Among all the factors pushing up prices at the gas pump, the weakness of the U.S. dollar is one of the most important and least discussed. Ultimately, supply and demand set the price of oil, gasoline and all other sources of energy. But the fact that oil is priced globally in dollars also has consequences for American consumers.
When the dollar buys less, Americans pay more for oil. And right now the dollar is weak, its buying power diluted by easy money and huge budget deficits.
A look at the indicators of dollar strength and crude oil prices in recent years tells the story (see chart). As measured by the Federal Reserve's broad Trade-Weighted U.S. Dollar Index, the dollar was strong in the late 1990s and early 2000s. Oil prices throughout that time had their ups and downs along with the global economy, but they were well in check.
All that changed middecade. The dollar started slipping against other currencies, and the price of oil started a long surge to record highs. The Trade-Weighted Index, which had peaked around 130 early in 2002 (on a 1997 benchmark of 100), bottomed at just over 95 in July 2008.
In that same month, Brent Crude hit an all-time high of $149.17. The financial collapse later that year knocked oil back down briefly, but it soon was soaring again. By the end of March this year, it stood at $124. The dollar index, which had firmed somewhat after the crash, was back below 100.
Also in the mid-2000s, gold started waking up from its long slumber. It ended 2004 at $435 an ounce, within the range it occupied the prior two decades. By the end of 2005 it was over $510, and it hasn't looked back since. Gold is the traditional refuge of investors who are bearish on fiat currencies, the dollar included. So its rise can be a sign that the dollar's appeal as a store of wealth — and ultimately, its buying power — is slipping.
If an upward move in gold is bearish for the dollar, it's bullish for oil.