"The global mining industry will undergo mega deals of as much as $US10 billion ($15.38 billion) this year as the economic downturn presents once-in-a-lifetime acquisition opportunities," reports today's Age. It refers to a report by Ernst and Young in which the firms says it expects, "niche deals to increase and a number of smaller $US2 billion ($3.08 billion) to $US10 billion ($15.38 billion) megadeals involving the mid-tiers."

The consolidation makes sense. But it doesn't really help you figure out which resource is bullish or which firm is ripe for the taking. There is also the matter of the US$172 billion in loans outstanding held by resource extraction companies. The need to roll that over makes some firms vulnerable.

The EY report claims that draw downs in global commodity inventories, coupled with $2-3 trillion in global stimulus programs geared toward metals-intensive infrastructure programs is, well, bullish. That's probably true, but not in a way in which you could make accurate guesses about how much more iron ore or coal or zinc demand these plans will generate.

OPEC agreed not to cut oil production again until it meets later in May. That's a bit misleading, though. OPEC said it wouldn't cut production even though global oil inventories are high. But the friendly cartel members admitted they still haven't cut production down to the levels they agreed on with the previous cut.

Thus the nature of the cartel. It's in everyone's interest to cheat just a little bit by over-producing to make more money. Bloomberg reckons OPEC is producing about 800,000 bpd more than its agreed quota. "The crude oil production target for 11 OPEC members bound by quotas is 24.85 million barrels a day, while actual output from those countries averaged 25.715 million barrels a day in February."

For the arm-chair oil analyst, or just the casual observer of global petroleum markets, it's going to be an interesting ten years. OPEC still produces 40% of the world's crude oil each day. And its member nations control the lion's share of the world's proven oil reserves. Check out the table below.

Source: U.S Department of Energy, Energy Information Administration

On paper, you can see that just 17 countries control 1.2 trillion barrels of crude oil reserves. The ten OPEC nations on the list account for 924 billion barrels, or about 72% of total proved reserves. True, the Saudi proved reserve figures haven't changed in years, and are just as unaudited as all the gold in Fort Knox. The Saudi Oil Kings, like America's private bankers, refuse to let the public, or an independent third party, verify that they have what they say they have.

But let's not quibble. After all, Canada's reserve figure is based on the economic production of oil from the Athabasca Tar Sands. With the crash in oil prices, Canadian reserves are not looking so proved. You might say the same for some of the difficult-to-produce reserves in Russia.

Anyway, our point? It will be intriguing to see which falls faster in the coming years...actual production figures...or proved reserve figures. Actual production is falling because some of the world's big fields are in depletion. The proved reserves? Who knows what's going to be economically producible in the coming years? Look for more on the oil story later this week.

"There's no safer investment in the world than in the United States." Barack Obama's press secretary told the world, and especially the Chinese. He was speaking about U.S. Treasury notes and bonds. China owns around $700 billion in U.S. Treasury bonds, which is not only a lot, but more than any other foreign country.

Last week, Chinese Premier Wen Jiabao rattled some cages in Washington. He told a press conference in Beijing that, "We have lent a massive amount of capital to the United States, and of course we are concerned about the security of our assets. To speak truthfully, I do indeed have some worries."

About 696 billion and counting, we reckon.

Is it possible the Treasury bond bubble has already burst? It is possible! If stocks can't sustain their rally from last week, then the institutional rush into bonds might resume. We wonder if people have quite given equities up for dead. But the chart below suggests that the move into bonds-at least U.S. government bonds-may have already come and gone.

Did the Bond Bubble Already Pop?

Source: ww.bigcharts.com

The chart shows the performance of a Barclay's ETF that tracks U.S. Treasury bonds of 20-years maturity or more. What you see in November is huge spike in prices as the stock market crashed and investors panicked.

What you see since then is a decline to lower lows and now, a period of indecision. "Should I stay or should I go?" It would be normal for institutions to keep cramming into bonds even as bond prices fell and equity prices climbed a wall of worry. But just because bond prices may have topped out does not mean we're giving the all-clear to get back into stocks. More on that tomorrow.

