How the Fed, crude, and Syria are changed by shale
World financial markets have been a turmoil since Ben Bernanke announced that the Federal Reserve would begin to scale back its $85 billion monthly purchases of US Treasury and mortgage-backed securities bonds. The American central bank called this unorthodox monetary policy quantitative easing, or QE.
After the Lehman Brothers failure, the Bernanke Fed slashed its overnight borrowing rate to near zero in money markets and expanded its balance sheet from $800 billion to $3.6 billion in its quest to avoid another Great Depression on a global scale. The Fed’s money-printing spree, later emulated by the European Central Bank, the Bank of England and the Bank of Japan, led to one of the swiftest, most profitable bull markets on Wall Street.
The S&P500 index bottomed at 667 in March 2009 and then soared more than 150 per cent to as high as 1,709 in August 2013. The yield on the 10-year US Treasury note reached a hundred-year low at 1.38 per cent in the summer of 2012. Even though it has climbed since May to 2.1 per cent. The Federal Reserve even managed to revive US home prices, whose epic crash had caused global banking failures in September 2008. However, the Federal Reserve’s $3 trillion money pump has been insufficient to boost the US labour market, with the unemployment rate at 7.3 per cent, the exact rate at which Bill Clinton broke out George H.W. Bush out of the White House on Election Day 1992.
Dr Bernanke has now concluded that the golden age of QE is over. The US central bank will reduce its monthly bond purchases by at least $10-$15 billion next week and end it by mid-2014 when the unemployment rate falls to seven per cent. This means that the size of the American central bank’s balance sheet will rise at a slower pace and even begin to shrink the moment the unemployment rate falls to seven per cent. The end of QE, in effect, is a de facto Fed monetary tightening, ordinarily the kiss of death for commodities like crude oil and gold, as well as high leveraged emerging markets
Emerging markets went into a classic Fed “taper tantrum” as offshore investors sold their currencies, domestic government bonds and currencies. The price falls were most acute current account deficit countries with high inflation rates dependent on inflows from international investors such as India, Turkey, Brazil and Indonesia. Gold fell from $1,900 an ounce in September 2011 to $1,300 now, Oil prices are near their post-Lehman highs due to multiple supply shocks in the Middle East, Nigeria and the North Sea at a time of rising economic growth in the US, China and Europe. When supply shocks obsess the crude oil market, not even the threat of Fed tightening or a full blown emerging market crisis is sufficient to trigger a sell off, let alone a bear market, in black gold. The US-Russian negotiations in Geneva to disarm the Syrian regime’s chemical weapons arsenal have caused Brent crude prices to soften to $112.
Though Syria is neither a major nor gas oil producer, its brutal civil war has strategic significance to the energy markets. This proxy war by rival energy producers makes Syria a lethal time bomb for both the politics of the Middle East and the global oil and gas market. Syria’s other significance is its spillover impact on Iraq, the Opec’s second leading producer after the kingdom of Saudi Arabia. If the US attacks Syria, Washington could well release crude from strategic petroleum reserves, as George W. Bush did on the eve of the Iraq invasion in March 2003. This policy response is inevitable since a spike to $150 could trigger food riots, sovereign defaults and hyperinflation in emerging markets and tip the Western industrial economies into recession. China, South Korea and Japan are all hugely dependent on expensive oil and LNG imports from the Gulf, the reason the Straits of Malacca are an energy chokepoint and Singapore is one of the world’s major oil trading hubs.
The US shale oil boom promises the White House energy independence by 2020 but is already having an impact on its Middle East diplomacy. Would the US have imposed tight sanctions on Iran and dropped Nato bombs on Colonel Gaddafi in Libya if the Bakken Field in North Dakota or the Pevmian Basin in Texas did not exist? Even the loss of 1.5MBD of Iran crude did not trigger an oil panic, unlike the case in 1979, when the Shah of Iran lost his Peacock Throne in Khoemini’s revolution.