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Essentials of Baking and Finance TOPIC:

US Dollar & Crude Oil SUBMITTED TO:


SIR SHAMAS NAQVI

SUBMITTED BY:
MUHAMMAD EJAZ MPA-III 2010-2012

Quaid-i-Azam University,Islamabad.
To understand why the US Dollar is the pre-eminent global currency. Its role in international trade and the global economy?
The dollar is the most prominent currency in the world. It plays a central role in international trade and finance as both a store of value and a medium of exchange.

Many countries maintain an exchange rate regime that anchors the value of their home currency to that of the dollar. Dollar holdings make up a large share of official foreign exchange reserves, the foreign currency deposits and bonds maintained by central banks and monetary authorities. In international trade, the dollar is widely used for invoicing and settling import and export transactions around the world.

Despite this, the future of the dollar is the subject of active debate among economists and in the policy community. The dollar retains its status as the dominant international currency in all major categories of use.

The dollar is a major form of cash currency around the world. The majority of dollar banknotes are estimated to be held outside the US. More than 70% of hundred-dollar notes and nearly 60% of twenty- and fifty-dollar notes are held abroad, while two-thirds of all US banknotes have been in circulation outside the country since 1990. The international role of the dollar remains substantial a decade after the introduction of the euro, and despite changes in the value of the dollar and the financial turmoil that began in 2007. Factors that may have contributed to this continuing strength include inertia in currency use in certain transactions. Everyone uses the dollar because everyone else is using the dollar. A second factor is less history-dependent. Users tend to favour the currency of countries

To determine what led to the recent global financial melt-down( also the recent financial crisis to in Dubai ) and how it weakend the dollar against other hard currencies. What , now, is thje future of the US Dollar?

Economic Crisis in Dubai:


Horror stories of thousands getting laid off and having to flee the country because they could no longer afford their mortgages escaped their lips as if they had been waiting for an opportunity to get these eye-witnessed nightmares off their chest. Unlike in the United States and the United Kingdom, if you default on your mortgage or loans in Dubai, you are thrown in prison. This severe punishment has caused many laid-off workers to flee the country in an effort to avoid jail time. These escapees literally abandon everything they have acquired during there stay in Dubai. With only two suitcases in hand, they then drive to the airport, where they leave their keys and a note that says, Return to Dealership in their leased cars. For the uninitiated, the starting prices for the Burj Al Arab start at $1,000 and range all the way up to $25,000 per night. Things are beginning to look up for the Dubaian population, however. On February 22, 2009, Dubai was given a bailout by oil-rich Abu Dhabi, the wealthiest of all the countries in the United Arab Emirates (UAE). The Economist reported, The central bank for the United Arab Emirates (UAE) bought $10 billion-worth of Dubais five-year bonds. The bail-out confirmed everyones assumption that Abu Dhabi would not let the second-biggest member of the UAE fail.

The Future of the U.S. Dollar:

The World is concerned that the dollar cannot play the role of the main reserve currency any longer after the financial crisis sparked by the collapse of the U.S. mortgage market led to the worst global recession since the 1930s. The Governments stimulus packages, financial bailouts, the need to support liquidity in Treasuries, keeping interest rates at the lowest level under the circumstances of low economic growth, high unemployment and low tax collection make it print more dollars. This leads to a high risk of substantial inflation, or hyperinflation in a long-run.

With a $12.3 trillion national debt and $55 trillion in unfunded obligations for programs such as Social Security, Medicare and Medicaid, with total Federal Reserve and Treasury bailout commitments now at $11.8 trillion, of which $3.6 trillion has already been spent the U.S. need to take steps immediately to protect themselves from the potential loss of the purchasing power of their U.S. Dollars, inflation.us warns. Chinas peg to the dollar: So far China is enjoying low yuan rate giving its exports competitive advantage in relation to those countries with appreciating currencies against the U.S. dollar. As the result China is actually stealing jobs from many countries since with appreciating currencies their companies are not able to compete with Chinese producers. India; Suresh Tendulkar, an economic adviser to Indian Prime Minister, was urging the government in the summer of 2009 to diversify its $264.6 billion foreign reserves and hold fewer dollars. Brazil; Brazilian Central Bank president Henrique Meirelles said the country is considering the gradual elimination of the U.S .dollar in trade with China, Russia and India. Russia;

The Central Bank of Russia increased the share of Japanese yen and Swiss franc in reserves in the middle of 2008. Japanese yen currently accounts for around 2 percent of Russias reserves. The francs share is smaller because of the limited liquidity. In the beginning of January 2010 Canada announced that it might sell about 1 billion euros of 10-year bonds, its first issue of debt in the European currency in more than a decade. This strategy will help attracting new investors, while debt denominated in U.S. dollars is becoming less popular among the creditors given the declining value of the U.S. currency. (65) It is obvious that the trend of the diversification out of the dollar persisted through the whole year of 2009 and is continuing in 2010.