Dan Denning
for The Daily Reckoning Australia

• OPEC May Cut Oil Production
• How to Buy Crude Oil for US$2 a Barrel
• Higher Oil Prices, the New Normal
• Where Will Future Oil Production Come From and How Can Investors Profit Today?
• Pemex and Mexican Peak Oil Equal Expensive Oil

The elephant in the room blasted out a mighty honk this weekend in a report by Access Economics, as reported in today's Australian. "Batten the hatches," Access says. "This is not just a recession. This is the sharpest deceleration Australia's economy has ever seen." Access adds that the federal budget is "buggered."

"Leading economic forecaster Access Economics warns in its quarterly Business Outlook, released today, that the nation's economic boom will 'unwind scarily fast', halving corporate profits, costing more than 300,000 people their jobs and blowing out the current account deficit to more than $100 billion."

Dire stuff indeed. But the question from last week remains, is this massive dose of negative news already priced into Australian stocks? Or is it a further hammer blow that will drive them to new lows?

So far this morning, the market seems to be taking the prospect of a prolonged earnings recession fairly well. Or maybe it's just in denial. The Access report correctly points out that the fall in commodity prices will dry up government royalties and corporate taxes. This will lead to higher budget deficits, more unemployment, and a contraction in the mining industry after four years of break-neck expansion.

Australia's government is now in the same pickle that Gordon Brown and Barrack Obama find themselves in: how do you distribute enough borrowed loot to keep your economy from shrinking without igniting inflation and a weakening of your currency? And if you accept that the government really can step in and spend money while households and businesses are not, where does it spend it? Roads? Bridges? Booze? Pokies?

Those are mostly political questions. Economically, it's hard to see how corporate earnings will recover this year. Demand is falling. Miners are winding up projects. All this being the case, don't look for earnings to lead to a big bear-market rally.

In fact, as we mentioned last week, we think it's likely that you'll see a large exodus of institutional money out of common stocks and into corporate bonds. Corporate bond yields are now much higher than what you'll find in U.S. government bonds. And it is the habitual thing to do, changing asset classes rather than liquidating altogether.

The big sleeper so far this year is oil. Oil prices have fallen 25% since rallying to just over $50 last week. The leverage is out of the oil market. And with a global recession, the IEA now predicts oil demand will fall for the second year in a row. It's the first time that's happened since 1983.

But the real story is how the falling oil price is hammering oil producers. Multinational oil companies are cutting back exploration programs. They're not looking for oil. And you can't produce what you can't find.

As for the national oil companies in Mexico, Venezuela, and Russia, well they too are being hit hard by the falling oil price. During the big run up to $150, national oil companies were cash cows. But it now appears that little of the oil bounty was reinvested in new production or even maintenance of existing production.

So what do we have now? We have a situation here. A situation where the falling oil price is leading a big reduction in oil production. This will match, for a while reduced demand for oil. But we also think it's baiting the trap for a huge blowback in oil prices. And the spark for that could be geopolitical. More on that tomorrow.

It didn't seem possible, but things are getting worse for Americas largest commercial banks, Citibank and the Bank of Amerika. "The U.S. government, recognizing that the banking crisis is far larger than originally thought, is laying the groundwork for a second phase of its rescue attempt, with plans to purge bad assets that are paralyzing the financial system," reports the Wall Street Journal.

Aha! Remember that phrase from last week, "incorporating the public debt?" This was the alchemical process by which a huge slab of outstanding debt was transferred to a new entity and converted into, ahem, "capital" in 17th century Britain. It now looks like you'll see a new large national financial institution in America this year. It may even resemble a giant vacuum, or a garbage dump.

