Questions on an article about the USD and Oil Prices

Here’s an article found on I’ve got a couple of basic but important questions that I have: Q1. Right now, the exchange rate between the USD and the EUR is ~USD 1.50=EUR 1.00, and the price of a barrel of crude is ~USD 100. For the sake of this question, let’s assume the rates are: $1.50 = EUR 1.00 and the price of a barrel is $100. Well if oil were to be denominated in EUR, then the price of a barrel would still be $100/barrel, wouldn’t it? The price of a barrel would then be EUR 66.67/barrel, and given the exchange rates, the price for us would still be $100/barrel. Please clarify. Q2. There’s a passage in this article which reads: “In order for OPEC to price oil in another currency, it would need to set its own price, as opposed to relying on the benchmark prices that are set in the free market - a practice the cartel has worked 20 years to avoid.” I thought that oil was traded in a free market, much like the same way that stocks/bonds are traded (based on intrinsic value and also based on supply/demand). What are the advantages/disadvantages of prices not being set on the free market? And how is oil prices *not* currenty set to free market pricing? Ditching the dollar Some OPEC mavericks want to switch to the euro as oil’s pricing basis. But analysts say there are several factors keeping the greenback in the game. EMAIL | PRINT | DIGG | RSS Subscribe to International feed:// Paste this link into your favorite RSS desktop reader See all RSS FEEDS (close) By Steve Hargreaves, staff writer November 20 2007: 6:04 AM EST Special Reportfull coverage Ditching the dollar is not so easy Oil sets sights on $100 What $100 oil would cost you Global warming’s trillion dollar debate Video More video BGC Partners’ David Buik talks with CNN’s Sasha Herriman about the relation of the weak dollar with high oil prices. Play video NEW YORK ( – Despite calls from Iran and Venezuela - OPEC’s steadfast bashers of the U.S. government - experts say there’s little chance the cartel will shift from pricing oil in dollars to something like the euro. At a summit of leaders from Organization of Petroleum Exporting Countries members in Riyadh, Saudi Arabia, over the weekend, Venezuelan head Hugo Chavez and Iranian President Mahmoud Ahmadinejad indicated the historic link between crude oil and the dollar should be severed. “They get our oil and give us a worthless piece of paper,” Ahmadinejad was quoted by the Associated Press. “Some said producing countries should designate a single hard currency aside from the U.S. dollar … to form the basis of our oil trade.” Chavez echoed this sentiment Sunday on the sidelines of the summit, telling the news agency “the empire of the dollar has to end.” “Don’t you see how the dollar has been in free-fall without a parachute?” Chavez said, calling the euro a better option. The effect that switching from pricing oil in dollars to euros might have on the American currency is hard to say, but it’s possible it could further drive down the value of the dollar and hence make oil more expensive for U.S. customers. “That’s the political weapon Iran and Venezuela are trying to leverage,” said Peter Tertzakian, chief energy economist at ARC Financial, a Calgary-based private equity firm. And given that the dollar has declined rapidly over the last few years, there are more people in the euro zone area and the relative stability diversification offers, there are some good reasons for wanting to switch from the dollar to the euro or, even better, a basket of currencies. But rising oil prices, the close relationship between Saudi Arabia and the U.S., and the fact that oil benchmarks such as West Texas intermediate and England’s Brent are priced in dollars make it unlikely OPEC will switch anytime soon. Still waiting to cash in on Iraq’s oil While the dollar has fallen over 50 percent versus the euro since 2002, oil prices are nearly 5 times higher over the same time period. “If you’re a producer, that’s precisely what you’d want it to do,” said Paul Horsnell, head of commodities research at Barclays Capital in London. Horsnell said the fact that oil prices have risen much faster than the dollar has kept most of the OPEC nations happy. “There was a major lack of agreement in making [switching currencies] an issue,” he said. That could be because oil OPEC heavyweight Saudi Arabia is known for keeping the interests of the United States in mind. Talk abounds of the tight relationship between the Saudi royal family and the U.S. government. Some say the United States, in an unwritten agreement dating back to the early days of Saudi oil, promised to guarantee the security of the desert kingdom in exchange for the Saudis making sure crude stays priced in U.S. dollars. Whether that’s true or not, analysts said Saudi Arabia’s King Abdullah was not moved by the euro arguments. “He shut down Chavez like a noisy kid in a class,” said Fadel Gheit, a senior oil analyst at Oppenheimer. “They know where the power lies, and it’s not with Chavez or” the Iranians. Gheit said Saudi Arabia is the only country whose opinion really matters. That’s because the country is the only one with any capacity to pump more oil. So, if it wanted to, it could simply turn the taps some more, watch the price of oil fall, and let the budgets of other OPEC countries dry up. Pricing oil in a currency besides dollars would also pose a technical challenge. For one, oil-producing countries peg their crude to worldwide benchmarks like the stuff that comes from Texas or England’s North Sea. In order for OPEC to price oil in another currency, it would need to set its own price, as opposed to relying on the benchmark prices that are set in the free market - a practice the cartel has worked 20 years to avoid. Furthermore, experts say it’s simply bad to change a system that been in place for so long. “The dollar is like the Microsoft Windows of the oil world,” said Tertzakian. “It’s just hard to switch out of it.” And even if OPEC did switch its oil pricing to another currency, some doubt whether the dollar would really take a hit. The amount of oil OPEC sells on the world market is somewhere around $1.5 billion per day, said Jeffrey Currie, the head of commodity research at Goldman Sachs in London. Compare that, he said, to the more than $3 trillion that change hands in currency markets every day. “You’re talking about a value that’s just too small to show up on the radar screen,” said Currie. “It isn’t enough to materially change the currency markets.”