The Decline of the Petrodollar

What if a new oil bourse trades in euros or rubles instead of dollars?

By Matt Polacko | 2006-10-01 12:00:00

By the time this magazine is in print, the ball may be rolling toward eventually ending the dollar's hegemony in the world economy. The cause: the proposed Iranian Oil Bourse (IOB), which is due to open by the end of September. The "bourse" or commodities exchange will provide a place where countries can finally buy and sell oil, not only for dollars, but also for euros.

Oil exchanges exist in New York, London, Tokyo and Singapore, with the vast majority of transactions handled by New York's NYMEX and London's IPE, both American owned. Currently, oil is traded in dollars at each exchange, which explains the origin of the term "petrodollars."

From Petrodollar to Petroeuro?

The term specifically refers to a dollar earned by a country through the sale of petroleum. It was coined in 1973 after the United States concluded a series of agreements with Saudi Arabia, known as the U.S.-Saudi Arabian Joint Economic Commission, whereby American technical and military assistance was provided to Saudi Arabia, in exchange for accepting only US dollars for their oil.

With the creation of the new oil exchange, Iran is also aiming to establish a new oil "marker" or oil pricing standard that will be based on Iranian petroleum and denominated in euros, which will compete with the existing dollar-denominated West Texas Intermediate, Norway Brent and UAE Dubai markers.

The IOB may not attain much significance, as initially it is likely to have a small volume of sales, or its opening may once again be delayed. It was initially scheduled to open on March 20 and then again in May but both times it was postponed due to technical problems in startup. Since then, however, Iran's Fars news agency has reported that a building on the southern Iranian island of Kish has been purchased to house the IOB and that the rules and bylaws and running and equipping of the bourse are being negotiated.

Iran is hoping the IOB will have a positive impact on foreign investment as well oil sales, not only for Iran but for the wider Persian Gulf region. They argue that as long as 60% of the world's oil and a quarter of its natural gas are produced by the region, oil transactions limited to New York and London make little sense. While these concerns are legitimate, the potential for taking a jab at Iran's current chief antagonist Uncle Sam certainly provides a motive to Iran's government.

If all goes to plan, the long-standing status of the American dollar as the world's only reserve currency could be seriously threatened. Currently, the dollar completely dominates the world economy and accounts for roughly two-thirds of all transactions. This allows the US to borrow from the rest of the world without having to keep the reserves of any other currency. However, America's astronomical $800 billion trade deficit and ten times larger national debt are the black cloud hovering over the US economy.

With the establishment of the euro in 1999 and its subsequent rise in valuation at the expense of the dollar, it is well positioned to become an alternative reserve currency. If the rest of the world were to drop the dollar for the euro in great numbers, its value would collapse. This would at least cause hyper-inflation or a recession.

Lately some countries have already begun to rebel against the dollar reserve monopoly. In March, the United Arab Emirates Central Bank said it was considering switching ten percent of its dollar reserves to euros, with Kuwait and Qatar hinting they might follow suit. Syria has already begun switching its currency transactions and in May, Sweden cut its dollar reserves from 37% to 20%, with the euros share rising to 50%, which immediately caused a 2% drop in the value of the dollar.

Other countries could quickly jump on the dollar-dumping bandwagon, with China, Venezuela, and Russia at the head of the queue. In fact, Russian President Vladimir Putin has already committed Russia to a similar plan to Iran. In his May 10 State of the Nation address to parliament, Putin announced that an oil and gas exchange would be created in Russia that would trade in rubles in order for the "ruble to become a more widespread means of international transactions." The oil exchange is expected to begin in 2007.

Russia has long wanted to have a greater influence in world oil prices and a key aim of Putin's recent proposal is to encourage the primary consumers of Russian energy to stockpile rubles for purchasing commodities on domestic trading lots, thus creating a global demand for the Russian currency, similar to what the dollar and euro enjoy. This would in effect lead to the creation of the petroruble.