No matter what it looks like, it will be the receptacle for the metastasizing debt that is killing the financial sector. The Journal says that the discussions for the new "Bad Bank" between the Fed, the Treasury, and the FDIC, "show how the rapid deterioration of bank assets is outpacing the government's rescue efforts. Banks are now struggling not only with the real-estate investments that sparked the crisis, but also with the car loans, credit-card debt and other consumer debt that have taken a hit with the faltering economy."

We may as well get on with full nationalisation of the financial system. Thus far, it's been incremental. But the end game is increasingly obvious now. Governments will either begin guaranteeing all mortgage lending and corporate debt (as plans in the UK suggest) and/or assume responsibility for the toxic assets impairing financial balance sheets (in exchange for equity).

What this means for stocks, paper currencies and gold bears more discussion. More on that tomorrow.

Dan Denning,
for The Daily Reckoning Australia

• Equity Premium Will Be Replaced With a Tangible Asset Premium
• Corporate Debt is Just One Aspect of the National Debt Problem
• The Cash Flows Are Coming
• Oil Prices Under $70
• Big Australian Resource Stocks Up 24% in 2008

Do you get the feeling investors have no idea what to do? It would be a pretty common feeling. Yesterday's action makes it seem like the idea the idea of a synchronised global recession is just now occurring to investors.

But then, the Dow gyrated all day long, before closing up 400 points to 8,979. The signals were decisively mixed. What about here in Australia? It was a historically bad day for the big miners. But you'd have to think Rio Tinto and BHP are starting to look over-sold.

Well, you wouldn't have to think so. But it looks like it nonetheless. There was a strong whiff of desperation, margin calling, and capitulation in the air yesterday. So what gives?

First the numbers. BHP, at $25.80 a share, is trading at just 5.7x projected 2009 earnings. The company hasn't moved the guidance for those earnings lower, although investors clearly seem to think this will happen. The company has US$4.2 billion in cash and just $12.6 billion in debt.

Rio trades at $66.01, or just 5.3x expected 2009 earnings. It has US$2.4 billion in cash. It does have US$43.8 in debt, $40 billion of which it took on to finance the deal with Alcan. Earlier this week, Rio said it was delaying $10 billion in asset sales and cutting back aluminium production.

Investors punished the China story yesterday, sending Rio down 16% and BHP down 13%. Goldman Sachs cut its forecast for Rio's 2009 earnings, citing Tom Albanese's comments earlier this week that marginal Chinese steel producers would reduce demand for iron ore. For its part, BHP faces concerns that increasing production at Olympic Dam (especially copper) is going to take longer and be more expensive than it originally planned.

But keep in mind Rio did not say it was freezing all capital spending. It's reviewing short-term projects, but not revising long-term capital spending goals. The company still believes demand for base metals and bulk commodities justifies spending billions on new projects. Ditto for BHP.

The trouble is in the short term. Because it's been unable to sell the assets as planned, it will have to pay down some of the debt that matures in 2009 with cash flow. That's less money available to shareholders. And you know what they say; you have to spend money to make money. If you're spending money to pay back money, you're not making money.

Still, the real issue here is whether investors have lost total confidence in the China story. And just what investors are we talking about anyway? Mums and dads? Hedge funds? Aussie institutions? Global fund managers?

We don't typically fish at the end of the pier where the blue chips are. But Rio and BHP are currently priced for a bad 2009. And it wouldn't surprise us if they may make new lows with the market. But in our Robinson Crusoe portfolio of stocks you'd want to own if you were on a deserted island for the next ten years, one, if not both the companies, would be on the list.

What about Woodside Petroleum (ASX:WPL)? The company reported yesterday that third quarter revenues were up by 84% over last year. Higher oil prices (year over year) and a production increase are what delivered the gaudy number. And going forward?

Woodside would have to set a final quarter production record to reach its goal of 86 million barrels of oil equivalent this year. It looks like that number will come in between 81-84mboe. That was enough to send the stock down 5.5% on the day to $37. It's down 47% from its high in May.

One other reason the stock probably fell is that the company studiously avoided saying anything about global oil prices or a global recession. Oil futures were down almost US$6 in New York trading to close at $69.85. That's the first time oil's closed below US$70 since August 23rd of 2007.

