Does The Dollar/Oil Link Still Hold?
Yet during the last few weeks, the euro has fallen from its all time high of $1.60/€ to $1.548/€, a decline of more than 3%. Meanwhile, the dollar price of oil is up nearly 6%, from $119 per barrel to $126 per barrel. That means a quite dramatic rise in the euro price of oil, up from €74.5 per barrel of oil to more than €81 per barrel of oil, representing a 9% increase.
The fact that the price of the euro and oil have moved in opposite directions during the last few weeks would perhaps by some be taken as a falsification of the link between these two factors. But that would be mistaken. The link between the two is always a ceteris paribus link, i.e. the link is that all other things being equal a higher euro will also raise the dollar price of oil. But in the real world, all other things aren't equal. There have been two other things pushing up oil, two things which have overwhelmed the price lowering effect of the weaker euro.
First of all, monetary expansion will push up oil prices even without exchange rate effects. Because the price of oil is fully flexible, it will move up immediately in response to monetary expansion, and it will do so even if the exchange rate of the domestic currency does not fall against other paper currencies. Or to put it another way, assume that we had only one central bank and one currency in the entire world, a Global Monetary Union. Even though at that point there wouldn't be any exchange rate movements, any inflating by the Global Central Bank would push up oil prices disproportionately in the beginning as, again, oil prices are fully flexible in contrast to the much more sticky prices of the things we see in the supermarkets. And returning to the analysis of the current oil price, as we see not only the Fed, but the ECB and most other central banks inflating this is pushing up oil prices.
Moreover, some non-monetary factors have also been at work here, including almost constant reports of supply disruptions of oil from Nigeria.
In the medium-term, the tight supply conditions and inflationary conditions around the world should cause oil prices to continue to rise to new all-time highs( $150 or more is certainly not out of the question). However, there is a high probability of some form of short term correction considering how fast oil has risen in the last few weeks and months.