The race to debase proceeds apace

2012-FEB-20

Gold and silver have opened today on a strong note – silver in particular buoyed by signs that at long last, we may be reaching a definitive deal on a €130 billion bailout that will allow Greece to avoid defaulting on its sovereign debt. Precious metals and risk assets such as mining stocks have also been boosted by news that the Chinese authorities have cut bank reserve ratios in China. Combined with news that Iran is halting oil shipments to the UK and France, and it’s no surprise to see oil prices surging higher, with Brent crude up 0.98% on Friday’s close at over $120 a barrel, and WTI even stronger – up 1.76% at over $105 a barrel.

As ZeroHedge reports, WTI is now at its highest level in nine months on the back of growing geopolitical tension in the Middle East. A US-Iranian war looks increasingly likely, with one American source telling Britain’s Guardian newspaper that 'It's not that the Israelis believe the Iranians are on the brink of a bomb. It's that the Israelis may fear that the Iranian programme is on the brink of becoming out of reach of an Israeli military strike, which means it creates a 'now-or-never' moment”.

Given such a scenario, an oil price spike to rival the likes that occurred during the 1973 Yom Kippur War and in the aftermath of the 1979 Iranian Revolution could be on the cards. Needless to say, this is precisely the sort of scenario that the many struggling economies of the world could do without. Given the correlation between the gold price and oil prices, a spike in the latter would almost certainly be bullish for the former.

Though geopolitical concerns are one obvious dynamic factor in oil pricing, another equally important aspect is the quality of the medium used to buy said oil. Gasoline prices in America are actually lower today in real terms than they were 100 years ago, while as James Turk demonstrates in this video, priced in terms of goldgrams, a barrel of crude oil has cost roughly the same amount since 1950. In both cases, gains in dollar price of crude oil and refined oil products are a function of devaluation of the dollar itself.

So – as Reuters reports – with central banks now going full-bore with their money printing efforts in recent weeks – more attention needs to be paid to this currency devaluation aspect of oil pricing. The aggressiveness of recent central bank interventions can be seen from another recent ZeroHedge article. Whatever else one may claim about the justifications for this extraordinary largesse, few can seriously doubt that this monetary expansion has the potential to seriously backfire on central banks, courtesy of an inflationary boom that they may be unable – and in some cases perhaps even unwilling – to control.

The race to debase proceeds apace.