Is Woodside a Crusoe stock? Well, it depends on what your long-term view of energy is, doesn't it? In the short-term, the whole planet is having a recession. Oil prices could go lower. Woodside's stock price would probably go lower, too. By the way, if you have your own "Crusoe Stock" suggestions, send them to us at dr@dailyreckoning.com.au.

In the long term-at least the part before we are all dead-we reckon this global recession is a bit of a reprieve for anyone who hasn't taken Peak Oil all that seriously. Demand growth for crude is going to slow. A world less busy uses less energy.

But don't think it will last forever. Today's oil production comes from oil fields that were discovered decades ago. That same is true for many other commodities. We are harvesting the bounty of previous exploration.

As demand resumes growing-in one month, one year, or two years-we'll be right back up against the problem markets began to price in last year: declining oil production in the world's major fields side-by-side with growing demand from the emerging markets.

With the emerging markets currently submerged by recession fears, the oil issue comes off the boil for a bit. Oil stocks too. This gives you an excellent chance to ad companies that throw off huge cash flows when energy prices rise. And in our view, energy prices are going to rise again and by a lot in the coming years.

By the way, thanks for the many helpful notes and offers for help with our new super annuation project. If we don't get back to you right away, please don't take offense. The response was large, so it's going to take a few days to sort it all out. But it's good to know there are so many people already taking control of their investment future among the Daily Reckoning's 40,000 Australian readers.

Dan Denning
for The Daily Reckoning Australia

• BHP Billiton: The Oil Company That is Not an Oil Company
• Higher Oil Prices, the New Normal
• Oil Prices Fall 77%
• Pemex and Mexican Peak Oil Equal Expensive Oil
• Stranded on a Crusoe’s Island With One Stock

Earlier this week, NYMEX crude oil futures, in un-lady like fashion, bolted to an intra-day high of US$127.27. It capped an exuberant dash which saw oil gain over 8% in six trading days, 30% since the beginning of the year, and 100% in the last twelve months. It’s just the sort of thing you’d expect from a ten-year old.

Here is an astonishing fact: on December 10th, 1998 the spot price for a barrel of West Texas Intermediate crude was exactly ten U.S. dollars and ninety eight U.S. cents. Nearly ten years and one thousand and sixty two percent later, it is time to ask some impolite questions about oil.

Impolite questions are not always obvious questions, though. The obvious question is to ask how high oil can go. Arjun Mutri and his team at Goldman Sachs have told us a disruption in supply could send oil to another “super spike” over US$200. Two years ago, the “super spike” was supposed top out at $100. Maybe it will be US$500 two years from now.

It is easy to keep raising the figure, but is probably more useful to ask a different question. The important investment question is not how high oil can go from here. The impolite but important investment question is where future global oil production will come from at all.

The answer, according to a new report from UBS, lies with just eight oil companies, one of which investors can’t even buy. Below, I’ll look at where future production may come from, who stands to profit the most, what investors can do now, and three “Black Swan” possibilities for the oil market that no one has prepared for.

Why Are Oil Prices So High?

An obvious question on the lips of anyone who buys petrol is, “Why are oil prices so high?” Consumers trained in the ways of the free market—and used to cheap clothes and electronics made in China—are right to ask the question.

In a fully-functioning free market, rising demand tends to attract rising supply. The reason?
Profit.

When a market is imbalanced and demand exceeds supply, prices rise. At that point, opportunistic new producers tend to rush in and grab some of the profits by brining on new supply. Prices fall and, for awhile anyway, equilibrium is restored.

That’s how it works in textbooks. That is not how it’s been working in the real world. According to the International Energy Agency, world oil demand has increased in each of the last three years, from 84.9 million barrels per day in 2006, to 86mbbl/day in 2007, to this year’s rate of 87.2mbbl/day. The IEA’s most recent forecast calls for global demand of 87.8mbpd for the rest of this year.

