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The GERM Report

Sep 10, 2018 11:29:39 AM EST

Welcome to the new home of The GERM Report by Dan Graeber, a commentary on the intersection between geopolitical events and the price of oil. GERM stands for Geopolitical Energy and Risk Monitoring. Dan has a long history in oil markets and an academic background in international relations theory. Apart from energy, he's contributed to the discussion on the foreign policy strategy of containment and the issue of social values on the geopolitical landscape, among other topics.

Some analysts have tried to factor in risk by saying it is simply what the fundamentals don't explain. We look at it the other way and examine some of those mystical elements that run beneath the charts. Our indicator is based on the expected price volatility by the end of the current trading week. 

Risk level: Orange - High

RED: Severe (+/- 4%) ORANGE: High (+/- 2%)  YELLOW: Elevated (+/- 1%)  BLUE: Guarded (+/- ½%)

THE BOOSTER SHOT

  • Kissinger's words from the 1970s may be good hindsight on contagion.
  • Efforts to make America great again could leave economic foundations cracked.
  • Look for clues this week from EIA, OPEC and IEA reports on Iranian shortages.

Two weeks ago, we were focused on the waning of an eminent American political era with the death of Sen. John McCain. Last week, it was parallels between the Trump administration and the Watergate scandal that brought down the Nixon presidency in 1974 that dominated the news cycle. Henry Kissinger, the secretary of state under Nixon and later President Ford, was concerned in the 1970s by the mission creep apparent in an interconnected world with the United States at the helm. On foreign policy, Kissinger observed there were two military superpowers at the time, but at least five major economic powers acting on the international stage. In order to lead, he said, a nation must be strong in more than one category.

We’ve been commenting for some time on the changing ideals of the United States under President Donald Trump. In economic terms, those changes are apparent in the severing of multilateral ties. That disruption, and U.S. policies for the domestic economy, may be at least partly to blame for recent concerns about emerging markets. Since the end of World War II, the American objective was to revive and integrate other economies and thus create outflows for U.S. capital. When that outflow is stifled, the contagion effect is broad.

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Last week started with a market surge from concerns about the impact of Hurricane Gordon on the southern U.S. coast, though the initial knee-jerk reaction quickly faded. Midweek data showed U.S. gasoline inventories dropped, even as U.S. holiday goers prepared for their last long summer hurrah. U.S. oil production, meanwhile, has been holding relatively steady. It was a quiet week market wise and  we were more or less on par with our Yellow alert for last week. The price for Brent crude oil ended the week down 0.76 percent to finish trading Friday at $76.83 per barrel.

U.S. policy makers planning the reconstruction effort for Europe after World War II feared the industrial elements that made Western European countries powerful would fall under Soviet influence. Nations with strong manufacturing capacities, like Germany, are synonymous with strong military power. If that capacity fell into the wrong hands after the war, U.S. influence would've declined. Meanwhile, Washington saw a potential for trade in the recovering European economy.

Expanding military power is costly, so economic influence is an efficient way to retain status. It was win-win, with the U.S. exporting its capital power over the horizon and Europe rebuilding. For Europe, as it recovered from the devastation of war, it could regain some autonomy by trading in Southeast Asia. As the burden of security manifested itself in the need to perpetuate growth, the United States was also able to extend its reach globally by leap-froging Europe into the Eastern economies.

By the 1970s, however, that level of broad-based management became a burden and it's here that parallels to the Nixon administration become more apparent. We noted last week that instead of shying away from the burden, Kissinger advocated cooperation as a way to spur development.  Speaking in 1974, Kissinger said America's involvement in the international arena was unavoidable and history would judge the United States not by its intentions, but by its deeds. But stability, he said, is not the work of any one country, any one administration, party or branch of government.

"The policymaker must be concerned with the best that can be achieved, not just the best that can be imagined," he said.

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Those words are prophetic given the divisive state of American politics today. Republicans, the incumbents in the U.S. political stream, are accused of putting party over country. Catering, meanwhile, to a narrow base, and following the advice of Peter Navarro, the U.S. director of trade policy, the Trump administration now considers the spirit of cooperation lauded by Kissinger as a threat to national security. Multilateral trade, according to the liberal model of international relations theory, is mutually beneficial and mutually stabilizing. Navarro, however, has argued that foreign economies are using unfair trade practices to put U.S. manufacturers on the losing end.

"A lot of these trade deals that we enter into are done not to create jobs here in America, not to boost our income, but to forge alliances and to address things other than the economy," he told NPR last year.

But does that not undermine, to some extent, the American vision laid out after World War II? By exporting U.S. capital, U.S. policymakers can also achieve leverage it might not otherwise have in foreign markets.

While U.S. appeal overseas is on the decline, its economy as a whole is doing well, even though short-term indications like gasoline inventories show otherwise. Trump and former President Obama spent last week wrestling over which administration was behind the current economic growth cycle. The near-zero interest rate at the U.S. Federal Reserve under Obama helped pull the economy out of the Great Recession. That made it cheap for banks to lend to companies in emerging markets and supporting the secondary outlets that propped up Europe after World War II.

As the U.S. economy recovers, those luxury rates are ending under Trump, giving investors reasons to move out of emerging economies. That means countries from Argentina to Turkey to India are falling by the wayside. The Jenga rule of economic s holds that when the bottom collapses, the entire structure falls. On Monday, the Organization of Economic Cooperation and Development indicated its composite leading indicators were all pointing to easing growth momentum. Only China and India are showing growth, with the rest of the industrialized economies reading stable at best.

We were seeing some support for the price for Brent early Monday on word the offices of Libya's National Oil Corp. were raided, but there are few indications so far that production has been impacted. The rally was supported somewhat by a slight decline in rig counts in the United States last week. Worth watching for Monday is a meeting in Moscow between Russian, Saudi and U.S. energy officials, ostensibly to consider the looming shortage of Iranian barrels. Back in the United States, at least two major storms are heading west from the Atlantic with Florence expected to make landfall as a major hurricane by Friday morning.

It's a busy week for the oil market, with EIA, OPEC and IEA monthly market reports out starting Tuesday. On Monday, expect a look at the consumer price index for the Chinese economy. On Thursday, we have a rate decision from the Central Bank of England, followed by a speech from Bank of England Gov. Mark Carney in Dublin on Friday. Also on Friday is a glimpse of consumer sentiment on the United States from the University of Michigan.

We're expecting some volatility given the triple-whammy of market reports out this week. National security issues in Iraq and Libya, coupled with the impact of an eventual Hurricane Florence, could push the price of oil higher for the week. Should Russian and Saudi officials offer satisfactory comments on market supply in the face of Iranian sanctions, oil could drift lower. We're issuing an Orange alert for the week ahead, expecting the price for Brent crude oil to shift by plus or minus 2 percentage points.

About the Author

Matt Smith

deciphers and distills what is most relevant across the energy complex into cohesive and pithy knowledge you can use. The belly laugh is a bonus.

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