To learn about the historical role of Gold. Why it is a safe haven? What is the relationship of Gold to dollar ?Why have Gold prices shown a sharp increase in the last two years?
During the frontier days of the United States news of the discovery of gold in a region could result in thousands of new settlers, many risking their lives to find gold. Gold rushes occurred in many of the Western States, the most famous occurring in California at Sutters Mill in 1848. Elsewhere, gold rushes happened in Australia in 1851, South Africa in 1884 and in Canada in 1897. The American Eagle Bullion program was launched in 1986 with the sale of gold and silver bullion coins. Platinum was added to the American Eagle Bullion family in 1997. A bullion coin is a coin that is valued by its weight in a specific precious metal.

The Dollar-Gold Relationship:


Anyone who follows the gold and currency markets closely will realise that the US$ gold price and the Dollar Index generally trend in opposite directions; or, to put it another way, that the US$ gold price and the Swiss Franc generally trend in the same direction. This reciprocal relationship between gold and the dollar is often not evident on a daily or weekly basis, but is almost always evident during periods of 12 months or longer. The reason that gold and the dollar generally trend in opposite directions is that in one respect gold is just another currency. It is no longer money in the true meaning of the word, but it tends
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to trade as if it were. As a result, when the dollar weakens on the foreign exchange market over an extended period then the US$ gold price will generally rise during the same period; and when the dollar strengthens over many months the US$ gold price will usually fall. There are, of course, leads and lags and there's no reason to expect that percentage changes in one will be accompanied by equal-and-opposite percentage changes in the other, but when charts of the dollar and gold are compared it quickly becomes apparent that the two have been inversely correlated since the floating -- some would say sinking -- currency system came into being in the early 1970s. The most pronounced divergence of all from the traditional gold-dollar relationship occurred during 1978-1980 and is clearly evident on the following chart comparison of the US$ gold price and the Swiss Franc (the SF/US$ exchange rate). The chart shows that the best gold rally of the past 100 years -- a rally that took the gold price from $200/oz to $800/oz in the space of just 14 months -- occurred while the US$ traded sideways relative to the Swiss Franc.

Reasons of increasing gold price in last two years:


In fact, before 2011 closes out, I predict that each ounce of the prized "yellow metal" will be trading at $1,900 - an increase of about 37% from yesterday's (Wednesday's) closing price of about $1,390 an ounce.

Ongoing global stimulus initiatives figure to ignite inflation, which is highly bullish for gold. The so-called concept of "peak gold" is real, and that even in the face of record gold prices, miners can't seem to crank out enough of the "yellow metal." Global demand is burgeoning as wages rise in such newly emergent markets as China and India - a trend that's not going to quit. Global investors remain dramatically under-invested in gold.

To discus the importance of Crude Oil. Why is it the most impotant commmodity in the world?What supply and demand factors determine the price of crude oil in the international market? Importance of crude oil:

Oil is a vital commodity for our modern economy. Many do not realize the breadth of products and service that would not be possible or affordable if not for a constant oil supply. Domestic oil production in the United States pales in comparison to its oil needs.
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funds in oil which has good market value. In the market, many giant oil companies take over the small oil companies, and this is but one way to increase their oil reserves. It is good idea to invest wisely, by doing research, and finding out which company will yield positive results for invested funds. In the United States and other foreign countries, oil and gas companies are shifting toward the offshore for their exploration and production activities. They are exploring for resources within their boundaries to save money.

What Factors Determine World Price of Crude Oil?


The international price of oil is determined by three major factors: demand, supply, market sentiment. Demand Side Factors: Weather. Cold weather increases consumption. The world is getting hotter. The 14 hottest years in history have been in the last 25 years. The warmer the climate the less oil is consumed for heating, but the more oil is consumed for air conditioning. Economic growth The stronger the growth, the more oil is consumed (mostly for industrial purposes). The incredible economic development of countries like China and India and the emergence of car-owning middle classes in many developing countries enhanced demand and contributed to the current crisis. Ecological concerns and economic considerations lead to the development of alternative fuels and the enhanced consumption of LNG (Liquefied natural gas) and coal, at oils expense. Even nuclear energy is reviving as does solar energy. Wars increase oil consumption by all parties involved.