In response to this increase in global demand, OPEC oil production promptly declined by 265kbpd in February (the latest period for which official figures are available) to around 32mpbd. Not exactly helpful. And latest survey from Platts predicts a March decline in production of 347kbpd from the February figure. This brings average OPEC production below 30mbpd for the month.

This past weekend, U.S. President George Bush travelled to the Kingdom of Saudi Arabia, politely requesting the Saudis increase oil production to bring down gas prices in America. The Saudis demurred, and told the President oil production was more than sufficient to meet global demand.

OPEC blames the oil price on the weak U.S. dollar, but admits prices could go higher still. OPEC President Chakib Khelil explained the situation to journalists in late May, saying:

The prices are high due to the fact of the recession in the United States and the economic crisis which has touched several countries, a situation which has an effect on the devaluation of the dollar, and therefore each time the dollar falls one percent, the price of the barrel rises by $4, and of course vice versa.

In other words, OPEC blames the oil price on the sliding U.S. dollar and not inadequate supply. Khelil added that, “If this (the dollar) strengthens by 10 percent, it is probable that (oil) prices will fall by 40 percent.” At today’s prices, that would put a barrel of crude at US$76.

Froth vs. Fundamentals

If you can say with assurance why oil prices are US$127, you are more assured than most. OPEC believes oil strength is really just U.S. dollar weakness. A stronger dollar means lower oil prices, and probably lower commodity prices in general. There are other theories that seek to explain the high oil price, including a “fear premium,” oil as an inflation hedge, and pure speculation by professional traders.

But there are three other possibilities to consider. Exploring them gives us a clue about where oil prices are headed and where future production might come from. These possibilities are:

1. OPEC won’t increase production because it doesn’t want to
2. OPEC can’t increase production
3. Non-OPEC countries cannot increase production enough to bring prices down

It is impossible to answer the first question. Oil producers, from OPEC to large multi-nationals, plan with long time horizons. They view oil markets as cyclical and do not base capital expenditure plans on pie-in-the-sky price forecasts. They are reluctant to recognise and respond to what your editor (among others) believes is a structural revaluation in global energy prices (not a cyclical bubble).

But this institutional skepticism about how long high oil prices can last does not account for the slump in this year’s production. OPEC’s production has fallen this year because of continued disruptions in Nigeria (see table below). Rebels in the Niger River Delta have reminded us all of how vulnerable the global energy system is to systematic sabotage. But excluding Nigeria, the rest of OPEC is running at near capacity.

That leaves the last two options. Prices send production signals. Either OPEC and non-OPEC producer are ignoring those signals—or they can’t respond to them in order to boost supply and take advantage of the high prices. And if OPEC is unable to increase supply now, how will it be able do so twenty years from now, when demand is much higher?

This presents global oil users (and producers) with a big problem, a problem that can be seen in the form of a chart which falls into seldom-used research category of “science fiction fantasy.” The chart shows that the IEA expects global production of liquid fuels to reach 117 million barrels of oil and oil equivalent by 2017. That “oil equivalent” includes ‘unconventional hydrocarbons’ like biofuels, oil shale, and tar sands.

If you do the maths, that means global oil production will have to increase by 37%, from 86mbpd today to 117.7mbpd by 2017. If you wish to express it in numbers, that means the world needs another 32mbpd of production—in addition to maintaining current production—to meet the IEA’s projected demand in 2017.

Or simpler still, the world needs another OPEC!

If only world oil production could increase with a simple act of mitosis. But OPEC is not a biological creature, programmed to replicate itself automatically. It is a political creature facing the physical realities of finding and producing more oil.

That doesn’t seem to bother the IEA. In last year’s World Energy Outlook, the Agency said OPEC could account for the entire needed increase in global oil production if starts spending the money now. The IEA forecast’s OPEC oil production of over 61mbpd by 2030.

