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Petrodollars Could Turn Out To be Bush' Achilles Heel

Angelique van Engelen - 9/2/2005

Vladimir Putin's seemingly unflinching support for the US led war against terror has led many to think about why he was being so good a friend to such an uningratiating Washington. It appears that he hasn't got much respite from backing the US in the War on Terror. Yet he's not alone. What can the rest of the world feasibly do to curb the US aspirations for global dominance?


In a not so distant past, the Russian President made a statement that sent shivvers up the spine of many Washington policymakers, uttering that a shift from dollar to eurobased oil trading wasn't a bad idea. "We do not rule out that it is possible. That would be interesting for our European partners. But this does not depend solely on us. We do not want to hurt prices on the market," Putin said at a joint news conference with German Chancellor Gerhard Schroeder in 2002.


The issue has recently become somewhat more topical. Reading about the way the US is conducting the war against terror is in normal terms almost as unbelievable as President Putin is impenetrable, yet the latter's idea might soon be seen as rather a viable tool to curb back the never impending drive by Washington to extend its reach to all energy rich areas by all means.


The powerful slogan it's the economy (and that magic comma), stupid!, has by now perhaps been overtaken by It's the oil, stupid! The US rationale for going to war is at once also its achilles heel. The rationale is simple. The world is faced with one superpower that lives by totally amoral environmental standards, invades other countries like the plague and the whole world is conveniently paying for this.

It is common knowledge that world oil is traded in US dollars, under an agreement signed by all OPEC countries. All countries that trade the black gold must first go to the foreign exchange markets to purchase dollars and do their trading. The US is very happy with this arrangement, simply because it can pay for its current account deficit in dollars. This means that the deficit can rise without all that much negative effect on the country's finances. Why? All the oil that is traded is far bigger than the country's current accounts deficit (which this year will rise to the tune of USD700 billion.)

The picture that we get on the US dollar is distorted because the dollar is simply not falling in value by as much as another country's currency would that ran a current account deficit of the same magnitude. The great thing for the US is that it can continue to import from abroad against bargain prices. It has done so for years and can even go to war to make sure the party continues.


But the voices are growing stronger that favor ending this situation. Putin's 2002 comments were not new. In October 1999, at a meeting of EU leaders in Helsinki, he was perceived to be wanting to forge a new bloc with the EU to counterbalance the power of the United States, keen to change the structure of OPEC at the time, yet analysts said it would be impossible for him to work this alone because he would find himself barred from major countries in the Middle East with close ties to the US.


Currently, the world is a somewhat different place however and Putin has been assigned some roles by the US in the Middle East. The recent twelve months however have seen a marked distancing between the US and Russia and there isn't really all that much that withholds the Russians from doing their thing and being less than civil to the US in regions they want to have a presence and neither would a turnaround of the OPEC trading system have all that much impact on the US Russia relations.


A few countries so far have switched their oil systems from euros to dollars, including Iraq, a move which many informed observers say was the very reason the US decided to give the green light to plans to attack the country and install a US backed regime. Another country is Iran. It is not clear what exactly the Russian inspiration was for President Putin's suggestion to make a switch-over in 2002, but the subject was certainly much more talked about at the onset of the war than in recent years.


The European Union also has launched a few public proposals to create a dual currency system for trading oil, but so far, there's no indication that the OPEC leaders are following up on the hints. The impact on the global economy will be considerable if not rather huge. A switch makes gigantic economic sense. The EU's deficit is rather more modest compared to the US' bellowing trade gap and the rest of its finances are also in better shape than those of domestic US. The Euro-zone has a larger share of world trade yet the dollar dominates everything. That's really rather dangerous. What's more, the EU has very strong trading links with the Middle East compared to the US. But by far the strongest logic for a switch over is the fact that the Euro has risen above par with the dollar. The switch from euros to dollars in Iraq's oil system cost the country 13% in revenues. But skeptics say that if OPEC switched to the euro, they could easily switch back at some later date and make huge profits in the process.

For the time being, there is no sign that OPEC is officially making the switch. In April 2004, a senior OPEC representative said OPEC has no plans to sell oil for euros. OPEC officials have also mentioned that if and when Norway's Brent crude is re-dominated in euros, this would make a considerable impact on their decisions, as well as if the U.K. adopts the euro. Another major factor is Europe's make up. An approved constitution would have helped tilt the balance in favor of the Euro, but the momentum towards a petroeuro has not been compromised since.


The impact that a move to the Euro would have would be most detrimental to the US economy. "American economic dominance would be over. Not only would Europe not need as many dollars anymore, but Japan which imports over 80% of its oil from the Middle East would think it wise to convert a large portion of its dollar assets to euro assets (Japan is the major subsidiser of the US because it holds so many dollar investments)", says Cóilín Nunan of the Foundation for the Economics of Sustainability. The rest of the world would stop financing the US' trade gap, the dollar would plummet and the trade deficit would rise beyond proportions ever seen as the country would be forced to purchase very expensive euros to keep their SUV's guzzling.

