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Petrodollars and the Cycle of Financial Bubbles Here We Go Again

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Petrodollars and the Cycle of Financial Bubbles Here We Go Again Reasonably Foreseeable Consequences Oil, Dollars, Debt, and Crises Petrodollars and the Cycle of Financial Bubbles Here we go again Mahmoud A. El-Gamal, mostly from book with Amy M. Jaffe Department of Economics, Rice University and James A. Baker III Institute for Public Policy March 2, 2010 Mahmoud El-Gamal’s talk, Abu Dhabi roundtable, March 2, 2010 Petrodollars and the Cycle of Financial Bubbles 1 of 26 Reasonably Foreseeable Consequences Real, Energy, and Oil-Revenue Cycles Oil, Dollars, Debt, and Crises Financial Imbalances and Petrodollars Hyman Minsky on Convenient Theories and Facing Reality A theory that denies what is happening can happen, sees unfavorable events as the work of evil outside forces (such as the oil crisis) rather than as the result of characteristics of the economic mechanism, may satisfy politicians’ need for a villain or scapegoat, but such a theory offers no useful guide to a solution of the problem ... The economic instability so evident since the late 1 960s is the result of the fragile financial system that emerged from cumulative changes in financial relations and institutions of the years following World War II. Mahmoud El-Gamal’s talk, Abu Dhabi roundtable, March 2, 2010 Petrodollars and the Cycle of Financial Bubbles 2 of 26 Reasonably Foreseeable Consequences Real, Energy, and Oil-Revenue Cycles Oil, Dollars, Debt, and Crises Financial Imbalances and Petrodollars Coincidence of High REAL Oil Prices with Financial Crises Crises Severest 1850s-70s (before gold standard), and 1970s– (after Bretton Woods) 120 100 80 60 Brent Crude Price in 2007 Dollars 40 20 0 1860 1880 1900 1920 1940 1960 1980 2000 Mahmoud El-Gamal’s talk, Abu Dhabi roundtable, March 2, 2010 Petrodollars and the Cycle of Financial Bubbles 3 of 26 Reasonably Foreseeable Consequences Real, Energy, and Oil-Revenue Cycles Oil, Dollars, Debt, and Crises Financial Imbalances and Petrodollars Outline 1 Reasonably Foreseeable Consequences Real, Energy, and Oil-Revenue Cycles Financial Imbalances and Petrodollars 2 Oil, Dollars, Debt, and Crises Transmission Mechanism Managing the Cycle Mahmoud El-Gamal’s talk, Abu Dhabi roundtable, March 2, 2010 Petrodollars and the Cycle of Financial Bubbles 4 of 26 Reasonably Foreseeable Consequences Real, Energy, and Oil-Revenue Cycles Oil, Dollars, Debt, and Crises Financial Imbalances and Petrodollars Self-Perpetuating Cycle, Magnified during Financial Crises Decline in Demand Decline in Prices Decline in Investment Price Spike @ Recovery ⇒ ⇒ ⇒ 7 6 World 5 GDP growth 4 3 2 1 0 World Energy Use growth !1 !2 1970 1975 1980 1985 1990 1995 2000 2005 Mahmoud El-Gamal’s talk, Abu Dhabi roundtable, March 2, 2010 Petrodollars and the Cycle of Financial Bubbles 5 of 26 Reasonably Foreseeable Consequences Real, Energy, and Oil-Revenue Cycles Oil, Dollars, Debt, and Crises Financial Imbalances and Petrodollars Lag in Oil-Price Responses, Lag in Capacity Development Geopolitical Events Cause Oil Prices to Over Compensate 1000 140 900 120 800 Gold Prices (left axis) 700 100 600 80 500 60 400 Gold