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Tue, Mar 11th - 11:49AM

Oil prices near $110 US per barrel while US dollar slumps and America goes into Recession
Oil prices skyrocketed again today, nearing $110 US per barrel.

The highest point was $109.72/barrel, a new all time record, even when adjusted for inflation. Learn more at Hundred Dollar Oil.

Part of the reason why the price is soaring so much is because the American dollar is becoming worthless, mostly due to the current American Recession. Unlike a normal recession the US economy is still growing in GDP (or at least holding stable), but the housing crisis and too much credit has created a credit crisis that undermines the actual value of American currency.

Think of it a bit like if someone pumped millions of dollars of counterfeit into the US economy, and then somehow the media found it. It would undermine the overall value of the American dollar and its value would plummet.

In this case however it isn't counterfeit (although technically speaking US currency is one of the easiest to counterfeit), it is simply too much credit. Americans have too many mortgages, too many credit cards and too much national debt. They rely on foreign imports from China and other nations and their own economy has become too service oriented and not enough actual manufacturing.

The result is that that the American dollar isn't actually worth much when you think about it. It is just paper after all. For decades its value has been boosted by strong overseas demand as banks used it as base currency because it was stable and strong. In this era of the Bush Administration however, with George W. asleep at the wheel, economic prosperity has been given a backseat and basically totally ignored while the White House focuses on international terrorism.

There was once a time when currency had to be backed up with actual substance such as gold in Fort Knox, but that era is long gone. Now a currency is valuable because the government and the markets say it is, but when a society bases most of its purchases on credit and isn't making enough to support those purchases the value of the dollar ends up plummeting.

Think of it like this: A group of Americans buys 120 million widgets for $1 each in a single year and pays for it with credit. They pay for the interest and the next year they buy another 120 million widgets and buy it on credit also, and keep doing it every year. They pay the interest on the widgets but they never actually pay it off. After 5 years they've bought 600 million widgets but have bought it on credit and have never paid any of the balance off, paying only the interest. Eventually the bank says: No. We're not giving you any more credit. You have no intention of ever paying us back in full.

Imagine if I bought your old TV, but instead of paying for it with gold or something of value I gave you an IOU instead. If I kept buying stuff with IOUs and never paid them off you would eventually say "Hey, these IOUs are worthless!"

Unlike the widget example above the IOUs don't gain interest. But what is the point of interest if the value of things keeps going up due to inflation? The price of grain, food, oil, gold, and other basic commodities are all skyrocketing in value, much higher than the actual rate of interest.

Imagine you have $10,000 in the bank and the yearly compound interest rate is 5%. Over a year you would get $500 in interest. But imagine for a moment if the value of food, gasoline and all commodities doubled in price in one year. Your $10,500 isn't really worth the same as it used to be... it is now worth approx. $5,250 in terms of actual purchasing power.

And so this is the situation the USA is in right now. Commodity prices are skyrocketing, which means our GDP is going up because prices are going up. But if you adjust the GDP to make up for the loss of currency value you realize what has really happened is the USA is now in a recession and just doesn't realize it because the numbers still look up, but they haven't clued in that the GDP's value has actually gone down.

In the last year the American dollar has dropped in value by approx. 18% compared to the Canadian dollar and the Euro (and numerous other commodities). So even though the US GDP increased 2.2% in 2007 in the amount of US dollars, the actual value of that GDP has shrunk by about 16%.

Couple that with a mortgage and credit crisis and the United States is in for a wild ride in terms of economics.

Politics wise it should make for an interesting 2008 election campaign.




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