The petroeuro threat

[PeterGustafsson]

Hi!

Originally Posted by jBirch

Hey Peter,

My understanding is that there is only one global price for oil and that it is set on the NYMEX in US Dollars. (Ie// Russian Oil is the same as Canadian Oil is the same as Iranian Oil).

You can certainly conduct the transaction in Euros solely, but the cost is first translated into USD then exchanged at whatever the daily rate is into Euros. If you were the Oil Exporter, you'd receive payment in Euros but then you'd have to convert it BACK into USD to buy any US goods or to resell that oil to another market with a less Euro centric currency.

James.

Still does not make sense to me. Oil countries buy goods from non-Dollar countries. Why could they not simply pay in oil, or get paid in Euros/Yen/Yuan for later use? What forces them to adhere to the NYMEX rate?

If they would sell oil and recieve payments in several major currencies, it seems to me that they should be spreading their risks, usually a good thing. Why not get dollars from some oil buyers, and other currencies from others? Would it not be as least as good for an Euro country to pay with Euros, rather than using Dollars?

I assume that there are substantial numbers of oil buyers from non-Dollar countries who intend to be end users of the bought oil, so that reselling is a moot issue.


Have a nice time!

Peter Gustafsson

[Larrison]

Originally Posted by PeterGustafsson

Hi!
Still does not make sense to me. Oil countries buy goods from non-Dollar countries. Why could they not simply pay in oil, or get paid in Euros/Yen/Yuan for later use? What forces them to adhere to the NYMEX rate?

If they would sell oil and recieve payments in several major currencies, it seems to me that they should be spreading their risks, usually a good thing. Why not get dollars from some oil buyers, and other currencies from others? Would it not be as least as good for an Euro country to pay with Euros, rather than using Dollars?

I assume that there are substantial numbers of oil buyers from non-Dollar countries who intend to be end users of the bought oil, so that reselling is a moot issue.

Hmm.. sounds like you need to read a couple of books on international finance.

If you sell any products to another country, someone has to take the risk of exchange rate flucuations -- that is, those dinero you're being paid for may change in exchange for Venezualan bolivars over the life of the contract. Those flucutations can be substantial -- +/- 10% or more is not uncommon, and I've seen 1000's of % in some cases (for example, when the Russian government lopped off the last 3 zeros on the ruble). Typically its easier to demoninate the transaction in a major "stable" currency such as dollars.

For major purchases, you can arrange to do it in a 'basket' of currencies, which may include (as an example) so much in Yen, pounds, dollars, euros, etc. -- but then there's a transaction cost of tracking and converting all the funds anyway. Usually its just easier to pick one stable and highly convertible currency and calculate everything in that. Then if you want to hedge that, you go to the market and buy straddle hedges in different currencies where you're doing to spend the money anyway to stabilize your buying power. Of course, this costs money to set up those hedges, but it reduces the risk of changes in your buying power pretty well.

But the bottom line, is that the oil is priced in dollars for convenience -- its a highly convertible and pretty stable currency. The US is also the largest economy in the world with the largest and most developed economic and banking system, and as such produces the most goods and services, which means a big chunk of the funds being paid for the oil are transferred through the US or spent there anyway -- so you can save transaction costs by denominating in dollars to start with.