Sunday, July 13, 2008

Q: Who Ends Up With the Oil? A: We Do.

T. Boone Pickens -- As imports grow and world prices rise, the amount of money we send to foreign nations every year is soaring. At current oil prices, we will send $700 billion dollars out of the country this year alone — that's four times the annual cost of the Iraq war.

Projected over the next 10 years the cost will be $10 trillion — it will be the greatest transfer of wealth in the history of mankind.

MP: Now let's see here. Foreign oil producers like Canada, Saudi Arabia, Mexico (top three countries for U.S. imports) send us their oil, and we send them "green pieces of paper with dead presidents' pictures," aka as USDs. That imported oil helps to fuel our economy, cars and factories, raising our standard of living.

Oil producers in Canada, Saudi Arabia and Mexico now have US dollars, which must be spent back in the U.S. on American goods and services, or invested in the U.S. financial markets, either by the oil producers, or by those who buy the USDs from them.

Importing oil certainly involves a transfer, but it's not a transfer of wealth, it's a market transaction involving the exchange of oil for currency.

If it IS a transfer of wealth, it seems like we got the better end of the deal: Their valuable natural resources get transferred to the U.S., in exchange for paper currency, which gets spent back here eventually.

In T. Boone Pickens' version, it seems like wealth gets transferred overseas without any benefit to the U.S. But oil imports, like all trade, involves mutually beneficial exchange. Remember trade is win-win, not win-lose (like T. Boone Pickens suggests), or lose-lose (the way the Soviets supposedly described a market exchange
-buyers lose their money, and sellers lose their goods).

Update: One dictionary definition of "wealth" is "an abundance of valuable resources." In that case, wouldn't T. Boone Pickens' "greatest transfer of wealth in the history of mankind" be a transfer of wealth in the form of valuable natural resources (oil) TO the United States, and not a transfer of wealth FROM the United States in the form of paper currency?


At 7/13/2008 10:56 AM, Anonymous Anonymous said...

From my college economics classes, I recall those "'green pieces of paper with dead presidents' pictures,' aka as USDs," being called stores of value or wealth. Those pieces of paper are currently being used, among other things, to purchase more pieces of paper known as Treasuries (creating more future debt for US tax payers and more transfer of wealth) and funding terrorists. Mr Pickens is correct; we need energy independence.

At 7/13/2008 12:36 PM, Blogger juandos said...

Isn't it interesting that Pickens who rightfully pushing for what's called, "energy independence" is making the call that peak oil is already here?

So we supposedly need alternative forms of energy right now...

So Pickens in his wisdom thinks that wind farms just might help out a bit...

What I personally find interesting is that Pickens is a major stake holder in British Petroleum...

Isn't it convenient that British Petroleum is pushing wind farms?

Must be mere coincidence...

At 7/13/2008 12:47 PM, Blogger Unknown said...

Dear MP:

(1) If the Arabs keep the money they receive in USD then the situation is better. But if they start exchanging the money for other currencies (like they have been doing to an extend) then THERE IS transfer of wealth because:

(1) USD loses value and Americans need more money to purchase other needed goods from overseas, like China.

(2) Imported inflation reduces purchasing power in the case of sliding currency.

So, the situation can be lose-win, if there are more players involved, in this case a foreign exchange party that will buy USD at lower prices in exchange for another currency.

For example, China understands this and they do not exchange dollars. At this point and up to this point, trade with China is win-win. Chinese know that if it turns lose-win, tariffs will be imposed. So they do not sell dollars.

At 7/13/2008 1:35 PM, Blogger Colm O'Connor said...

It IS a transfer of wealth. You pay for the gas that you use to drive to work, where you create value that is transferred to the countries which dig up their oil via those little green pieces of paper.

Your blog post is directly implying that these little green pieces of paper lack value. Well I'd like to spend mine on things OTHER than 3rd world dictatorships if at all possible.

At 7/13/2008 2:21 PM, Blogger David Foster said...

Thought experiment: Suppose a law was passed requiring all vehicle fueling to be done by Certified Gas-Station Attendants, and these individuals had to be paid a minimum of $100,000/yr each. To avoid diverting U.S. labor to this function, CGSEs will all be immigrants with special visas, who will be allowed to bring their families. Substantially all of the money paid to the CGSEs would stay in the U.S. economy or would be quickly recycled back into it.

Would you argue that these transfers of money to the CGSEs did not reduce the standard of living of everyone else in the country? How is this different from the situation with oil imports?

At 7/13/2008 2:42 PM, Blogger Unknown said...

David, you are right that American consumers in your exercise are worse off than they were before the new attendants, but I suspect the issue here is whether or not American consumers would be better off if instead of jacking up prices to pay wealthy attendants the gas stations were closed outright.

Yes, by closing the stations we avoid transfering consumption to the $100k salaried attendants, but we also lose out on the production that the oil would have allowed to take place which should exceed $100k by a large margin.

