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Monday, Mar 19, 2007
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Business Daily from THE HINDU group of publications Monday, Mar 19, 2007 ePaper |
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Petroleum Opinion - Economy Global imbalances and petro-dollars S. Venkitaramanan
For the last few years, US policy-makers have targeted China's current account surplus, seen as a source for the current global imbalances. China has been blamed for its exchange rate policy, that is, keeping the yuan weak and selling goods cheap to other countries. US economic policy-makers, including the Federal Reserve Chairman, Dr Ben Bernanke, have blamed the Chinese saving glut for the US' problem — as if China saves "deliberately" and the US dissaves as a matter of condescension. The fact is that the US is not exporting enough to pay for its import of goods and services. The ultimate cure may lie partly in the dollar being devalued. The US tries to achieve the same goal by arm-twisting China to revalue its yuan. The debate has even spawned amendments to statutes in the US, including the infamous Schumer Amendment that would impose a high tariff on Chinese exports. The focus has all along been on China's manufacturing exports, albeit supplemented by India's service exports. The obvious, though often missed, cause for the US' balance of payments (BoP) problems lies in its thirst for oil, more than anything else. The Economist, in a recent issue, focussed on this issue and suggested that the US Secretary of the Treasury, Mr Hank Paulson, should be visiting Saudi Arabia instead of China. The surplus hoarded by the OPEC countries and other oil exporters is such as to dwarf the volume of currency hoard in the hands of China and other Asian nations. To cite an example, Saudi Arabia's current account surplus alone is quite large. The surplus of Saudi Arabia, the UAE and Kuwait has risen to 30 per cent of their GDP, compared to China's 8 per cent. The surge in oil prices over the last decade, barring a slight fall last year, has led to these countries accumulating huge surpluses, which they have invested in dollar-denominated assets. The Economist quotes IMF data to support its conclusion that the cumulative surpluses of all oil-exporting countries in the five years to end-2007 amounted to $1.7 trillion. This is larger than China's accumulated surplus in the same period.
Buoying the US Economy
Oil exporters are afloat in a flood of cash. This is being invested through government investment funds which, in turn, use intermediaries in London to deploy the same in Treasury securities, bonds, real estate and equity. Unlike in the 1970s and 1980s when petro-dollars fed directly into US bank deposits and into investment banks, leading to an explosive increase in lending to Latin America and its subsequent collapse due to the US interest rate hike, this time the flood is more diversified. Even so, it is a partial cause of the current flood of liquidity, leading to asset price bubbles. More importantly, it is buoying parts of the American economy, inevitably maintaining its budgetary excesses, including its Defence spending and housing boom. It is also helping to sustain over a long period the low interest rate regime in the US in spite of rising deficits. While the US and its policy-makers are prevailing on China to keep its exchange rate policy flexible, meaning that it should revalue the yuan and stop intervening in markets to buy up dollars, it does not extend the same advice to the petroleum exporters. The important difference is that oil exporters, by and large, have been linking their currencies to the dollar. Thus, when the dollar falls, as it has been doing recently, their currencies also fall. The Economist is right in pointing out this dollar peg keeps their currencies at a lower value than warranted by their robust terms of trade. This leads to their imports becoming costlier. Besides, oil exporters suffer the penalty of being paid in a continually eroding currency — the dollar. It may be recalled that the former Iraqi ruler Saddam Hussein had initiated a policy of invoicing payments for Iraqi oil in non-dollar currencies. In effect, in the present arrangement, oil exporters are paying for the dollar's weakness. They are being paid in continually devaluing money. But that is the law of the market place.
Restoring the balance
The oil-exporters' economies are also being persuaded to buy more US goods, especially defence equipment, by various means. The attempt by the US is to restore balance by exporting more to these countries. The obvious remedy is, however, to reduce the US dependence on imported oil. In this context, it is significant that the US President is showing increasing awareness of the resource drain that the US' thirst for oil is posing. In a recent, well-advertised tour of Brazil, the President, Mr George Bush, posed besides the Brazilian President, Mr Lula da Silva, to demonstrate his support for Brazil's strategy of developing bio-fuels, especially ethanol. He even signed an agreement with Brazil to share technology for extracting ethanol from sugar in efficient processes. He declared his faith in developing new methods of extracting ethanol from materials that are not food-related, such as those derived from straw and corn stalks, through newly developed methods. It is significant that the drive for self-reliance in fuel is drawing such robust support from the ruler of the biggest fuel-guzzling economies of the world. This bodes well for the reduction of at least one of the sources of global imbalances. The flood of petro-dollars and its disposition has an impact not only on the US but also on emerging markets such as India. The flood will inevitably find its way into Indian markets through intermediaries, including hedge funds. This can be a potential source for booms and busts in the stock market. Regulators in India and elsewhere have to beware. The sources of recent volatility can be traced not only to the fluctuations in Japan's yen carry trade, but also in the ways petro-dollars behave.
Beneficial source
This can be a potential source of trouble as well as a blessing for emerging economies. If petro-dollars can be canvassed for essential investment in infrastructure in India, it can prove a beneficial source. There is need to focus policy-makers' attention on attracting petro-dollars into India. This is, of course, without prejudice to the general problem of abundance of forex reserves that India is privileged to endure at present. One has obviously to concentrate on the quality of petro-dollar inflows; the more as FDI the better. It is, indeed, a paradox of global economics that the superpower of today is being funded to buy its life-blood — oil — by the very owners of oil resources. They are also incidentally funding the budget excesses of the superpower, including its imperialist adventurism. The process is helping to keep US interest rates low and housing boom alive. Never was so much owed by an aggrandising nation to those whom it seeks to dominate. The oil exporters are also perhaps well advised to diversify away from dependence on oil, a dangerous addiction for both the addicted as well as the source of addiction.
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