Saturday, July 27, 2013

The Oil Shock: Another Story?

You remember the Nixon oil shock? If you are of a certain age, of course you do. In 1973 the world price of oil jumped from $3 to $8-$9, then $12-$15, then (in the Reagan years) over $30.  And not just oil: all sorts of commodity prices went through the roof.

You thought it was all about the cartel, right, OPEC, perhaps actuated by the Arab-Israeli Yom Kippur War—a calamity for the United States? Could be, but Yanis Varoufakis thinks otherwise. In The Global Minotaur, he explains how it was all really our (well: Henry Kissinger's) idea:

[I]f the Nixon administration had truly opposed oil price hikes, how are we to explain the fact that its closest allies, the Shah of Iran, President Suharto of Indonesia and the Venezuelan government, not only backed the increase but led the campaign to bring them about? How are we to account for the administration's scuttling of the Tehran negotiations between the oil companies (the so-called “Sisters”) and OPEC just before an agreement was reached that would have depressed prices? … [W]hy did the United States not oppose with any degree of real commitment the large increases in oil prices?
Why, you ask? Varoufakis answers:

The simple reason is that … the Nixon administration [did not] care to prevent OPEC from pushing the price of oil higher. For these hikes were not inconsistent with the administration's very own plans for a substantial increase in the global prices of energy and primary commodities. Indeed, the Saudis have consistently claimed that Henry Kissinger, keener to manage the flow of petro-dollars to America than to prevent the rise of energy prices, was encouraging them all the way to push the price of oil up by a factor of between two and four. So long as oil sales were denominated in dollars, the US administration had no quarrel with oil price increases.

Recalling that the new aim was to find ways of financing the US twin deficits [budget and trade—ed.] without cutting US government spending, or increasing taxes, or reducing US world dominance, American policy makers understood that they had a simple task: to entice the rest of the world to finance the USA's deficits. … [A]s oil prices rose, every part of the capitalist world was adversely affected. However, Japan and Western Europe (largely lacking their own oil) were burdened much more than the United States.

Meanwhile, the rise in oil prices led to mountainous rents piling up in bank accounts from Saudi Arabia to Indonesia, as well as huge receipts for US oil companies. All these petro-dollars soon found their way to Wall Street's hospitable bosom.
And there you have it. Now, I think of myself as being a moderately attentive observer of conspiracy theories and their kin (I even buy a couple, though not most). But I never heard of this one. I tried it on some of my homies who dismissed it with a poorly concealed sniff of contempt at my foolishness for even countenancing such nonsense. It does sound a bit baroque, like a nine-cushion carom shot. Are there any takers?


jed said...

There's a much simpler way to put it:

- Oil companies realize that oil prices could be raised dramatically by OPEC action, leaving them with clean hands and fat wallets.

- They find rationales for US support and allies in the administration.

- Profit!!!

Larry, The Barefoot Bum said...

Well, it doesn't go thud instead of ding, and I think my economic intuition is not totally bad.

It doesn't sound all that baroque; it's not even A-Team or Mission Impossible complicated. Raise prices on oil, and the rest -- less bad hit to the US, people having to borrow more dollars, dollars having to be reinvested somewhere, why not the the US -- seems to follow pretty naturally.

Ken Houghton said...

I'm with him until we start talking trade and budget deficit. The U.S. has a declining trade deficit in 1972, and a surplus in 1973-4, when the first "shock" occurs. (See FRED: Balance on Current Account [BOPBCA]).

Govt debt is a bit more problematic--it continues to trend higher before exploding for "Morning in America"--but it's not a severe issue by any stretch. (On the demand side, it's easier to sell debt during the Nixon years, since [a] coupons are no longer capped and [b] fees on equity trading get capped around the same time, so businesses pay attention to debt again.)

Larry, The Barefoot Bum said...

I'm with him until we start talking trade and budget deficit. The U.S. has a declining trade deficit in 1972, and a surplus in 1973-4, when the first "shock" occurs.

Yes, but a hegemonic power wants a trade deficit: the hegemon receives actual goods and services in exchange for pieces of paper with pictures of dead presidents. A declining trade deficit, even a trade surplus, is therefore a problem to be fixed.

See, e.g., The US Current Account Deficit and Economic Development: Collateral for a Total Return Swap by Michael P. Dooley, David Folkerts-Landau, Peter M. Garber. The abstract:

We argue that a chronic US current account deficit is an integral and sustainable feature of a successful international monetary system. The US deficit supplies international collateral to the periphery. International collateral in turn supports two-way trade in financial assets that liberates capital formation in poor countries from inefficient domestic financial markets. The implicit international contract is analogous to a total return swap in domestic financial markets. Using market-determined collateral arrangements from these transactions we compute the collateral requirements consistent with recent foreign direct investment in China. The data are remarkably consistent with such calculations. The analysis helps explain why net capital flows from poor to rich countries and recent evidence that net outflows of capital are associated with relatively high growth rates in emerging markets. It also clarifies the role of the reserve currency in the system.

(If you don't have access to NBER working papers, email me at lrhamelin (at) gmail (dot) com, and I'll send you a copy of the paper.)

Larry, The Barefoot Bum said...

The ability to run a trade deficit is the benefit that justifies the costs (i.e. a huge military) that a hegemonic power must incur.

mike shupp said...

I am semi-dubious. We just weren't that sophisticated about economics back in the early 1970s, and international trade was just a tiny part (2-3% of GNP) of the US economy. So I'm sort of doubtful this ploy occurred to Nixon and Kissinger, and even more doubtful that they would have counted on it working.