This has all come at a time when US-Russian relations have been quickly degenerating and have reached their lowest point in years. The announcement arrived less than a week after US Vice President Dick Cheney roundly attacked Russian democracy as well as its energy policy at an address to European leaders in Vilnius, Lithuania. His attack was countered the next day by Russian Foreign Minister Sergei Lavrov, as well as by Putin, who in his address compared the US to a hungry wolf that "eats and listens to no one."

Interestingly, Putin's energy exchange announcement did not appear in any Western media outlet, nor has much discussion at all occurred in the Western media about the IOB or the potential for dollar trouble stemming from the implementation of either plan. The supposedly free Western press avoids shedding light on the real motivations and machinations of the US government. This explains why the real reasons for the Iraq war have so rarely been articulated in the press, not to mention the fact that the media would not dare touch the currency motivations for the war with a ten-foot pole.

Currency Motivations for the War on Iraq?

On November 6, 2000, while the US was still engaged in the Bush presidential seizure, Saddam Hussein made the unprecedented move of declaring that Iraq would no longer accept dollars for oil sales and ordered the conversion of 10 billion dollars in the UN Oil-for-Food program into euros.

Security and oil expert William Clark has been one of the leading progenitors of the theory that this action by Saddam sealed the dictator's fate and was the primary reason for the US invasion of Iraq in 2003. He espouses this view in Petrodollar Warfare (2004) and points out that within just two months of the invasion, Iraqi euro accounts were switched back to dollars and all future payments for Iraqi oil were to be conducted only in dollars.

While the pricing and trading of oil in dollars was likely a key motivation for the Iraq war, it is unlikely to be the sole cause. Political control over oil supplies and the opening up and exploitation of the Iraqi economy by American companies certainly were strong factors. Even so, one cannot help but gaze toward Iraq during the current Iranian controversy.

The Bush administration has been threatening grave consequences for Iran since last year unless Iran halts its nuclear ambitions. Since Iran is at least five or ten years from having nuclear weapons, and since they profess to use nuclear enrichment technology for purely civilian purposes, which is their right as a Nuclear Non-Proliferation Treaty signatory, it is painfully obvious that ulterior motives are again at play.

The American demonization campaign against Iran has been in full swing for a while now, just as it was with Iraq before the invasion of their country. Iranians are portrayed as dangerous threats to America with the spotlight shown on blustering President Mahmoud Ahmadinejad. While he is indeed a dangerous extremist, he has no control whatsoever over the military.

Recently, the warmongers in Washington have extended their demonization campaign north to Russia, as the foreign policy think tank the Council on Foreign Relations issued a stern attack on Putin and Russia's "Wrong Direction," concluding that a "strategic partnership no longer seems possible." A stark contrast from Bush's amicable portrait of "Vlad" few years prior: "I knew that President Putin was a man with whom I could work to transform the relationship between our two countries."

While the idea of military action against Russia is ludicrous, the US has been encircling it by establishing bases in Central Asia and entering territories in what used to be the Soviet sphere. Pre-emptive strikes against Iran are not out of the question.

Iran sits on the world's third largest oil reserves, yet produces only about five percent of the world's total output. However, Russia is the world's second largest oil producer at eleven percent. Combined, their shift away from petrodollars could be telling. Throw in Venezuela -- which has discussed moving towards oil pricing in euros and would jump at the opportunity -- with their four percent production total, and the potential certainly exists for a seismic shift to occur in the currency and oil trading world.

It remains to be seen just what the US government will do to maintain its dollar hegemony. The best outcome of the proposed Iranian and Russian maneouvres would be to engineer a bloodless and smooth transition from the current petrodollar hegemonic system to an oil trading currency system in which the dollar, euro, ruble, and others are all prominent.

A decline of the dollar's position in the world economy seems almost inevitable. The Organization for Economic Development has even called for an "unavoidable" 30% to 50% devaluation in the dollar. The establishment and rise of the petroeuro and petroruble look likely to hasten this forecast and potentially even eclipse it.

Matt Polacko is a recent Master's graduate in history from McMaster University who lives and works in Toronto.