Quantitative Easing, Falling Dollar Help Drive Gas Prices Upward, GOP Says

May 24, 2011 - 3:55 AM

gasoline prices, gas station

A new report blames the falling value of the dollar and the Fed's quantitative easing policy for inflating the price of oil, and therefore the price of gas. (AP File Photo/Matt Rourke)

(CNSNews.com) A falling U.S. dollar and the Federal Reserve’s quantitative easing policy have helped to drive gas prices to near-record highs, accounting for an estimated 56.5 cents of the current price of a gallon of gas.

An analysis produced by the Republican staff of Congress’ Joint Economic Committee blames the falling value of the dollar and the Fed's quantitative easing policy for inflating the price of oil, and therefore the price of gasoline.

The report explains that while many factors contribute to the market price of oil, one is the value of the “unit of exchange” – the currency in which barrels of oil are traded.

“Oil is an international commodity that trades in dollars,” the report states. “The value of the unit of exchange, in this case the dollar, plays an important role in determining the ‘headline’ price for the underlying commodity.”

Essentially, as the dollar weakens in value the price of oil can go up because more dollars are required to buy one barrel of oil. When the falling dollar is combined with other market factors, such as geopolitical volatility and rising demand, oil prices can climb even faster.

The value of the dollar affects the price of oil because oil is traded internationally in dollars – no matter where it is bought and sold, it is always priced in dollars. When the value of the dollar falls, the price of oil will rise to reflect the fact that the dollar is worth less.

As an illustration, the JEC Republicans point out that the dollar price of oil has increased 150 percent since 2008. By contrast, if oil were sold in Canadian dollars its price would only have increased by 96 percent over that same period.

The report also notes that the Fed has engaged in two separate rounds of quantitative easing, a policy that is designed to pump new money – liquidity – into the economy. Because quantitative easing inserts large amounts of cash into the economy, it can push the value of the dollar downward.

“A consequence of the Federal Reserve’s policy of easing was to put downward pressure on the value of the dollar.”

The report then charts the price of oil and the value of the dollar, showing a strong correlation between the two – as the dollar changes in value so too does the price of oil.

“[I]f the dollar’s value had remained unchanged since the announcement of QE1 [the first round of quantitative easing], the price of oil (Brent Crude) would be $17.04 per barrel less.”

While more than just oil prices are reflected in the price of gas at the pump – things like transportation costs and station overhead also contribute – the price of oil strongly correlates to the price of gas, demonstrating that when oil prices rise, gas prices typically rise too.

The JEC Republicans noted that because the declining dollar is contributing to the rise in oil prices it is also contributing to the rise in gas prices. According to their calculations the declining dollar, caused largely by the Fed’s quantitative easing policy, has accounted for 56.5 cents of the current $3.96 per gallon price of gas.

Put simply, were it not for the falling dollar caused by quantitative easing, gas would be 56.5 cents cheaper than it is today.

“In other words,” the report says, “the dollar’s decline accounts for 56.5 cents of the $3.963 current price of gasoline.”