned supreme since 1945, and in the last few years has even gained more ground with the economic dominance of the United States, a situation that may not change in the near future. By the late 90s, more than four-fifths of all foreign exchange transactions, and half of all world exports, were denominated in dollars. In addition, the US currency accounts for about two thirds of all official exchange reserves. The world’s dependency on US dollars to pay for trade has seen countries bound to dollar reserves, which are disproportionately higher than America’s share in global output. The share of the dollar in the denomination of world trade is also much higher than the share of the US in world trade.

Having said that, it is worthwhile to note that in the long run the euro is not at such a disadvantage versus the dollar when one compares the relative sizes of the economies involved, especially given the EU enlargement plans. Moreover, the euro-zone has a bigger share of global trade than the US and while the US has a huge current account deficit, the euro area has a more, or balanced, external accounts position. One of the more compelling arguments for keeping oil pricing and payments in dollars has been that the US remains a large importer of oil, despite being a substantial crude producer itself. However, looking at the statistics of crude oil exports, one notes that the euro-zone is an even larger importer of oil and petroleum products than the US.”

“It must also be recalled that the links between crude oil and the dollar are deeply embedded in economics, politics and trading traditions. Naturally, the trading of oil in dollars has served the interests of the US, giving it an immediate advantage over other countries because it carries no currency exchange risk. For most other oil consumers around the world, the pricing and payment of crude in dollars increases the risk for these countries because of currency fluctuations. When the dollar rises against other currencies, the price of oil is more expensive for the rest of the world, thus potentially increasing inflation in these countries.”

“Despite this, let us examine some of the issues surrounding the denomination of the oil bill, with the euro in mind. Firstly, it is good to note that oil producers and big crude consumers, and importers from non-dollar areas, like the EU, have common interests. They are both interested not only in stability of oil prices and a reduction in price volatility but also in the stable currencies. In other words, they would like to minimize oil price risk and currency risk. Producers and consumers may differ as to the desired oil price level, although I think they are probably not so far apart on that question, but they would both easily agree that currency risk is undesirable. From the EU’s point of view, it is clear that Europe would prefer to see payments for oil shift from the dollar to the euro, which effectively removes the currency risk. It would also increase the demand for the euro and thus help to raise its value. Moreover, oil were to shift to the euro, it could provide a boost to the global acceptability of the single currency. There are also very strong trade links between OPEC Member Countries (MCs) and the euro-zone, with more than 45 per cent of total merchandise imports of OPEC MCs coming from the countries of the euro-zone, while OPEC MCs are main suppliers of oil and crude oil products to Europe.”

“Of major importance to the ultimate success of the euro, in terms of the oil pricing, will be if Europe's two major oil producers — the United Kingdom and Norway join the single currency. Naturally, the future integration of these two countries into the euro-zone and Europe will be important considering they are the region’s two major oil producers in the North Sea, which is home to the international crude oil benchmark, Brent. This might create a momentum to shift the oil pricing system to euros. However, from today’s perspective, even after the UK joins the single currency, there would seem to be little incentive for London’s International Petroleum Exchange (IPE), where Brent is traded, to switch its Brent crude oil and gas oil contracts to euros, since both are traded internationally and the dollar is at the centre of a complex global oil trading and hedging system. There is more chance that the IPE will consider changing its natural gas and power contracts to euros. With respect to petroleum products, it appears that here the euro may make some inroads. Within the euro-zone, petroleum products to the final consumer are now sold in euros, highlighting the disparity in final product prices within the EU. At present the only spot market that has adopted the euro is the Hamburg barge market, which previously used Deutschmarks.

So what is the OPEC position on this critical questions? Can the Organization consider switching its crude oil pricing from dollars to euros? Or will a basket of currencies be used?

Because crude oil contracts are currently traded in dollars, and the prices of OPEC crudes are determined by using complex formulas derived from marker crudes, such as Brent and WTI, there is not much the Organization can do unilaterally until, and unless, there is a switch of denomination in these markets. OPEC has no control over the quotations of these marker crudes, whereas, in the past the Organization did set the official selling prices. That has all changed with the introduction of market-related prices which saw the system change from a seller’s to a buyer’s market, or at least where market forces now dictate prices. Moreover, the entire infrastructure of the oil market has been based around the dollar, and that will be hard to displace. However, as previously mentioned, a lot depends on Britain and Norway in determining what their level of EU integration will be, and whether their marker crude, Brent, could be traded in euros.”

mr j's timecode

biofuel crisis

I'm proud to note that previous posts (Dec. 21) predicted that biofuels could cause a boom in the price of corn and that (Aug. 6) a similar speculative boom (and bust) in the price of sugar occurred after Brazil announced it would develop its sugar-to-ethanol program.

hear it now

may I just quote something you're gonna hear in November (from TLF):

"Before you change your light bulb, you ought to change your leader."