At 7/13/2008 3:15 PM, Blogger David Foster said...'re correct, of course, that we're better off leaving the gas stations open than closing them. But we're worse off than we were before the CGSE certification requirement. Similarly, we're worse off because of the increase in fuel prices. The fact that the money stay in the U.S. (gas station case) or comes back to the U.S. (oil purchase case) doesn't change that fact.

At 7/13/2008 4:41 PM, Blogger Unknown said...

"In that case, wouldn't T. Boone Pickens' "greatest transfer of wealth in the history of mankind" be a transfer of wealth in the form of valuable natural resources (oil) TO the United States, and not a transfer of wealth FROM the United States in the form of paper currency?"

Good question MP. Even Protagoras, the Sophist of all Sophists and my idol, wouldn't have come up with such excellent rhetoric. Bravo, that's why I admire you.

The answer is it depends. If Americans (and anyone else for that matter) are productive enough there is no wealth tarnsfered.

But if Americans (and others) start selling assets and resources to foreigners to raise cash to buy energy products, then there will be transfer of wealth.

Money printing will not solve the problem because it is taken care of in the price of oil as it is reflected in the value of the dollar.

In God We Trust.

At 7/13/2008 5:20 PM, Anonymous Anonymous said...


My compliments on 2 thought provoking posts. Nice to see a logically argued position.

Keep up the good work.

At 7/13/2008 8:22 PM, Blogger juandos said...

Hmmm, this might be interesting to explore: "USD loses value and Americans need more money to purchase other needed goods from overseas, like China"...

Yes, that's true but why is the USD losing value?

Is it ONLY due to the fact that we have such a large foreign trade debt or could there possibly more to it?

I'm wonder if the Arabs, the Indonesians and even the Canadians and Mexicans can see the coming debt tsunami that entitlements (regardless of how much tax is extorted by the feds) is putting on each and every person in this country and yet nothing apparently is being done about it?

I also wonder the same if the said peoples we import oil from question American character?

I mean they can get the same reports of what the untapped reserves are in and around the US and yet these peoples see that we haven't been doing a real good job of exerting national will and going to get it, what might that say to these peoples?


"Let's stick it to the chumps"?

At 7/13/2008 8:58 PM, Anonymous Anonymous said...

I'm not going to get into the economic side of this, but Mr Pickens is correct about our need to be energy independent - I'd use the words "to control our energy destiny". We have to control our destiny, or someone else will.

I'll even agree with him that we'll need all the various energy options (wind, solar, hydro, nuclear, geothermal, petroleum and natural gas) contributing in quantity to do so.

But we also need to note that he has huge investments in gas, oil and is ramping up his wind operations - so at least part of his motivation is making lots of his money.

Not that that's a bad thing.

Juandos mentions Pickens ownership in BP and BP is pushing wind farms, well guess what - BP is also pushing solar.

It's nice that BP is thinking "Beyond Petroleum"... as their PR and advertising flaks say.

At 7/13/2008 11:00 PM, Anonymous Anonymous said...

BP could also stand for "beyond profit". Wind & solar are still not economically viable without massive subsidization and simply do not provide reliable base load power.

Advocates notably use the phrase "installed capacity" rather than admitting the reality that there are many days when the windmills don't have sufficient breeze to even turn.

We have one of white elephant windmills in Toronto which is often at dead stop. No figures are available on cost, efficacy, maintenance, or any other element of this "success story" from Hydro One's website.

At 7/14/2008 9:46 AM, Blogger the buggy professor said...

A very stimulating commentary, Mark, and so are the posted replies.

1) True, once the dollars for oil are owned by foreign governments or firms, either these owners or others to whom they sell the dollars (at a reduced nominal exchange rate for the $) will eventually invest them back in the US or use them to buy American exports.

If, though, most are used for investment purposes here, then either American taxpayers or American owners of business firms (say, stockholders) will have to pay interest on those invested dollars to foreigners one way or another.

In all these cases, there is a transfer of US wealth in the form of ongoing payments to foreigners.

2) The wealth effect. If the foreign owners of the oil-dollars sell them to other foreigners, then that will lead, as noted above, to the decline in the nominal dollar exchange rate. That makes the US as a country less rich in the world.

The offsetting compensation is that we will then export more and import less. As some of your other posts note, US GDP growth is being fueled for the first time since the late 1980s and very early 1990s by our rapidly growing export sales.

3) The distributional effect. Quite simply, ever higher oil prices --- whether or not we’re dependent on foreign imports or not --- have and will continue to hit harder on low-wage and average-wage Americans, and they will continue to dislike the changes in their household consumption and the decline in their real wages.
And they will continue, as a result, to be pessimistic about the US economy, with the predictable fall-out on the presidential and Congressional elections this fall . . . and very likely into the future.

