Correlation between Oil and Gold Prices and the US Dollar

Topics: United States dollar, Peak oil, Foreign exchange market Pages: 7 (2530 words) Published: March 7, 2010
Correlation between Oil & Gold prices and US dollar

The History

The forex exchange market is one of the largest and most liquid securities exchanges in the world with over $3.2 trillion in average daily turnover. This equates to 10 times the average daily turnover of global equity markets and 35 times the average daily turnover of the New York Stock Exchange. The forex market is open 24 hours a day, 6 days a week, with the EUR/USD accounting for 27% of total turnover.  There is plenty of opportunity to make and lose money in currency exchange.

The gold standard era in the U.S. officially began with the passing of the Gold Standard Act in 1900. But it was not until World War II that brought about the need for a worldwide standard for currency values and exchange rates. The Bretton Woods Agreement in 1944 established two very important international institutions: the International Monetary Fund (IMF) and the International Bank for Reconstruction and Development (now the World Bank). What came from this agreement was that all the world’s currencies would be pegged against the value of gold, and with the U.S. dollar on the gold standard, the U.S. dollar effectively became the world’s reserve currency. The value of gold was fixed at $35 per ounce until the gold standard was effectively withdrawn in 1971 as President Nixon ordered an end to the out-dated system and the price of gold was allowed to “float”. Now, every major currency is no longer on the gold standard but rather is referred to as “fiat” currency. This basically means that a country’s own currency is intrinsically worthless because it is not backed by any type of reserve, such as gold. The value each currency is therefore based citizen’s perception of their economy, supply and demand for money in general, and how their currency is compared to other country’s currency.

Something to think about though is 40 years ago, the world’s currencies used to be pegged against the price of gold and ultimately the Dollar.  Now it would not be a stretch to say that global currency is on an Oil Standard.  From 1944 until 1971, US dollars were convertible into gold by central banks in order to adjust for any trade imbalances between countries. Up to that point, the price of gold was fixed at US$35 per ounce, and the price of oil was relatively stable at about US$3.00 per barrel. Once the US ceased gold convertibility in 1971, OPEC producers were forced to convert their excess US dollars by purchasing gold in the marketplace. This resulted in price increases for both oil and gold, until eventually oil reached US$40 per barrel and gold reached US$850 per ounce. In 1975 when the U.S. Government made a deal with Saudi Arabia and OPEC to only trade oil in U.S. Dollars, their “partnership” effectively gave the USD a monopoly over all other currencies when it comes to oil trading.

The US has enjoyed inexpensive oil-based energy for nearly a century, and this is one of the prime factors behind the unprecedented prosperity of its economy in the 20th century. While the US accounts for only 5 percent of the world's population, it consumes 25 percent of the world's fossil fuel-based energy. It imports about 75 percent of its oil, but owns only 2 percent of world reserves. Because of this dependency on both oil and foreign suppliers, any increases in price or supply disruptions will negatively impact the US economy to a greater degree than any other nation. The majority of oil reserves are located in politically unstable regions, with tensions in the Middle East, Venezuela and Nigeria likely to intensify rather than to abate. Because of frequent terrorist attacks, Iraqi oil production is subject to disruption, while the risk of political problems in Saudi Arabia grows. The timing for these risks is uncertain and hard to quantify, but the implications of Peak Oil are predictable and quantifiable, and the effects will be more far-reaching than simply a...
Continue Reading

Please join StudyMode to read the full document

You May Also Find These Documents Helpful

  • Relationship Between Gold, Oil and Us Stock Market Essay
  • Effects of Oil Price Interest Rate and Dollar Price of Euro on Gold Price Essay
  • Relationship Between Oil, Currency and Gold Essay
  • Essay about Correlation Between Oil and Gold Silver Using Regression Analysis
  • United States Dollar and Gold Standard Research Paper
  • Essay about Currency analysis of US dollar and RMB
  • Oil price Essay
  • Essay on Oil Price

Become a StudyMode Member

Sign Up - It's Free