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G-7 Central Bankers Stymied by "Crude Oil Vigilantes"

May 8, 2008

The "Group of Seven" central bankers, who control the money spigots in 2/3s of the world's economy, huddled with their colleagues from China and Russia behind closed doors in Basel, Switzerland this week, haunted by the "Crude Oil Vigilantes," who threaten to unravel G-7 schemes to rescue troubled global banks. Earlier today, the price of West Texas Sweet traded as high as $124 /barrel, doubling from a year ago, and guiding Chicago Corn futures to all-time highs.

European Central Bank chief, Jean Trichet, chaired a meeting of central bankers from the "Group of 10" industrialized nations on May 5th, and acknowledged that, "Inflation risks are significant under the influence of oil and energy price increases, commodity price increases more generally, and food and agricultural products. This is perceived in all economies without exception. This is no time for complacency for central banks in any respect," he warned.

In China, food prices rose 21% in the first quarter of 2008 from a year earlier. The Euro zone's figures showed that food prices surged 6.1% in March alone while prices of basic staples such as bread, milk and cheese grew even faster. In the US, bread prices have jumped 12%, milk 20% and flour 32 percent. A dozen eggs are 30% more expensive and tomatoes and bananas are up 13 percent.

"Food pressures are one of the most serious problems that we have to face now," added Poland's central bank chief, Slawomir Skrzypek. "But central banks cannot use monetary policy tools to manage this problem," he said. Worldwide, food prices in March were 57% higher than a year earlier, according to the United Nations. The price of rice is up 120% and wheat has climbed 65%, triggering violent protests across Asia and the Middle East, following reports of deaths from starvation.

Crude prices have doubled in a year and risen four-fold since the US-UK conquest of Iraq's 120 billion barrels of proven oil reserves in April 2003. Powerful economic growth in emerging markets like China, India and Russia has increased demand for crude oil and other commodities, pushing up inflation worldwide. China, India, Russia and the Middle East for the first time will consume more crude oil than the US burning 20.7 million barrels a day this year, an increase of 4.4 percent.

Yet emerging markets burn only a fraction of the energy of the US, leaving enormous room for growth in global demand for crude oil. The 2.45-billion people in China and India used only half as much crude as 300-million Americans last year. The average person in China consumed less than 20% as much energy as the average American, according to US Energy Department. In India, energy use is less than 10% of America on a per-capita basis. Indeed, China's oil imports grew rapidly in the first quarter of 2008, up 15% from a year earlier, to 45.5 million tons.

Last year, the United States imported $330 billion of crude oil from abroad at an average price of $64 per barrel. If crude oil were to average $124 /barrel in 2008, the US oil import bill would nearly double by $300 billion, and easily wipe-out the $150 billion of tax rebate checks going out to American households in the weeks ahead. The US government is simply going deeper into debt, to help Americans pay for higher oil prices. The global transfer of wealth will add $1 trillion into the coffers of the OPEC cartel this year, up from OPEC's $665 billion of revenue last year.

US President George Bush, whose approval rating has sunk to an all-time low of 28% in recent polls, said on April 29th, there was no "magic wand" to bring down record-high fuel prices, with angry Americans facing $3.65 a gallon for gasoline and soaring grocery bills. "I firmly believe that, you know, if there was a magic wand to wave, I'd be waving it, of course. I've repeatedly submitted proposals to help address these problems, yet time after time Congress chose to block them," he argued.

Yet it's increasing obvious to most casual observers, that the biggest culprit behind the historic rally in crude oil is the Bush administration itself, which has put enormous political pressure on the Federal Reserve to slash the federal funds rate by 325-basis points to 2%, and crushed the value of the US dollar in the process. That's unleashed the "crude oil vigilantes," who have jacked-up "black gold" by $55 per barrel, since the Fed's rate cutting spree began last August.

The Bernanke Fed, working under the command of US "Plunge Protection Team" (PPT) chief Henry Paulson, has doubled the growth rate of the US M3 money supply to 17.5% rate, its fastest in history, and slashed the fed funds rate far below the inflation rate, to "negative" interest rates. "The turmoil in some global equity markets and the considerable depreciation in the US dollar have encouraged investors to seek better returns in commodities, particularly in crude oil futures. This has driven prices higher," said OPEC Chief Adbullah al-Badri on May 8th.

Sharply higher oil prices are likely to lead to greater production of ethanol, and in turn, lead to greater demand for corn. Earlier this week, corn futures surged to record highs of $6.28 /bushel, after crude oil spiked above $123 a barrel. As crude oil climbs further into record territory, alternative energy markets have also risen, boosting profits for US ethanol makers who use corn as their basic feedstock.

