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Correlation
Between Currency and Oil
To be a successful trader in the foreign exchange
market, it is essential to understand the correlation between
currency and oil. This is because most of the important
currency pairs rise and fall in relation to the price of a
barrel of
oil. For decades the price of oil has been a leading indicator
of world economy. It is likely that this connection will continue
for years to come.
There are several reasons behind the strong relationship between
the global economy and the price of oil. To begin, countries
that have an abundance of oil will benefit from higher oil
prices. Their economies will flourish and when the economy
of a country is strong its currency is gains value in the currency
exchange rate.
Conversely, countries
that depend heavily on others to import their oil will
only benefit from low prices. Their economies
will suffer when the price of oil rises. When the country’s
economy is suffering its currency is weak in the foreign exchange
market.
In general, the
higher the price of a barrel of crude oil the less money
consumers will spend, sending the economy on
a down turn. This is especially true if the major oil source
is petroleum based. This is because if the price of oil raises
so do production and supply cost for most goods, leading to
higher prices overall. In addition, the consumer has less expendable
income to devote to these goods, as they must spend more money
on gas for their cars and heat for their homes. The end result
is a drop in the counties economy, and a weakening in their
currency on the forex.
Over the past several years, oils prices have been soaring.
In 2004 most experts agreed that the price of a barrel of oil
would top off at 40 dollars. But that upper limit was shattered
by demand requirements, natural disasters, and world politics.
By 2005 the price of a barrel of crude oil had peaked at 80
dollars. Experts believe that the trend in oil prices will
continue its upward climb in the immediate future.
This prediction has a huge impact on the foreign exchange
market. Since exchange rates are often determined based on
the health of a nation’s economy, the price of oil will play
a primary role in deciding those rates.
This means if a country that produces and exports oil it will
have a more robust economy. Therefore, there currency of that
country will be stronger on the forex. The exchange rate for
that currency will be higher in value.
However, countries that have to import their oil will see
their economies suffer. While their economy is on a downward
swing the exchange rate for their currency will also falter.
Because of these important factors much attention has recently
been paid the Canadian currency. This is because Canada is
the leading oil supplier to the United States and is a significant
supplier to China as well. China is expected to have its need
to import oil double by 2010, putting Canada in position to
be its primary source of imported oil. This has the potential
to place Canada’s dollar in an excellent position in the foreign
exchange market.
It should be noted, however, that oil prices couldn’t continue
to rise indefinitely. There will be some point where the trend
must reverse itself, and the price of a barrel of oil will
begin to drop. Consumers will be unable to afford the higher
prices and will limit their spending. Once this begins, the
simple dynamic of supply and demand will force oil prices to
stabilize and eventually drop.
# # # # # SolveYourProblem.com : 2007
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