There were three news stories, although all are quite well understood. Dollar weakness, the unexpectedly large US unemployment report, and the Iranian “story” from Israel all conspired to trigger the upward move. So far, so good. But it’s the same news as we’ve seen many times before. Nothing new, really. (139th story about the impending attack on Iran, for example… Yeah, right. I’ll believe it when I hear the bombs explode.)

But then came the short-covering that drove what would have been a $2 or $3 move into an almost $11 move. Hence the melt-up.

The normal reaction to the excessive advance is a retreat… and this is what we’ve seen early week — when retreated about $3/bbl.

By definition, the “futures” markets are all about the future.

In general, in the future people expect to see a weaker dollar and tighter supplies of oil that cannot meet projected demand.

The way to break this cycle is with a clear signal from the US Federal Reserve that it will defend the dollar. I’d like to see a 1% interest rate increase, with language that if this does not get the dollar on track then there will be more rate increases. This will hurt some parts of the economy (like housing). But it will salvage the rest of the economy. As things now stand, high energy prices are just going to kill off the bulk of the economy and destroy the American middle class.

But this monetary action is only half of the solution.

The other half is that the US govt needs to adopt a strong, production-oriented energy policy. Yes, the new policy must include the usual tributes to conservation & efficiency… as if high energy prices do not enforce and drive home the import of such virtuous behaviors. And the new policy should give wide leeway to windmills, solar, geothermal and 2nd generation biofuels. It’s a true shame to waste good coal or oil on something that you can do with a windmill. But you cannot run an economy on windmills, solar, geothermal and biofuels alone.

U.S. Dependence on Oil…

The US needs to focus on North American energy production, via oil & gas drilling in Alaska and offshore, plus “clean coal” technology, coal-to-liquid, oil shale development, gas hydrates, next-generation nuclear, and anything else that will work in the next 10-20 year time frame.

Just the announcement that the US is adopting this pro-production policy will shape the marketplace and tend to drive long-term prices down. The worst case is that it will sure moderate any future price increases.

There is an astonishing amount of energy technology out there, already invented and workable. The great challenge of the future is systems integration, to bring it all together and apply it to our problems. Integrate it, make it work and scale it up. This just takes a lot of hard work, with direction and incentive to achieve.

The first energy “system” that is broken in the US is the lack of coherent, national energy policy. We have to fix that.

And if we don’t defend the dollar, what’s the use? The dollar will die, and we’ll be calculating our energy transactions with seashells or pretty stones.

Best,

Byron King

Note: Byron King is a frequent contributor to the free e-letter Whiskey & Gunpowder. To receive daily insights into energy, oil, commodities and other natural resources sign up here!

Source: The Oil ‘Melt-Up’ and Why the U.S. Economy Won’t Run On Windmills Alone.

Inflation in the Eurozone is running at a 16-year high. And on Wednesday, the Organisation for Economic Cooperation and Development (OECD) boosted its inflation prediction to 3.4% in 2008, well above the ECB’s 2% target.

Policymakers voted to keep the central bank’s key interest rate at 4.0%. The ECB also held its two other key rates – the deposit rate and the marginal lending rate – unchanged at 3.0% and 5.0% respectively, the AFP reported.

“The ECB is trapped,” Joerg Kraemer, chief economist at Commerzbank AG (OTC: CRZBY) in Frankfurt, told Bloomberg News. “We have the problem of persistently high inflation rates, while growth is weakening. I expect them to keep rates on hold for a very long time.”

But with prices for food and fuel soaring across the Eurozone, merely holding rates steady might not be enough for the hawkish ECB.

A rate increase next month “is not excluded,” Trichet said, but “is not certain,” adding that the ECB never “precommits” to a move and that the policymakers would only make a final decision on the day they meet.

Separately, the Bank of England also voted to hold its key interest rate steady at 5.0%.

“Inflation is painfully high and the negative effect on purchasing power is squeezing the life out of the [Eurozone] economy,” Ken Wattret, an economist at BNP Paribas SA in London told Bloomberg. “It now looks increasingly like a consumer recession is unfolding.”

Economic growth is slowing, as even Germany, the European Union’s largest economy, has experienced some softening and an up-tick in unemployment. The OECD revised its growth projection down to just 1.7 % this year and to 1.4% in 2009, AFP reported.

Contrasting Currency Effects

Europe’s central banks have clearly made inflation their priority, a stark contrast to the U.S. Federal Reserve’s aggressive rate-cutting campaign. The Fed has slashed 325 basis points from the key Fed Funds rate since mid-September. The key U.S. interest rate now stands at just 2.0%, well below that of its European counterpart, putting more pressure on an already weak greenback.

Comments from Fed Chairman Ben S. Bernanke on Tuesday acknowledged the weakening effect the U.S. rate cuts have had on the dollar.

Speaking via satellite at the International Monetary Conference in Barcelona, Spain, Bernanke said the Fed is working with the Treasury to “carefully monitor developments in foreign exchange markets.” The Fed Chair said he was aware the effect of the dollar’s decline on inflation and price expectations, Bloomberg News reported.

It is widely expected that the Federal Open Market Committee (FOMC) will vote to remain on pause at its next meeting scheduled for June 24 – 25.

Bernanke’s comments gave a slight boost to the dollar, only to be reversed by Trichet’s allusion to a possibly ECB rate hike in June.

The dollar lost ground against the euro to trade at $1.554 in mid-morning trading today, down from $1.547 at the New York close the day of Bernanke’s remarks.

Source: ECB Stands Firm Against Inflation