Price ($US/T.Ounce) Crude Oil Price ($US/BBL) 300 40 200 20 Crude Oil Prices 100 (right axis) 0 0 1970 1975 1980 1985 1990 1995 2000 2005 2010 time Mahmoud El-Gamal’s talk, Abu Dhabi roundtable, March 2, 2010 Petrodollars and the Cycle of Financial Bubbles 6 of 26 Reasonably Foreseeable Consequences Real, Energy, and Oil-Revenue Cycles Oil, Dollars, Debt, and Crises Financial Imbalances and Petrodollars The Oil Revenue (Petrodollar) Problem Price stabilization amplified oil revenue cycle ⇒ 1 During the upswing of the cycle growth energy demand inventory oil price ↑ ⇒ ↑ ⇒ ↓ ⇒ ↑ To ameliorate oil-price and real-business cycles, revenue cycle is amplified oil production/sales oil revenues ↑ ⇒ ⇑⇑ There is no “good price” to defend in the short run ⇒ 2 During the downswing of the cycle growth energy demand inventory oil price ↓ ⇒ ↓ ⇒ ↑ ⇒ ↓ To ameliorate oil-price and real-business cycles, revenue cycle is amplified oil production/sales (?) oil revenues ↓ ⇒ ⇓ Asymmetric response: OPEC members cheat on their quotas Mahmoud El-Gamal’s talk, Abu Dhabi roundtable, March 2, 2010 Petrodollars and the Cycle of Financial Bubbles 7 of 26 Reasonably Foreseeable Consequences Real, Energy, and Oil-Revenue Cycles Oil, Dollars, Debt, and Crises Financial Imbalances and Petrodollars The Oil Revenue (Petrodollar) Problem Price stabilization amplified oil revenue cycle ⇒ 1 During the upswing of the cycle growth energy demand inventory oil price ↑ ⇒ ↑ ⇒ ↓ ⇒ ↑ To ameliorate oil-price and real-business cycles, revenue cycle is amplified oil production/sales oil revenues ↑ ⇒ ⇑⇑ There is no “good price” to defend in the short run ⇒ 2 During the downswing of the cycle growth energy demand inventory oil price ↓ ⇒ ↓ ⇒ ↑ ⇒ ↓ To ameliorate oil-price and real-business cycles, revenue cycle is amplified oil production/sales (?) oil revenues ↓ ⇒ ⇓ Asymmetric response: OPEC members cheat on their quotas Mahmoud El-Gamal’s talk, Abu Dhabi roundtable, March 2, 2010 Petrodollars and the Cycle of Financial Bubbles 7 of 26 Reasonably Foreseeable Consequences Real, Energy, and Oil-Revenue Cycles Oil, Dollars, Debt, and Crises Financial Imbalances and Petrodollars The Oil Revenue (Petrodollar) Problem Price stabilization amplified oil revenue cycle ⇒ 1 During the upswing of the cycle growth energy demand inventory oil price ↑ ⇒ ↑ ⇒ ↓ ⇒ ↑ To ameliorate oil-price and real-business cycles, revenue cycle is amplified oil production/sales oil revenues ↑ ⇒ ⇑⇑ There is no “good price” to defend in the short run ⇒ 2 During the downswing of the cycle growth energy demand inventory oil price ↓ ⇒ ↓ ⇒ ↑ ⇒ ↓ To ameliorate oil-price and real-business cycles, revenue cycle is amplified oil production/sales (?) oil revenues ↓ ⇒ ⇓ Asymmetric response: OPEC members cheat on their quotas Mahmoud El-Gamal’s talk, Abu Dhabi roundtable, March 2, 2010 Petrodollars and the Cycle of Financial Bubbles 7 of 26 Reasonably Foreseeable Consequences Real, Energy, and Oil-Revenue Cycles Oil, Dollars, Debt, and Crises Financial Imbalances and Petrodollars The Oil Revenue (Petrodollar) Problem Price stabilization amplified oil revenue cycle ⇒ 1 During the upswing of the cycle growth energy demand inventory oil price ↑ ⇒ ↑ ⇒ ↓ ⇒ ↑ To ameliorate oil-price and real-business cycles, revenue cycle is amplified oil production/sales