Dollar may rise if oil threatens global growth

The dollar could benefit in coming months if political turmoil in Libya spreads to other key oil exporters and accelerates the rise in crude prices to levels that could derail global economic recovery.
Analysts say sustained high oil prices could prompt policymakers to focus on the negative impact of an oil shock on domestic consumption and demand, shifting from their fixation on the need to raise interest rates to ease inflationary pressures. This could support the dollar, often a safe haven during times of heightened economic and financial stress.
Some analysts say oil prices may rise towards record highs seen in 2008 if the rebellion in Libya spreads to Saudi Arabia, the world's largest oil producer.
Citi currency strategist Valentin Marinov said these worries may prompt investors to pick up dollar-denominated assets, slowing the diversification flows away from the US currency seen in past months.
"If push comes to shove and we see full-blown risk aversion on geopolitical concerns, the diversification away from dollars could come to a stop and we could see an uptick in demand for Treasuries. We could see temporary dollar strength," he said. Brent crude has jumped more than 20 percent this year to nearly $120 per barrel as a rebellion against Libyan leader Muammar Gaddafi has disrupted oil supplies.
The dollar's failure to gain from higher oil prices supports the traditional, negative link between the two assets.
But their 66-day rolling correlation could tighten if higher oil prices trigger worries about global growth and spurs demand for US assets. The link strengthened in late 2008, after the Lehman collapse spurred risk aversion, which boosted the dollar.
"If we have an oil spike between here and $150, it would be largely inflationary, but at some point above $150 it would be deflationary because it would stall global demand," said Stephen Gallo, strategist at Schneider FX, adding the latter scenario would trigger some safe-haven demand for the dollar.
Marinov at Citi said dollar demand could pick up even before oil hits an all-time high of $147, as the global economy is much weaker than it was when prices were last at that level, making the dollar more vulnerable to inflation-related economic shocks.
The dollar has fallen to a four-month low versus a currency basket on expectations the Federal Reserve will lag other central banks in raising interest rates. This would extend the dollar's yield disadvantage to the euro, sterling and others.
Some in the market say concern the US central bank is not doing enough to deal with inflation risks has largely excluded the world's most liquid currency from the buying stampede that often results when geopolitical concerns escalate.