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Investing Answers Building and Protecting Your Wealth through Education Publisher of The Next Banks That Could Fail

Petrocurrency

What it is:

Petrocurrency is cash -- usually U.S. dollars -- resulting from the sale of oil and deposited by oil exporters into Western (usually American) banks.

How it works (Example):

Let's assume that country XYZ sold US$40 billion of oil in 2008. The money that country XYZ deposits into an American bank is called petrocurrency. Country XYZ does this in order to earn the highest return possible on the money and perhaps later use it to fund infrastructure projects, combat budget imbalances, or other governmental initiatives.

A December 2006 study published by the Federal Reserve Bank of New York found that oil exporters use approximately half of their petrocurrency to import goods and services (particularly from Europe and China), while they invest the other half in foreign assets (particularly in the United States). This is important because when oil prices are up, oil exporting countries can afford to import more, which stimulates the economies of the countries the oil exporters buy from. Also, when oil prices are up, the oil exporters make more foreign investments, which then drives up securities' prices in the markets in which they invest. However, the reverse is also true. When oil prices are down, a smaller amount of petrocurrency is in circulation, so there is less investment and consumption by oil exporting countries in foreign countries.

Why it Matters:

Petrocurrency is a good example of how one country's economic prospects affect other countries. For instance, countries that rely on petrocurrency for economic stability can experience rapid gains when the price of oil increases. Likewise, they are hard hit by decreases in oil prices, which often causes foreign investors to flee the market and ultimately forces these countries to diversify.

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