Worldwide demand for corn to feed livestock and to make bio-fuel is putting enormous pressure on global supply. About 20% of the 13-billion bushel US corn crop was consumed by ethanol production last year. That percentage is expected to increase to 30% for the next crop year, ending Aug 31, 2009. But with the US expected to plant less corn, the supply shortage will only worsen. The USDA says farmers will plant 86 million acres of corn in 2008, or 8% less than last year.

While corn growers are reaping record profits, livestock producers are forced to pass on higher animal feed costs to US consumers, who can expect even higher grocery bills. Corn and corn syrup are used in an array of products, meaning the price of everything from candy to soft drinks will eventually go up.

Are the Bernanke Fed and the US Treasury largely responsible for the recent doubling of corn, rice, and soybean prices? Earlier this week, after the US dollar rose to a two-month high of 105-yen, and the Euro fell to a one-month low of $1.5400, on ideas that the Fed was done cutting interest rates, the USDA said export sales of corn sales in the week ended May 1st fell to 337,200 tons, down 39%, from the previous week. Soybean export sales fell to 41,000 tons last week, a marketing year low, down 87% from the previous week and 91% below the four-week average.

Contrary to Mr Bush's feeble explanations, there is a "magic wand" that can rein-in the "crude oil vigilantes," - a quick reversal of the Fed's aggressive rate cuts to defend the US dollar. But PPT commander Paulson is loathe to hiking US interest rates right now, since higher interest rates can undermine the fragile housing market. Instead, Paulson has backed a G-7 plot to knock the Euro lower against the dollar, aiming to wipe-off the speculative froth from the crude oil market.

The G-7 cartel of central bankers agreed on April 11th, "to monitor exchange markets closely, and cooperate as appropriate," - secret code words for intervention in the marketplace, and ramped-up a "jawboning" campaign to knock the Euro off its record high of $1.600. The G-7 enjoyed initial success, knocking the Euro to $1.5400, which in turn, knocked the crude oil market for a $10 /barrel slide to $110.

But the G-7's plot to knock oil prices lower with a weaker Euro, began to unravel, when crude oil resumed its upward thrust, fueled by the Bernanke Fed's quarter-point rate cut to 2%, on April 30th. The advance in crude oil prices to fresh highs was aided by investment banker Goldman Sachs, which predicted the world may face a "super-spike" into a trading range from $150 to $200 a barrel as early as October, up from just over $120 now.

At the pump, $150 per barrel for oil translates into gasoline prices of $4.50 a gallon, putting further strain on US consumers, airlines, truckers, and utilities, and shaving roughly -1.8% off US economic output. Seeking a quick fix to combat the "crude oil vigilantes," the Bush clan is exerting maximum pressure on Saudi king Abdullah to pump more oil, from the kingdom's 3-million bpd of spare capacity.

On May 8th, OPEC's secretary Adbullah al-Badri responded, "There is clearly no shortage of oil in the market." Still, "OPEC stands ready to act if the market shows a need for any further measures," he said. But OPEC chief Chakib Khelil doesn't think an increase in output would cool the oil market, because "there is no link between price levels and supply, and inventories are already high."

Meanwhile, the "crude oil vigilantes" are receiving extra ammunition from the Bank of Canada, which has slashed its overnight loan rate by 150 basis points over the past six-months, including two half-point rate cuts. Canada's new central bank chief is 43-year old youngster, Mark Carney, previously a Goldman Sachs investment banker. The rookie central bank chief is building a reputation for himself as a "radical inflationist," molded along the same lines as Fed chief Ben Bernanke.

Carney is slashing Canadian interest rates, fearful of a slump in Canadian exports to the US economy, its biggest customer. However, over the past 12-months, Canada's employment has increased by 325,000 persons, including 104,000 new jobs in the first quarter, and the jobless rate is just above a 33-year low of 5.8 percent. There hasn't been a meaningful slump in Canadian exports either. So what's the justification for such radical rate cuts by the central bank?

Carney hinted on April 30th, that "Some further monetary stimulus will likely be required to achieve the inflation target over the medium term," he told the House of Commons. Most likely, the Bank of Canada is slashing its interest rates to curb the Loonie's strength against the US$. Yet the un-intended consequence of the clandestine "competitive currency devaluation" game is sharply higher oil prices.

This article is just the Tip-of-the-Iceberg, of what's available in the Global Money Trends newsletter, for insightful analysis and predictions of (1) top stock markets around the world, (2) Commodities such as crude oil, copper, gold, silver, and grains, (3) Foreign currencies (4) Libor interest rates and global bond markets (5) Central banker "Jawboning" and Intervention techniques that move markets.

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