Also predicted are the discovery of the lost city of El Dorado, the return of the gold standard to the global economy, and a Chicago Cubs victory in the World Series of baseball. [ed. Note : the Cubs have not won baseball’s top price since 1908]

Dan Denning
The Daily Reckoning Australia

• Higher Oil Prices, the New Normal
• BHP Billiton: The Oil Company That is Not an Oil Company
• Where Will Future Oil Production Come From and How Can Investors Profit Today? Part 2
• Oil Prices Has The Mogambo Guru Sticking His Thumb in His Eye
• No Spike in Oil Price Following IEA “Third Oil Shock” Announcement

Perhaps part of the humor is that this comes at the same time as the price of gasoline went up 3 cents to another record high of an average of $3.70 a gallon. This is up 22% from this time last year! 22 percent! 22! Hahahaha!

It gets even funnier when Lehman is not just predicting lower prices, but “Lehman is now predicting prices at $83 a barrel in 2009 and as low as $70 in 2010.” At this point I am laughing so hard that my stomach hurts, and since I am on the verge of pooping in my pants, I am desperately trying to stop laughing by sticking my own thumb in my eye, but it does no good! I just keep going, “Hahahaha! Oww! Hahahaha! Oww!”

But $70 a barrel of oil? Hahahaha! Oww! Hell, the cost of production is higher than that! So does Lehman think that production costs are going to go down? Hahahaha! Oww!

Bill Bonner here at The Daily Reckoning , taking no notice of my anguish or my thumb, says, “Ten years ago, China imported 165 million barrels of oil per year. Today, the total is more than 1 billion. Wonder why the price of oil hit a new high last week – above $126 a barrel? Well, China is a big part of the answer.” A whopping 600% increase in ten years, and yet Lehman thinks that oil will go down in price? Hahahaha! Oww!

Kevin Kerr at Whiskey and Gunpowder says, “According to the most recent data from the U.S. Energy Information Administration, oil demand for countries in the Organization for Economic Cooperation and Development – which includes developed nations like Japan, Germany and the United States – has gone up 14% since 1980. Oil demand for the rest of the world, however, has skyrocketed 43%. That’s more than three times as fast!”

And yet Lehman thinks that the price of oil will go down? Hahahaha! Owww!

So, handily summing up, you can take it from me, the Loudmouth Mogambo Prognosticator (LMP), the guy with the ready laugh and the sore eye where somebody keeps sticking his thumb in it, when I tell you that there is no way, absolutely no way, absolutely no freaking way in hell that oil will be that low next week, next month, next year or ever! Hahahaha! Oww!

I was going to go to the medicine cabinet to find something that would stop my eye from mysteriously hurting, when it fell on Sean Brodrick at MoneyandMarkets.com writing, “According to the International Energy Agency, China’s overall oil demand rose by 7.8% in February from a year earlier, much higher than earlier estimates of a 5.3% gain. And gasoline demand rose by 22.8%!”

Careful Mogambo Scholars will take particular note of the use of Mr. Brodrick’s use of exclamation points in highlighting the rise in gasoline demand, as this means to me a rise in the use of internal combustion engines, meaning that a lot of work is being done, which means that a lot of raw materials are being consumed.

In fact, he reports, “As a result of that surge in demand, China’s crude oil imports rose 15% in the first quarter and 25% in March. Its imports are rapidly accelerating!” Again one notes the use of the exclamation point!

And in another very populous country, India, he says that “oil product sales – a proxy of demand – surged by 10.9% in February compared to a year earlier.” Yow! Eleven percent in one year!

The interesting part, which is a euphemism for, “the price of oil is going to go through the freaking roof one of these days real soon, and for a long time after that, too, and if you want to make a lot of money, then get your worthless butt in gear and go out and buy things connected with oil” because all of this gigantic surge in demand is coming at a time when supply is shrinking.

This is made manifest when Mr. Brodrick reports that “oil production is already shrinking in 60 of the world’s 98 oil producing countries. So it’s no surprise that in March, global oil supply fell by 100,000 barrels per day, led by lower supplies last month from OPEC, the North Sea and non-OPEC Africa.”

