Dollar trouble, oil's bubble could derail recovery

The weakness in the US dollar risks inflating a bubble in the oil market, which could threaten consumer spending and potentially cause a double dip recession.

The greenback's decline this year has been lauded as good for America as it benefits earnings, stimulates exports and helps rebalance the US economy. But runaway oil prices could be the Achilles' heel to the thesis that sees only a benign impact of a weak dollar.

This year, when the dollar has been weak, oil has been strong; a weaker dollar supports oil because dollar-priced commodities become cheaper for buyers using other currencies. The inverse relationship between the dollar and crude has been remarkably tight: the 200-day correlation coefficient between the dollar index and oil is -0.94, Reuters data showed.

In some respects, this is a repeat of last year when a weak dollar, along with low interest rates and growth in energy-intensive Asia, drove oil to a record near USD 150 a barrel, which contributed to a deep global recession.

"Many factors are the same as the summer of 2008," said Ethan Harris, head of global economics at Bank of America Merrill Lynch in New York. "What are the things that would derail the recovery? I think that an oil price bubble is near the top of the list."

There's a reason for fear of excessively high oil prices. Rising energy costs caused consumers to curtail spending in mid-2008, even before the financial crisis erupted, and another spike could sap demand anew, especially with this economic rebound still a fragile one.

The dollar has dropped 15% against a currency basket since highs set in March. Crude , meanwhile, has rebounded from lows around USD 30 a barrel early this year to top USD 80 in recent weeks.

Another drop in the dollar toward USD 1.60 per euro could help push oil back above the USD 100 level. That's enough to cause economic stress given the still-fragile state of global recovery, analysts say.

"If oil goes to USD 100 today, it will have the same effect on the global economy as what USD 147 oil had last year," said Nouriel Roubini, the economist noted for his early warning about the US housing bust and global oil shock.

Oil at above USD 100 would be damaging to the United States, the No 1 energy consumer, which remains hindered by a weak job market and subdued spending.

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