Working Paper: NBER ID: w0554
Authors: Paul Krugman
Abstract: This paper develops a simple theoretical model of the effect of an oil price increase on exchange rates. The model shows that the direction of this effect depends on a comparison of the direct balance of payments burden of the higher oil price with the indirect balance of payments benefits of OPEC spending and investment. In the short run, what matters is whether the U.S. share of world oil imports is more or less than its share of OPEC asset holdings; in the long run, whether its share of oil imports is more or less than its share of OPEC imports. Casual empiricism suggests that the initial effect and the long run effect will run in opposite directions: an oil price increase will initially lead to dollar appreciation, but eventually leads to dollar depreciation.
Keywords: Oil Prices; Exchange Rates; Balance of Payments
JEL Codes: F31; F41
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Oil Price Increase (Q31) | Dollar Appreciation (F31) |
| Dollar Appreciation (F31) | Worsening U.S. Current Account (F32) |
| Worsening U.S. Current Account (F32) | Capital Account Improvements (F32) |
| Capital Account Improvements (F32) | Dollar Appreciation (F31) |
| OPEC Adjusting Spending (Q38) | Dollar Depreciation (F31) |
| Oil Price Increase (Q31) | Dollar Depreciation (F31) |