Supply Side Factors: Oil exploration budgets are growing and new contracts have just been signed in the Gulf area (including Iraq), Brazil, and Canada. The more exploration, the more reserves are discovered and exploited, thereby increasing the supply side of the oil equation. Lifting of sanctions on Iraq, Iran and Libya will increase the supply of oil. When there is an economic crisis in certain oil producers (Russia, Nigeria, Venezuela, Iraq) it forces them to sell oil cheaply, sometimes in defiance of the OPEC quotas. This was the case in the late 1990s.

OPEC agreements to restrict or increase output and support price levels should be closely scrutinized. OPEC is not reliable and its members are notorious for reneging on their obligations. Moreover, OPEC members represent less than half the oil produced globally. Their influence is limited. New oil exploration technology and productivity gains allow producers to turn a profit even on cheaper oil. So, they are not likely to refrain from extracting and selling oil even if its price declines to 5 US dollars a barrel. Privatization and deregulation of oil industries (mainly in Latin America and, much more hesitantly, in the Gulf) increases supply. Recent moves in countries like Venezuela, Russia, and Bolivia to re-nationalize their oil industries and unrest in countries like Nigeria raise global oil prices owing to uncertainty and increased political risk.

Impact of crude oil prices on inflation,GDP and Purchasing power of the customers internationally and in Pakistan?
Economic fundamental provide the most significant information to traders. The impact of economic data tends to be long term oriented. Nevertheless, not all economic data is significant for the Forex market. Economic indicators are reports published at a fixed time intervals by government and private organizations. Economic indicators illustrate the detail of a country's economic performance whether it has improved or declined. This economic statistics are analyzed to predict the movement of the Forex trading market. An economic indicator that shows a strong country's economy condition will enhance the currency exchange rate to rise. Every economic indicator does not have the similar impact on the market every time. The date and time of release of economic data is very important to adjust a foreign exchange position. Information on upcoming economic indicators can be found in newspapers and business magazines. Besides, critical announcement or events can also be found at economic calendar as shown in table 1. Economic calendar mainly contains information of the date, time, type of events and the forecast impacts on the market.

To understand why a falling dollar and riasing Euro impacts oil prices and other commodities.Why do crude oil and gold prices sometimes rise and fall in sympathy? Dollaer,gold and Crude oil; What are the connections?
Gold Prices gave back most of a 1% overnight rally to $1510 per ounce in London on Monday morning, falling as the US Dollar rose on the currency market and European stock markets dropped. US crude oil stalled after a 2.7% rally to $100 per barrel.
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Gold Prices for Euro investors today rose above 33,750 per kilo, a 1-week high less than 2.5% below Dec. 2010's all-time high.

The rise and fall of oil prices:


Crude oil price (WTI spot) weekly average rose by 2.6% to reach an average 103.73$/b compare to last weeks average price of 101.05$/b. On average, crude oil price (WTI) daily change was 0.61%, however its price declined by 4% from beginning to end of the week. NYMEX Futures Price (future for April) much like WTI spot price, fell by 4.06% from beginning to end of the week as it settled on 101.16 $/ on Friday the lowest level all week. These figures show that WTI (spot and future) price are at a higher price level than they were in the previous week, however during the end of the week crude oil price fell precipitately, partly is probably related to the recent tsunami attack in Japan which shook the entire.

CONCLUSION:
1. Basically, Gold is an inflation Hedge. If inflation of any country (Mostly developed economies) increases, investors buys gold to balance their portfolio. 2. Crude prices directly affects the oil import bill of any country. Increase in Imports Bill will increase the Trade Deficit (Export - Imports) of countries. Higher Trade deficit would hit the value of currency of the country. This will affect the money circulation in the economy there by leading inflation (Too much money chasing too few goods). So, If Crude price rises, Gold will also move Up. 3. As you know most countries have Foreign Reserves. And these reserves are US Dollars. For example, India boasts about 140 Billion Dollars of reserves. Thus, if the Dollar looses value, the entire basket looses value. So, countries will look for safer heaven i.e. Gold. If Dollar loses value, Gold will move Up. 4. Also, Crude oil is directly priced in dollars. Thus a weaker dollar means higher crude oil prices. It's a purchase power issue for the oil producers.

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