Most of us go about our daily lives, unconcerned with the invisible frameworks that keep the global economy humming. We're not unmindful; we pay attention to the news and how things may affect us. Food and housing costs are two of the most prominent issues we care about. Petrol prices and how much it costs to heat our homes are two more.
There's nothing wrong with focusing on one's immediate circumstances; it's human nature to do so. Maslow's Hierarchy of Needs supports that concept. It suggests that humans prioritize meeting their basic needs for food, water, shelter, and safety before anything else. Academics agree there is some truth to that hierarchy even as they criticise its conclusions.
But we're not talking about human psychology today; we're here to discuss a seismic shift in the global economy. For so long, one currency - the US dollar, has dominated global trade and the oil markets, specifically. Now, these dominant petrodollars, as they're called, have a rival. To understand what that means for our physical and financial safety, we need to learn:
- what petrodollars are
- how they came to dominate the global oil markets
- why there's an effort to unseat the petrodollar
- what oil trading might look like in the future
Even if you don't need petrol for your car or invest in the oil markets, these changes will affect you. Everyone needs to understand how one currency came to dominate global trading and why another currency apparently aims to usurp it. So let's dive into the oil markets, discover how they came to be the way they are and where they might go from here.
What Is the Petrodollar?
Before we can talk about such a significant economic driver as the petrodollar, we have to know what it is. It's not a special currency based on the US dollar; it's actual US dollars 'reserved' for trading in oil markets. Global powers established the US dollar as the world's currency almost 80 years ago. So countries around the world keep US dollars in reserve for international trade and buying oil.
Towards the end of the Second World War, leaders from 44 nations gathered in the US state of New Hampshire. Seven hundred thirty delegates spent 21 days hashing out economic systems meant to prevent the conditions that twice lead to global warfare. The Bretton Woods Conference initiated the World Bank and the International Monetary Fund (IMF). These sessions further established the US dollar as a global default currency.
It's hard to say whether every delegate was happy about that choice; indeed, it seems there was some disquiet. In 1967, a mere 23 years after Bretton Woods, European central banks started buying all the gold they could get their hands on. What does gold have to do with dollars?
US delegates at Bretton Woods had guaranteed their currency would be backed by gold. It didn't take long to realise, though, that allied countries might not get their gold value's worth for the US dollars they held. So they stockpiled gold to safeguard their countries' economies. They were right to do so. In 1971, American President Richard Nixon announced that the US dollar would decouple itself from gold.
A lot was going on in the US just then, not the least were the Vietnam War and out-of-control inflation in the US. That was, in part, because US had financed and armed Israeli forces during the Suez Crisis and other incursions. The Saudis saw US support for Israel as a strike against them. This aspect of Nixon's foreign policy led the Organisation of Petroleum-Exporting Countries (OPEC) to stop selling the US any oil.
The nations settled the oil embargo and the US vowed to never be that vulnerable again. That country's leaders speculated on every means to assure oil security, including military action to seize Middle-Eastern oil fields. Eventually, they settled on strategic diplomacy. Increased arms sales led Saudi Arabia to reinforce the long-ago proclamation that they would only accept US dollars for their oil.
Still, those OPEC production cuts affected every nation from China to the UK even though they were meant to punish the US. Weaponising oil worked in the mid-70s and again in the early 80s; every oil-dependent nation suffered economic shocks. They had grave implications for the international monetary system. But back then, no economy was strong enough to offer an alternative to the US dollar.
How the Petrodollar System Dominates Global Markets
Let's be clear: abandoning the gold standard was necessary. The US didn't handle the matter most equitably and no provisions were made to balance economic power. Because of that, the US dollar continued to have outsized power and influence through the World Bank and IMF. That, too, ties back to Bretton Woods.
After the Nixon Shock, countries were free to peg their currencies to whichever countries' currencies they chose. However, as most nations' coffers had dollars in reserve, that currency remained the standard for international trade. And besides, Saudi Arabia had proclaimed that they would only accept US dollars for their oil.
But the bigger truth was that, until recently, there's not been another nation with a powerful enough economic engine to change things. Nor has there been any reason to change the status quo. And then, the US sanctioned Russia and threatened economic punishment on anyone buying Russian oil.
Now, we have to take a small side-step. For the past few years, China has been stockpiling gold, much as European powers did in 1967. Nobody made much of it. Maybe they put it down to China being more economically powerful so it made sense for them to buy gold. But then, President Xi Jinping negotiated a peace deal between Saudi Arabia and Iran, two of the world's biggest oil-producing countries.
This landmark peace treaty assured China's oil security for the foreseeable future. But the most remarkable part of the deal is that Saudi Arabia agreed to accept payment in Yuan. The Chinese currency, now backed by gold, has overtaken the US dollar in a critical global market. Does that mean China is pushing for a petroyuan?
The Petrodollar: Gone for Good?
The Saudi deal is just one step in the possible global decline of dollar reserves. And it happened after Russia proclaimed it will only accept rubles for its oil. India and a few other nations have been buying oil from Russia on those terms for more than a year. And then, in April 2023, Brazil and China entered into a bilateral trade agreement, using their own currencies.
For many observers, these trade deals - and especially the Saudis turning away from the US, signal the end of petrodollar dominance. Other US-provoked events contribute to the dollar shedding, too. Trying to undercut Russia's economy, cutting France out of the Aukus deal and US financial institutions' instability all helped turn the tide.
For now, the world still needs dollars and petrodollars. The Chinese Yuan, the only currency strong enough to unseat the dollar, doesn't circulate at nearly the volume as the dollar does. And few nations have any yuan reserves. So is it possible for petrodollars and petroyuans to work side by side?
Beyond the Petrodollar System
Besides negotiating peace between the Saudis and Iran, China has pledged billions in infrastructure projects in Saudi Arabia. These include everything from roads and bridges to sustainable development and renewable energy. The Chinese Belt and Road Initiative (BRI) has made remarkable strides in other nations' development on the African continent. The Saudis wanted in on the action.
But China isn't simply proposing swapping one paper currency for another to pay for everything. Nor do they plan to limit their innovations to the countries they deal with. As we speak, China is exploring ways to incorporate new technologies into world trade. Not just for oil but for everything.
Blockchain technology and digital currencies offer a way to decentralise global trade. No longer would one nation and one currency dictate trading terms. No more could one country unilaterally decide who may trade with whom and for what price. But before we can implement this new, equitable system, every nation must have the infrastructure to access it.
Global markets have tried before to break away from the US dollar but found little success. For instance, Venezuela tried to de-dollarise in the 1990s because the US had imposed punishing sanctions. The effort failed because there were no other currencies strong enough to stand on. That's not the case today.
Despite climate change and calls for renewable energy initiatives, oil remains vital to the global economy. Despite more countries engaging in bilateral trade without the US dollar, the world still needs the dollar as a reserve currency. But those conditions are subject to change. Some economists predict the change is coming sooner rather than later, perhaps as early as 20 years from now.
Alarmists aside, few believe that swapping one petro-currency for another is the master plan. Rather, they envision a global economy defined by bilateral trade agreements with values based on price commodities, not currency reserves. China's vision of blockchain trade activity using a digital currency would give every nation access to global markets.
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