And Kevin Kerr agrees, too. “Unfortunately” he writes, “there’s no way for supply to keep up.” As in “no way, absolutely no way, absolutely no freaking way in hell, just as The Mogambo put it in a previous paragraph”, which he could have said but didn’t.

This is important stuff, so I call up the local paper and tell them that I want one of their stupid little reporters to come over for my news conference so that I can tell the world what is happening. The little receptionist asks, “Is this The Mogambo?” and I proudly say, “Yes, it is!” Then, suddenly, the line goes dead! So I call back, and the same little receptionist asks, “Is this The Mogambo?” and I proudly say “no!”

Then she says, “Is this about inflation?”, and I say, yes, it will impact inflation, and before I can say another word, she says, “It’s you, you Stinking Mogambo Idiot (SMI)!”, and hangs up again!

So, if you never read in your newspaper how inflation is going to kill all of us, especially inflation in the price of energy, then blame the stupid little receptionist.

The inflation you can blame on the corrupt Federal Reserve, and the corrupt Congress (except Ron Paul), which encouraged them, and the corrupt Supreme Court, which let them continually ignore the part of the Constitution that requires that money be only of silver and gold.

The Mogambo Guru
for The Daily Reckoning Australia

• Chinese Laughter the Sound of US Stupidity
• Higher Oil Prices, the New Normal
• What’s Driving The Mogambo Crazy This Week: Price Inflation, Food Prices, Etc
• Bullish On Silver
• BHP Billiton: The Oil Company That is Not an Oil Company

In England, as in America, consumers are caught between the hammer of inflation...

"Prices soar at the fastest rate for 17 years," says a Daily Express headline.

...And the anvil of deflation...

"House prices fall at fastest rate since 1978," proclaims the Guardian, with the BBC adding that U.K. housing gloom is "the worst in 30 years."

Meanwhile, over in the financial sector, the Globe and Mail says the financial industry in London "could lose 40,000 jobs."

But here at The Daily Reckoning headquarters in London - in the building with the golden balls on the roof, just over Blackfriars Bridge, famous as the spot where Italian banker Roberto Calvi hung himself - we can step back and take the long view.

Prices rise. Assets fall. But what really hurts this time is that the price of an hour of Anglo-Saxon labor (which is all most Americans and Englishmen really have) is going down. (More about that later in the week...)

Do Americans care what happens to the Brits? Not particularly. Unfortunately, the two countries are both in the same boat...both had been sailing along so happily in the sloop: the "Anglo-Saxon" Economic Model. Now, they're taking on water. It's all hands on the pumps!

That is to say, both Americans and Brits borrowed too heavily. Now, the time has come to pay back...and no one is very happy about it.

Foreclosures in the United States were up in March, as expected. Bloomberg tells us they rose 57% "as homeowners walk away."

They're sure not driving away...they can't afford to!

Oil hit a new record yesterday. At $114 it has never been more expensive. This is another way of saying that Americans and Englishmen have to work longer to buy a gallon. Gasoline is about $2.88 in New York. In old York, it is more like $10 a gallon.

"We're not producing enough oil," says Gordon Brown, Britain's CEO.

In fact, we're producing more than ever before. We're producing so much...we may never again be able to produce so much. And still the price is rising. "Russian oil production is peaking," says our man on the case, Byron King. His source is the Financial Times, reporting:

"Russian oil production has peaked and may never return to current levels, one of the country's top energy executives has warned, fuelling concerns that the world's biggest oil producers cannot keep up with rampant Asian demand.

"Leonid Fedun, the 52-year-old vice-president of Lukoil, Russia's largest independent oil company, told the Financial Times he believed last year's Russian oil production of about 10m barrels a day was the highest he would see 'in his lifetime'. Russia is the world's second biggest oil producer."

Byron elaborates: "He wears the Red Star, I suppose. So you can trust him, right?"