oil revenues ↑ ⇒ ⇑⇑ There is no “good price” to defend in the short run ⇒ 2 During the downswing of the cycle growth energy demand inventory oil price ↓ ⇒ ↓ ⇒ ↑ ⇒ ↓ To ameliorate oil-price and real-business cycles, revenue cycle is amplified oil production/sales (?) oil revenues ↓ ⇒ ⇓ Asymmetric response: OPEC members cheat on their quotas Mahmoud El-Gamal’s talk, Abu Dhabi roundtable, March 2, 2010 Petrodollars and the Cycle of Financial Bubbles 7 of 26 Reasonably Foreseeable Consequences Real, Energy, and Oil-Revenue Cycles Oil, Dollars, Debt, and Crises Financial Imbalances and Petrodollars The Oil Revenue (Petrodollar) Problem Price stabilization amplified oil revenue cycle ⇒ 1 During the upswing of the cycle growth energy demand inventory oil price ↑ ⇒ ↑ ⇒ ↓ ⇒ ↑ To ameliorate oil-price and real-business cycles, revenue cycle is amplified oil production/sales oil revenues ↑ ⇒ ⇑⇑ There is no “good price” to defend in the short run ⇒ 2 During the downswing of the cycle growth energy demand inventory oil price ↓ ⇒ ↓ ⇒ ↑ ⇒ ↓ To ameliorate oil-price and real-business cycles, revenue cycle is amplified oil production/sales (?) oil revenues ↓ ⇒ ⇓ Asymmetric response: OPEC members cheat on their quotas Mahmoud El-Gamal’s talk, Abu Dhabi roundtable, March 2, 2010 Petrodollars and the Cycle of Financial Bubbles 7 of 26 Reasonably Foreseeable Consequences Real, Energy, and Oil-Revenue Cycles Oil, Dollars, Debt, and Crises Financial Imbalances and Petrodollars The Oil Revenue (Petrodollar) Problem Price stabilization amplified oil revenue cycle ⇒ 1 During the upswing of the cycle growth energy demand inventory oil price ↑ ⇒ ↑ ⇒ ↓ ⇒ ↑ To ameliorate oil-price and real-business cycles, revenue cycle is amplified oil production/sales oil revenues ↑ ⇒ ⇑⇑ There is no “good price” to defend in the short run ⇒ 2 During the downswing of the cycle growth energy demand inventory oil price ↓ ⇒ ↓ ⇒ ↑ ⇒ ↓ To ameliorate oil-price and real-business cycles, revenue cycle is amplified oil production/sales (?) oil revenues ↓ ⇒ ⇓ Asymmetric response: OPEC members cheat on their quotas Mahmoud El-Gamal’s talk, Abu Dhabi roundtable, March 2, 2010 Petrodollars and the Cycle of Financial Bubbles 7 of 26 Reasonably Foreseeable Consequences Real, Energy, and Oil-Revenue Cycles Oil, Dollars, Debt, and Crises Financial Imbalances and Petrodollars OPEC’s Cheating Ways: Asymmetric Procyclical Effects Price Overshooting: Lack of Excess Capacity in Booms, Cheating on Quotas in Busts 35 30 OPEC production 25 20 15 OPEC quota 10 Saudi production 5 Saudi quota OPEC & Saudi Quotas and Production (millions B/Day) 0 1980 1985 1990 1995 2000 2005 2010 Mahmoud El-Gamal’s talk, Abu Dhabi roundtable, March 2, 2010 Petrodollars and the Cycle of Financial Bubbles 8 of 26 Reasonably Foreseeable Consequences Real, Energy, and Oil-Revenue Cycles Oil, Dollars, Debt, and Crises Financial Imbalances and Petrodollars Outline 1 Reasonably Foreseeable Consequences Real, Energy, and Oil-Revenue Cycles Financial Imbalances and Petrodollars 2 Oil, Dollars, Debt, and Crises Transmission Mechanism Managing the Cycle Mahmoud El-Gamal’s talk, Abu Dhabi roundtable, March 2, 2010 Petrodollars and the Cycle of Financial Bubbles 9 of 26 Reasonably Foreseeable
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