The snowballing effect would be more disastrous, as the country's credit risk would fall, property markets would collapse as would stock and bond markets would. It would simply have to stop importing and to start growing a trade surplus. The US' worst fears would materialize; domestic supplies of oil and gas were contracting and there would be no money to go to war to go get it.

The European Union has on several occasions said it would welcome the euro as the currency of the oil markets. But so far, the international chorus joining in has been rather modest. Malaysia publicly encouraged his country's oil and gas exporters to move from the dollar to the euro, but to find out the extent to which this is happening is difficult. One analyst at GoldMoney, James Turk, says that that oil exporters systematically have started pricing their oil in euro terms to not lose out on the weakening dollar for a number of years. He believes that in some cases the transactions are taking place in Euros. However, this is not officially confirmed, but then it would not be, because the issue is too sensitive. Nevertheless it is a telling sign that OPEC members have significantly reduced their deposits denominated in dollars in favor of the euro from 2001 to 2004. The countries reduced their dollar reserves by 13 percentage points, according to the Bank for International Settlements. Dollar-denominated deposits fell to 61.5 per cent of total deposits by members OPEC in the second quarter of 2004, from 75 per cent in the third quarter of 2001. The share of euro-denominated deposits rose to 20 per cent from 12 per cent over the same period.

It is unlikely that OPEC will officially make the switch, but other major oil venues are keen to do so. The Iranians, who are not part of the cartel, are launching an important trading platform next year in March that will certainly make the issue more prevalent and could even end up becoming a source of major competition for the New York and London bourses. Mohammad Javad Assemipur, who will be in charge of the bourse, said "We sought consultation from 180 stock markets and relevant institutes in the world before deciding to open this bourse in Iran. But we have not copied their structures and we have our own system in the country," he added. Happy clients are bound to include Russia and China, which over recent years have significantly increased their euro reserves, which appears to be a 'coordinated move to facilitate the anticipated ascendance of the euro as a second World Reserve Currency', says William R. Clark, an expert on the subject, in an article published on informationclearinghouse. Iran is on close terms with both countries and even signed a huge oil and gas trade agreements of well over $100 to 200 billion dollars with China.

"One of the Federal Reserve's nightmares may begin to unfold in the spring of 2006, when it appears that international buyers will have a choice of buying a barrel of oil for $60 dollars on the NYMEX and IPE - or purchase a barrel of oil for €45 - €50 euros via the Iranian Bourse. This [ ...] assumes that some sort of US "intervention" is not launched against Iran", says Clark.

Talk of strikes against Iran is increasingly heard and linked to all the issues that the US leadership did not reveal when they set out to invade Baghdad. It is perhaps too easy to assume that something as silly as an oil trading platform that launches the world's first ever euro denominated oil trade would set off a nuclear war. Initially it would reveal the stakes are so much higher that one would be inclined to think it ridiculous. Yet the world for all intents and purposes has become a way more hyped up place since the war on terror was launched and world citizens would hardly be very surprised.

The consequences of an attack would be inconceivably disastrous all round, but still the way the international world is shifting around the issue reflects that a strike is not excluded. What's more, it is likely that the US action in Iraq and its Central Asian positioning is a precursor for more conflict. Energy and control of the world's resources was the reason that the war on terror was started and the issue is continuing to control subsequent international relations. The US way of dealing with Iraq's resources has laid out the land differently for a great many regimes that normally would cooperate with the US rather blindly. The simple cancellation of all international companies' contracts to dig for oil in Iraq was a major source of discontent that has made other countries realise what the true US intentions were. It is estimated that the contracts amount to a combined value of USD1.1 trillion and that disadvantaged countries include France, Russia and China. All have been alienated in ways akin to the Central Asian countries, China and Russia.

In some senses, the US is creating its very own nightmare, and the health of its economy -always signpost number one- is now more than ever entrenched with major decisions on an international level. But the situation could turn rather sour, and the superpower rather more dangerous for it. "The fear for Washington will be that not only will the future price of oil not be right, but the currency might not be right either. Which perhaps helps explain why the US is increasingly turning to its second major tool for dominating world affairs: military force", says Cóilín Nunan.

"The Chinese government may fear the same fate awaits their oil investments in Iran if the U.S. were able to attack and topple the Tehran government. Despite U.S. desires to enforce petrodollar hegemony, the geopolitical risks of an attack on Iran's nuclear facilities would surely create a serious crisis between Washington and Beijing", says William Clark. Washington's insistence that China should not be allowed arms is likely partially motivated by these considerations.