Understanding the Relationship Between Oil and the US Dollar

There’s no doubt that oil prices have been continually under security for years now, thanks primarily to a continued imbalance between supply and demand in the marketplace.

Most recently, oil prices fell once again on Tuesday this week, with weak demand once again at the heart of this price slump. US West Texas Intermediate crude settled down 94 cents or 1.4% from Friday’s close, while Brent crude features were down 53 cents or 0.7% at $71.69 per barrel.

Another key factor in this decline is an increasingly strong US dollar, which once again bears out the relationship that exists between these two assets. We’ll explore this further below, while asking how this correlation has evolved over time.

The Development of Oil and US Price Correlations

A number of countries leveraged their crude oil reserves during the energy market’s historic bull run of the mid-1990s and mid-noughties, as governments across the globe borrowed heavily to build the necessary infrastructure and initiate relevant social programs.

These plans stalled following the 2008 economic crash, causing some countries to deleverage while others doubled down on their investments and continued to pursue aggressive changes in energy policy.

As debt loads increased, energy growth remained high in the near-term, prior to the crude oil price collapse in 2014. This left commodity-sensitive countries like Canada, Russia and Brazil struggling for a considerable period of time, as they adjusted to plummeting values in their respective currencies until a resurgence in 2017.

The subsequent selling pressure has spread across all commodity groups, against the backdrop and sustained risk of worldwide deflation.

As a result, the correlation between affected commodities (particularly crude oil) and the dominant USD, which remains the most dominant currency reserve in the world.

Oil and the Greenback – Their Relationship Explored

The correlation between these two assets is also underpinned on a fundamental level, by the simple fact that the price of crude oil is always quoted in US dollars.

Because of this, each uptick and downward turn in the dollar has a direct impact on how crude oil is valued in real-time, creating an immediate realignment between the greenback and a number of forex crosses. 

These prices and movements can be traced through Oanda trading platforms, and there’s no doubt that commodity and oil traders constantly keep their eyes on the performance of the greenback and key pairs such as the EUR/USD.

Of course, such movements are less correlated in nations without significant crude oil reserves (such as Japan), and more closely linked in countries in regions that have significant commodity reserves like Brazil, Canada and Russia.

The Bottom Line – How is This Relationship Changing?

Typically, the price of oil is inversely correlated to the price of the USD, but this relationship has begun to change since US oil supplies and exports have increased.

At the same time, US oil imports have decreased, meaning that higher oil prices no longer necessarily contribute to a higher US trade deficit (and actually helps to decrease it over time).

This means that the historically strong inverse relationship between oil prices and the USD is becoming increasingly stable, with this trend unlikely to change any time soon.




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