Background 

During and immediately after WWII America’s industrialists and financiers convinced political leaders of the necessity to accelerate the expansion of the wartime developed manufacturing base and make it second to none.  They saw as the primary lubricant for this industrial modernization the unfettered use of petroleum, government guarantees and subsidies, tariffs, and controlled competition.  The latter was required to ensure optimal and unfettered development across a broad range of high value industries. Government guarantees and subsidies would be coupled to venture capital to bootstrap exploration, drilling and refining. Tariffs would ensure high employment and stave off competing petroleum products.  This strategy, with the exception of tariffs survives to the present.

An explicit objective of the Roosevelt, Truman and subsequent administrations with the exception of  President Carter, was that petroleum would be “King.”  Today, about 90% of vehicular fuel needs are met by oil. Petroleum also makes up 40% of total energy consumption in the United States, but is responsible for only 2% of electricity generation.        

Today's Argument                                                                                          

While controversy abounds over the issue of “Peak Oil,” ample evidence exists from environmental studies that continued reliance on oil and fossil fuels would be folly in terms of economic efficiency and climate change impacts.  Whether or not there is enough oil is no longer an issue.  Rather, to what alternatives, and how quickly does the world transition from oil to alternatives in time to significantly ameliorate the negative effects of escalating prices and environmental impacts?

While oil became “King of the Hill,” the dollar became its handmaiden.  As entrepreneurs entered the risky business of oil exploration, banks were eager to lend, as well as foreclose on properties of failed ventures. Witness the current debacle in housing and financial markets.

Concurring in Fed Chairman Bernanke’s proposal to serve as the overlord of financial institutions in America, the White House and Congress have abdicated their Constitutional responsibility and placed management of the currency in the hands of the private sector. At this juncture, however, neither Branch of government knows how to manage a dysfunctional economy teetering on the brink of absolute bankruptcy.  Then again, based on recent and past performances, neither does the Fed.  The Fed can manipulate the economy but can’t, through monetary policy alone, resolve systemic structural issues. Oil price “shock and awe” is in part one of these issues which, due to Fed policies, weakens the dollar and makes crude oil imports more expensive. Add to this mismanagement of the dollar is the voracious appetite for oil in China, India and other emerging nations.

What the Administration and the Fed confront is their worst nightmare, rampant inflation, created in part by profligate fiscal policies; creating record setting debt; and inadequate monetary policies; dumping billions of dollars to save failed private banking along with the bail out of toxic mortgages held by banks.. The Fed’s failed attempts at stimulating consumption in reaction to the double edge sword of rising cost of energy feeding rapid inflation in food prices. The “official” rate of inflation is now at 5% or double the rate in 2000. Experts now put the real unadjusted rate at 10%.

A quick perusal of consumption patterns over the past six months, excluding exports, shows a downward trend for durables, and medium to high priced non-durables.  Since there are very few Americans with savings, and median real income and job creation remain stagnant or declining, any shortfall in tax receipts is exacerbated by recession and the fact that only 1/3 of corporations pay tax on income. And there you have it.  Any growth is illusory in an economy 70% dependent upon consumer consumption and corporate capital formation. The balance is government spending and exports. Stagflation is just around the corner for major sectors of the economy.  Import prices on consumer products have risen, on average, 65% since the beginning of the year due primarily to higher transportation costs.

Now, add to the above the budget deficit, massive borrowing from foreign banks and unfunded domestic safety net program liabilities in the current fiscal year.  The result is an economy that has a 2:1 ratio of liabilities to assets.  Assets of $40-$50 trillion swamped by $70-75 trillion in the above mentioned liabilities.  And, an economy that will experience more deflation while the Fed holds interest rates below the rate of inflation.

Why is it that countries in Europe and other parts of the world are actually increasing their interest rates? They’re doing it because inflation is more than a threat, it’s real. It’s there, affecting everybody’s lives.  Yet, our Fed continues to stimulate the economy by dumping dollars into it in the hopes that consumption (panic buying for fear that prices will rise higher) will serve as the driver of growth. The Fed is also counting on foreign demand to boost American exports which, fortunately, has occurred given the dollars decline against most currencies.

However, so long as emerging economies like China continue to grow as fast as they are, inflation here and in importing nations will continue to be a threat. And the reason why is simple. Because as these emerging economies modernize, they will need more food, more gas, more wood, more metal, more of everything per capita than what they use today. 

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