The Last Days of the PetroDollar

 Skrevet av Garrett Johnson - Publisert 29.10.2007 kl. 02:23 (Oppdatert 29.10.2007 kl. 13:11)

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"You have meddled with the primal forces of nature, Mr. Beale, and I won't have it. Is that clear? You think you've merely stopped a business deal? That is not the case. The Arabs have taken billions of dollars out of this country, and now they must put it back. It is ebb and flow, tidal gravity. It is ecological balance. You are an old man who thinks in terms of nations and peoples. There are no nations; there are no peoples. There are no Russians. There are no Arabs. There are no third worlds. There is no West. There is only one holistic system of systems; one vast, interwoven, interacting, multivaried, multinational dominion of dollars."

-- character Arthur Jensen from the movie Network

The news came out yesterday when few would notice.
CARACAS (Reuters) - OPEC is likely to discuss creating a basket of currencies for oil pricing at its next summit due to the steady decline in the dollar, Venezuela's Energy Minister Rafael Ramirez said on Friday.

"The need to establish a basket of currencies ... will probably be a point of discussion in the next OPEC summit," Ramirez told reporters during an evening event in the presidential palace.

"The dollar as a benchmark currency has been weakening quite a lot and it creates distortions in oil markets."

While disturbing, it wouldn't mean much except for the fact that this is merely the latest step in a trend away from the dollar by OPEC nations. For example:

The question is: why does this matter?

History of the PetroDollar

The petrodollar is an interesting historical, economic, phenomena not likely to ever be repeated.

A petrodollar (a term coined in 1973) is an American dollar earned by a foreign nation from the sale of its own oil.

The significance of the petrodollar revolves around the concept of "what is money?"
Money is any marketable good or token used by a society as a store of value, a medium of exchange, and a unit of account. Since the needs arise naturally, societies organically create a money object when none exists.

Through almost all of human history, and through all of American history until 1971, money was based on a precious metal. In other words, if someone asked you what a dollar was your answer would be "1/44th of an ounce of gold".

You see, before 1971 money wasn't a piece of paper that only held value because the government said it did. Paper money was something backed by a tangible asset. It's the gold (or silver) backing that gave the paper money its value (and after WWII America held 80% of the gold in the world). If it wasn't for some sort of commodity backing America's paper dollars wouldn't have any more real value than Weimar Reichmarchs.

So what commodity backed the dollar after Nixon defaulted on our international debts and took America off the gold standard?

Oil was that commodity.

"Government is the only agency that can take a valuable commodity like paper, slap some ink on it, and make it totally worthless."
-- Ludwig von Mises

1971 was significant for two reasons directly related to America's default on its international debts and the petrodollar.

One reason was that it marked the start of increasing price inflation (due to the devaluation of the dollar). The second reason is 1971 marked the peak in America's oil production.

Until 1971 America had been the leading crude oil producer in the world. The allies war machine in WWII ran largely on Texas crude. But after 1971 the world's oil production shifted from Texas to the Persian Gulf.

Fortunately for America, OPEC nations all sold their oil in dollars, and pegged their currencies to the dollar. Meaning that if Japan wanted to buy oil from Saudi Arabia they needed American dollars to make that purchase.

{ad align='left' size='250'}This created an external, artificial demand for our pretty, green pieces of paper. The world's economy runs on oil, and as long as all the oil producing nations demanded dollars for their crude then American dollars were in reality backed by oil. In other words, it was Bretton Woods II.

The advantages are obvious. For instance, America does not need to have a foreign currency reserve like other nations do because it prints the ultimate "hard currency". What other currency would other nations want other than the one that bought the commodity their economy depended on?

Being able to print the world's reserve currency at no cost also means that interest rates are kept at an artificially low level because foreigners need our dollars more than we need their savings. It also means that massive trade deficits are not an important issue because we can always print more dollars to pay for the goods that other nations produce.

Like oil, most other commodities traded in the world are traded in dollars.

Bretton Woods II in Danger?

However, there are significant differences between Bretton Woods I and Bretton Woods II.

In Bretton Woods I, the dollar was fixed to a certain amount of gold. Other nations could either have dollars, or gold, in exchange for trade surpluses. When America spent too much money on the Vietnam War, other nations decided they wanted gold instead of paper dollars. The Nixon Administration realized it didn't have enough gold to back all those dollars it was printing, and the system collapsed.

In Bretton Woods II, there is no limit to the amount of dollars America can print, hence the massive amount of price inflation (aka currency devaluation) we've seen since 1971.

But unlike Bretton Woods I, we rely on the kindness of other national leaders. OPEC nations must sell their oil priced in dollars. If they don't then the dollar becomes worth nothing more than a Euro or a Yen, except with massive trade and budget deficits. Those trade deficits are currently funded by simply printing more dollars, but if other nations didn't need dollars to purchase oil what would we fund our trade deficits with?

"The U.S. dollar is a 'faith-based currency' dependent on the credibility of a central bank"
-- Dallas Federal Reserve Bank President Richard Fisher

Hence you can see the problem of when Iraq started selling its oil in Euros rather than dollars in 2000. Within a few years we have invaded Iraq.

Now Iran is pricing their oil in Euros and the war drums are beating again. This brings us to a new term worth knowing - Petrodollar Warfare.

Most OPEC governments are being propped up by our military might. Most OPEC nations recycle their massive trade surpluses back into American debt rather than invest in their own people. It's a sick symbiotic relationship that requires our troops having their blood spilled to defend corrupt monarchs.

A relationship this dysfunctional can't last for long. It's also extremely expensive for America, and those costs are what is driving the dollar down in value. It's the dollar's drop in value is what is causing the OPEC nations to move away from the dollar.

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