Obama's re-election hinges on Russia, oil

President Barack Obama was caught this week on an open mic telling President Dmitri Medvedev of Russia that after the next elections that he would have "more flexibility" to negotiate the missile programme.

If there ever was doubt where President Medvedev stood in the hierarchy of Kremlin's politics, he confirmed it, when he was heard saying: "I understand. I will transmit this information to Vladimir [Putin]."

The implicit understanding was that Obama would return to power and the US-Russian exchanges would happen with less electoral pressure. Ironically, Obama's re-election chances depend on the Russians more than perhaps either of them is openly willing to agree.

Thanks to oil and Iran. Russia is the world's largest crude producer at 10.36 million barrels per day [Saudi Arabia is at 9.75 million bpd]; notwithstanding the ups-and-downs of the Russia-Iran relationship, if there is one capital other than Beijing that has some leverage on Teheran, it is Moscow.

Neither of these would have mattered much to Obama's re-election had the crude prices been around the $50-$75 (Dh183-Dh275) per barrel mark. But, as of writing this, crude oil futures traded at $106.91 per barrel, where the average per gallon price across the US translates to $3.89.

Across the Atlantic, the Brent North Sea crude traded at $125.62 on the ICE Futures Exchange. In some states in the US, the petrol price has hit the psychologically important $4 barrier. As of now, it is unclear how this will feed into the inflationary expectations of the average consumer. The reasons for this rise are varied and often outside the direct influence of the US policy-making machinery.

This is a point the Obama administration tries hard to communicate, when the oil lobbies seek the opening of geological fragile reasons.

Those who watch oil keenly estimate that nearly $35-$45 of the crude barrel price is simply a political premium built in thanks to the Iran crises. Given the uncertainty to global supply that might then manifest, the futures markets have actively been pricing in such uncertainty. There is also the added issue (one that Obama wouldn't mind at all, if it didn't accompany an oil price rise) that as the US job market progressively improves — the aggregate demand of oil and it's derivatives is likely.

On the monetary side, in an effort to spur economic growth, the US Federal Reserve is likely to target the key US interest rates such that it continues at present low levels. This is, on average and per theory, likely to decrease the demand for US dollar denominated assets, which translates, to the dollar's depreciation when compared to a basket of currency over time.

This gradual depreciation too feeds itself into the rise of crude when measured in dollar terms. As the volatility in crude prices begins to affect inflationary expectations of the average consumer, most stable economic arrangements progressively break down.

Policy likely to change

As this column had argued last week, depending on how the Federal Reserve sees inflation: is it a trot or a gallop to higher levels, it's policy on rates might be change.

For now, the Fed has tried to suggest that inflation is not a worry. But, bond yields, which had spiked last week, is the key leading indicator to where the market thinks inflation is headed.

And yields are critical component for economic recovery. If the Fed manages to keep the yields low, the odds of a recovery in the housing markets are higher. So, in a roundabout fashion, the key to a stable recovery is also contingent on low oil prices that give investors a measure of predictability.

In short, if as US political pundits like to tell us that the key to winning election lies in the pithy comment: "it is the economy, stupid" — then Obama's re-election is tied to crude prices. And these prices are a function of political risk, economic growth and monetary policy manoeuvres. Add to this the secular rise in demand for crude from the rise of global economic powers like China and India.

In the end, there is a certain unmistakeable irony to the fact that while the rest of the world might not vote in the US elections, the world has found a way to have it's say. In this case, with one barrel of oil at a time.

The columnist works for a major European investment bank in New York City. All opinions are personal and don't reflect any institutional perspectives.