Should the money supply be increased with higher oil prices?

I've never understood why the "core" index excludes energy and food. Those two things are pretty "core" to my existence. I've always beleived that their volatility makes it hard to calculate, but that's why we have computers now.

Sachin

 

The problem is that just having more green paper does not mean you can buy more. The reason oil is expensive is because that is the economy's way of telling us we cannot buy as much as we used to because there isn't enough to meet the demand at the old price. Giving people money to buy oil does not increase the amount of oil, so the economy will naturally react by raising oil prices again. So all you will get is classic inflation with no increase in standard of living.

I would argue that when oil gets expensive, you should decrease the money supply. The amount of money should reflect the overall economy, which is determined by energy use.

 

At the very least you don't flood the market with more dollars.

 

Exactly. Worse inflation affects the poor the most.

 

Although there is a lot of speculating going on, the higher price of oil is a structural development.

Structural developments like that cannot be circumvented by going to the presses. If so, you'll only wind up increasing the core inflation rate. Given that salaries lag behind price developments, these poor people end up having even less real GDP.

When oil is expensive, try another fuel source.

 

That's what an economist would say. But the real world sometimes doesn't give you that option.

 

The real world is what we make of it. Our addiction to oil is our own.

The lack of options you are referring to mainly consist of (1) capital investments by oil companies, refineries, automobile manufacturers that take a long time to write off and (2) a highly competitive and globalized business environment that decreases incentives to invest substantially in alternative fuel sources.

The real world is what we make of it. Sad thing is that less paid workers often pay heaviest for a non-existent "lack of options". Today's inflationary pressure due to sky-high fuel prices is just one example.

 

I just read an interesting newsletter on this very issue...

You need to state your email first to read it, and thereby register to the newsletter, but it's definitely worth it

http://www.2000wave.com/article.asp?id=mwo042508

If you are denied direct access, read "The Velocity of Money"

 

The world has limits. We are bumping into one right now.

Those investments represent energy, which is the real currency of the world. It takes energy to create an economic structure that distributes energy, and the oil replacements just don't have enough worth at the moment (if ever) to cause us to go about creating a new infrastructure.

 

You bet, it takes energy. See points (1) and (2) above why this energy is now channeled somewhere else.

If ever? Don't be silly. As you point out: In the end it is all a matter of building enough production capacity. But the longer we wait doing so, the harsher the transition period will be.

As to the original point made in this thread:

"A growing chorus worries that ever lower policy rates are adding to America’s problems. Some prominent economists have urged the central bank to stop. Fed cuts, they argue, are doing little to reduce borrowing costs [AKF: It is a full-blown seller's market right now] but have sent commodity prices soaring—fuelling inflation and hitting Americans’ wallets hard." (this week's economist)

[I know, I know, "prominent economists"...]

 

And besides -- let us just for one moment presume you are right and that an alternative to oil can never be truly found -- is that reason enough to try to compensate poor people for inflationary pressures by going to the printing presses and add some more?

I would say no.

But again returning to the first post of this thread:

I think that the professors of DoctorD (we are talking abour the early 80s here) were still under the impression that we would never see the end of oil, i.e. they were not treating it for what it is: an exhaustible resource the future scarcity of which will be translated in today's prices. (at least at the rate of the interest rate) Steep and rising oil prices are, thus, a structural development.

As to the solution proposed by DoctorD's professors:

Sure, oil has little elasticity and, sure, more money for the masses will be spent predominantly on oil. This reasoning of course washes when talking about a non-exhaustible resource. However, when talking about oil, which is a clear-cut exhaustible resource, it does not wash. Far from it. In fact, what these professors actually proposed was the building of a pyramid scheme.

To be sure, when continually rising oil prices are a sure thing -- a structural development -- you will end up continually compensating the masses for higher oil prices. Let's also assume that this extra liquidity will not initially translate into higher non-oil-related prices (which is rather doubtful), then it well take just one unexpected newly discovered oil field off the coast of south america to send the core inflationary index sky-high.

Am I making sense? (this is an interesting line of reasoning I think...)

 

http://online.wsj.com/article/SB120960283271557999.html?mod=opinion_main_commentaries
an interesting take, and one which I would support.

 

I sure would do too!

 

It isn't because different energy sources are of different quality. You get back about 4 times the energy it takes to mine coal. You get back just about nothing compared to the energy it takes to create corn ethanol. You get back hundreds of times the energy it takes to mine oil - and back a few decades, it was actually thousands in some places. The only thing as good is hydroelectric, and we aren't going to be building any more dams. Oil is special because it was such a high quality form of energy and was so easy to get. If we switch to other forms of energy, it would mean that lots of capital going to other places in the economy will have to switch to that new energy source, and lots of people will have to start working in the energy production field. For example, a nuclear reactor gives you about as much energy as a single Saudi oil well. But it is so much harder to build and so much more capital and manpower intensive to maintain.

It's already too late. We are at peak oil production. It's going to go down from now on. Even if there is a replacement, in the time it takes to ramp up to match the energy we lose from lower oil production we will see continued food problem, economic disaster, and conflict over resources.

 

That wasn't my argument - I wanted the dollar tied to oil, and the money supply lowered as oil gets scarce. I want a deflationary brake on the economy.

 

Ah, yes, I see, you actually did......I remember know you are not one of DoctorD's Professors...

ok

Just for the record, do you want less inflation? or deflation proper? If the latter, I can understand the reasoning behind it, but there is more to the economy than the energy sector. As to the other sectors, deflation will not stultify them only if there is rapid technological progress (e.g. US late 19th century). If not, you're in trouble obviously.

I guess we cannot come to terms on the matter of energy resources. I know I am rather obtusely walking on the sunny side of that street, but I really believe that it is possible to compensate for the non-exhaustibleness of oil by focussing on alternatives. Granted, these are not as efficient, but is that a problem?

Sure it is, but not as big as you think.

A shift of investments to the energy sector (excluding oil) would I presume (and you do too) entail a loss in overall economic efficiency. You get less energy for every dollar/euro you put in, so you have to put in a lot of them to get the same amount of energy. Presuming that, in the future, it will however be worthwile to invest in the energy sector, less investement will take place in other sectors of the economy, except I think in agriculture.

The upside to this scenario are following: We will all be in a job. (both the energy and agricultural sector still use a lot of labour)

The downside is that we will be getting paid less, because economic efficiency is down and will be down for years to come.

 

lighten up...there is always a new apocalyps on the horizon, but most commonly it tends to stay there.

 

Why would you want to money supply lowered as oil gets scare? It's an oversupply of money that causes inflation, not oil. If you want to prevent inflation tell the Fed to printing money.

 

To stop printing money?


It makes sense in a sense:

If you lower the money supply if oil gets dearer, people will have less to spend at first, then prices will adjust, and everyone's purchase power will remain the same (currency fluctuations not taken into account). If oil gets dearer another time round, you just repeat the trick.

However, you'll be running the rest of the producers out of business. And then the price of oil will indeed be low!

 

Make sense? Since when has anyone shown that oil prices alone CAUSE (that is, causation; not correlation) inflation? Plenty of countries have experienced a butt ton of inflation at times when oil's price was dropping, so how does that solve anything? Why not just lower the money supply when INFLATION is occurring? Why tie it to one specific commodity?