The Changing Price of Oil Relative to Gold
The collapse of crude oil prices in 2014 was a big surprise, but popular explanations quickly circulated. Most attributed the collapse to changes in supply and/or demand.
It is true that a shift in supply or demand will change prices in any market; however, not all market-price movements are necessarily due to a change in market supply or demand — especially in the case of prices for commodities as highly political as crude oil. Public policy-makers may intervene in oil markets in pursuit of national economic or security goals. Although most economies are “price-takers” in world commodity markets, major economic powers like the United States can dramatically influence world prices when they have a compelling reason to intervene. In fact, the more volatile the market, the more public policy initiatives are likely to be at work, whereas shifts in supply or demand tend to take place more gradually.
Longer term trends in the price of oil also reflect cumulative changes in the purchasing power of the dollar. Looking at oil prices relative to gold prices instead of U.S. dollars takes account of the long-term decline in the value of the dollar and allows us to recognize more clearly the effect of supply, demand and public-policy factors that influence the price of petroleum.