3) The foreign policy fall-outs. Two need to be singled out.

First, as foreign governments like those in the Persian Gulf gain more and more financial influence through their dollar holdings --- however invested in the US (Treasury bonds, corporate bonds, the stock market, outright purchases of US firms or real estate) --- they will gain political leverage of sorts, won't they? over US policymaking. Not just, say, in the need of the Federal Reserve to consider monetary policy in the light of what those governments will do with their dollar holdings, but in growing influence over certain aspects of US foreign policy.

Second, we are and have been way too enmeshed in the military protection of gangster-Arab regimes in the Middle East because of our oil dependence. That has given them far too much influence in our foreign and security policies as a great power.

4) Mind you, I'm not saying that we intervened militarily in Iraq mainly because of oil. Still, if there were no oil in Iraq or the rest of the Persian Gulf (or we were entirely energy independent) I doubt whether we would have been devoting so many resources ---- in US dollars and blood --- in that area of the world.

The more we become dependent on Arab oil --- and it makes no difference if the US itself imports mainly from non-Arab oil producing states --- the more we become prisoners of sorts of what ensues in the Middle East, way beyond what otherwise our security interests would require.

And this is a region of the world that is profoundly unstable, with the instability likely to extend way into the future.

-- Michael Gordon, AKA, the buggy professor:

At 7/14/2008 7:35 PM, Blogger Craig Howard said...

"Those pieces of paper are currently being used, among other things, to purchase more pieces of paper known as Treasuries (creating more future debt for US tax payers and more transfer of wealth) and funding terrorists."

Those pieces of paper don't create debt, our very own government creates it. Please, let's not confuse a so-called trade deficit with a federal government budget deficit. The former doesn't matter and the latter has nothing to do with it.

At 7/15/2008 10:12 AM, Blogger the buggy professor said...


1) In reality, the two deficits --- federal and trade (more accurately a current account) --- are causally related.

2) You see, by definition, a current account deficit --- trade in goods and services (plus unilateral transfers like foreign aid or Mexican workers in the US sending dollars home) --- exactly equals the gap between US investment at home and abroad and US savings. The gap is filled by foreigners using their savings to buy US financial assets . . . including Treasury bonds.

3) The US savings-investment gap: though there is no direct measure of US savings --- and some contest the stress on "net" vs. "gross" savings and whether average individuals are wrong to consider their investments in pensions and others as "savings" --- those savings do, by definitional use, equal net investment.

And if the federal government is running a deficit, it reduces private US savings by selling Treasury bonds (and bills) and hence increases the gap between savings and investment. The greater the federal deficit, the greater the gap (unless, of course, which is not the case, US private savings were large enough to cover both federal deficits and private and public investment.)

4) Oppositely, countries with excess savings over total investment will run current account surpluses and export the excess capital abroad to balance their overall balance-of-payments.

6) All this is definitional, please note. The causal influences and direction are more controversial: for instance, there are lots of foreign investors who send their capital to the US. This raises the US$ nominal exchange rate, and that in turn reduces US exports and increases US imports, possibly creating the current account deficit that balances the capital account surplus (short- and long-term capital inflows and outflows).

7) Note one other thing. Contrary to man-in-the-street economics, the industrial countries with the largest current accounts as a percentage of GDP --- leaving aside Norway, the third or fourth largest oil exporter in the world --- are Japan and Germany, and they have been for decades. And yet the two countries have vied since 1991 to rack up the worst record of real GDP growth since the Great Depression of the 1930s.

By contrast, the US has been running an ever larger current account deficit since 1991 (as it did in the late 1970s and the early 1980s), and yet it has grown far faster in GDP than any other major industrial country.

And capital inflows from abroad have financed the ever larger current account deficit. Can this go on forever? Should it?

8) In particular, are we not benefiting now, as long as inflationary pressures are limited in the US economy (so far anyway), from a falling dollar as foreign investors realign their portfolios and sell off some of their US financial assets for euro-based ones? In the process of this falling exchange rate of the $, US exports have been booming . . . their growth well over 15% yearly for several years now.

-- Michael Gordon, aka the buggy professor,

PS It's a pleasure to read Mark's data-filled posts and his clear, to-the-point commentaries, as well as participate in these exchanges when I get some free time. Thank you everybody.

At 7/16/2008 3:38 AM, Anonymous Anonymous said...

Doesn't all this talk about Arab nations controlling are foreign policy through oil leave out the important fact that they need the US$ as much as we need oil?

Arguing that Arab countries or any other county that sells us oil can somehow control our policy decisions implies that they are able to withhold their resources if we make decisions they don't agree with.

They can no more not sell to the US, than we can not buy what they're selling. Oil producing countries in the Arab world have their economies fueled by funds from oil, without our money most of the countries wouldn't function.

So if they can't withhold oil and they need us just as much as we need them, where's the problem?


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