"Most of the Western Siberia oil fields were discovered in the 1950s, 1960s and 1970s. Those fields are now in terminal, irreversible decline even with all the able assistance of the likes of Schlumberger and Baker Hughes. So maybe there was another reason that Putin stepped down as President? There are no coincidences, comrade. Old Russian saying goes, 'Quit while you are ahead.'

"The genius behind much of USSR oil production was Nikolai Baibakov, who just died on March 31 at age 97. His post-WWII leadership of the Soviet oil industry led to discoveries that fueled the USSR, and later Russian Federation.

"Sic semper petroleos Russkoye."

But let's not get distracted. So what if oil output is falling?

Ah, dear reader, you're torturing us with questions like that.

Don't you know that the whole machinery of Western industrial civilization depends on cheap oil? And don't you know that we now have to compete for every drop - with the communist Chinese, for example. Yes, their demand for the black goo is rising nearly 5% per year. And now that we're not actually producing more and more each year, this extra demand...combined with monetary inflation...works on the price like a booster rocket - sending it into orbit.

But is this cycle over? Has the price of oil - which has gone from under $40 in 2001 to over $100 in 2008 - run its course? Is the bull market over?

*** "It doesn't look like the party is over just yet," says colleague Chris Mayer. "Since January 2001, you can explain the move in the price of oil largely as a function of the increasing money supply. As the amount of money grows, the price of oil rises. In fact, almost 87% of the move in the price of oil can be explained by the increase in money supply...."

As we've been saying - and we aren't the first - inflation is a monetary phenomenon. Inflation that pushed the price or rice to another record high yesterday...and sent gold back up over $930.

But what does this imply about the price of oil going forward?

"Given that we are still in the midst of a credit crisis of sort, is seems unlikely the Fed will tighten money in any way at all," Chris continues. "That leaves a clear path for the price of oil and commodities to continue to rally in nominal terms..."

Chris goes on to point out that oil is no longer merely a U.S. story. The rest of the world is uses more and more of it too. As a nation gets richer...its people use more and more oil...until it reaches a peak...and then oil consumption levels off. That's why people in Britain drive Skodas instead of Chevrolets. They have reached a level of energy maturity...in which per capital consumption tends to stagnate below 20 barrels per person per year. U.S. energy consumption has leveled off at 25 barrels per person. Hong Kong, South Korea and Japan all have leveled off at about 15 barrels per person.

But China and India - the world's two largest countries - "are only beginning to consume oil at any meaningful level," Chris notes. They've got a long way to go - with huge jumps in the quantity of oil used - before they get anywhere near the levels of the developed world.

"The price of oil has room to run yet," Chris concludes, "in part because of the growth in money supply and in part because of pressing international demand. Second, even if we already saw oil production peak, history says that prices won't retreat by much over the next several years. And finally, the capital spending boom by the big oil companies is just getting started, which is great news for investors in oil field services companies."

*** Of course, increases in money supply don't affect ONLY the oil industry. We mentioned rice - which hit a new record yesterday, too.

If gold goes up in price, hardly anyone cares or notices. Oil, too, is something most people can live without. But food?

All over the world, food prices are causing havoc. Riots have broken out in Haiti, Indonesia, the Philippines, and Cameroon - because basic food staples...rice, wheat, corn, soybeans...have become so expensive.

Why are food prices high?

Normal agricultural cycles, is one reason we gave yesterday.

Another is the increasing worldwide demand.

Here's a third reason - biofuels. On Monday, Britain passed a law requiring that 2% of fuel come from plants (actually, all of it is believed to come from plants...but oil, gas and coal have had millions of years to compress and ferment.) Since Britain doesn't produce enough biofuel to meet the quota...she actually has to import the stuff on ships from America. Not only does it take more energy to produce the fuel than it generates...the Brits add the cost of shipping it across the Atlantic. But as we keep saying, there's no problem so awful that politicians can find a way to make worse.

Bill Bonner
The Daily Reckoning Australia

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