How would the US react to the collapse of the Petro-dollar system?
If the petrodollar collapsed, the entire world would collapse with it into an economic crisis worse than the Great Depression. For a while.
A little history:
In the Bretton Woods conference of 1944, the US dollar was tied to gold at a fixed rate of 35 dollars per troy ounce of gold. This made the dollar very attractive as a reserve currency for many countries and created an artificial demand for dollars that allowed the US to print out money without it resulting in inflation. At one point the US held about 80% of the world’s gold reserves.
However, the US has a history for being bad at balancing budgets. In 1971, near the end of the Vietnam War, the US had a massive fiscal deficit. In the same way you fear for your money if your bank is making bad investments, countries who had their reserves in dollars started to feel uneasy with the way the US was spending (or printing money). They started buying back gold with the dollars they had, the equivalent of a bank run. The US realized it didn’t have enough gold reserves to cover the massive amounts of money they had printed out (like a fractional reserve bank), and so they unilaterally decided to let the dollar float in what is now called the Nixon Shock. It was a virtual default. Since then, the USD has lost more than 30 times its purchasing power relative to gold.
Without gold backing the dollar, demand for dollars would have collapsed. In fact, for a while, the “oil shocks” that resulted from Nixon’s decision caused considerable economic instability and inflation. The US had to figure out a way to stabilize and solidify the dollar.
So, how did they do it?
First, a deal was struck with Saudi Arabia, by far the biggest producer of crude oil in the 70s, that required them to sell their oil exclusively in US dollars. In exchange, the US offered the Saudis weapons and protection, something they readily accepted given the Middle East’s propencity to military conflict (in part exacerbated by the US itself). And thus the petrodollar was born. The idea was to make the global oil trade depend on the dollar, creating the demand needed to prevent too much inflation.
It was certainly easier for everyone (even if you had your differences with the US) to trade oil in US dollars, because it made markets more accessible, competitive and transparent. Soon after the Saudi deal, the entire world was trading oil in dollars, even the USSR. But it gave the US a massive amount of control, and since then the US has defended this fiercely with military force and political scheming. Recently, Gaddafi and Saddam tried to challenge the petrodollar, and the US immediately gave them a good dose of “democracy”. Saddam was falsely accused of having WMDs. They didn’t even bother to make up a good story for Gaddafi, and simply said he was an evil, corrupt despot (which he incidentally was). They’re both dead now. Al Qaeda and ISIS are both the result of the US funding proxy wars to topple governments they wanted to control. Just a few examples.
The US is the middle-man for the most lucrative trade in the world and much of its prosperity depends on keeping it so. With a high demand for dollars, they keep inflation under control, because all countries subsidize the growing money supply when they buy oil. It has worked brilliantly. The US has issued debt like crazy (and let’s not even mention the fact that the FED is a private institution), and despite this has had super cheap debt, because everyone wants those precious dollars to buy oil.
This has gone on for over 40 years now. 40 years of continuous fiscal deficits, military intervention in the Middle East (Iraq 2x, Libya, Syria, etc), artificially cheap debt, and a manufactured demand for dollars. All financed by the entire world’s consumption of oil.
Meanwhile, globalization has made the dollar the cornerstone of not only the oil industry, but virtually everything else, particularly the financial industry.
But make no mistake: the dollar itself is the biggest economic bubble there’s ever been. There is a massively corrupt and greedy element of geopolitical control in the dollar, rotten to the core. That greed is ultimately, I think, the biggest source of hate, sorrow and war in today’s world.
And yes: were it to suddenly collapse, it would be a disaster. The dollar supply would far and away exceed demand, resulting in high inflation. Everyone all around the world would scramble to get rid of their dollar reserves. And since everything, everywhere is connected to the dollar, it would be a catastrophe. It would all have to start with the US losing control of the oil markets.
It’s already happening now, to some extent. We’ve seen many instances where the US just can’t deal with the economic and political threats through military intervention as it did in the past:
- China and Russia are pushing towards a non-US dollar oil market. China already has plans for a gold-backed oil futures contract in yuan. Basically, China will do what the US was doing pre-Nixon, and that’s what made everyone want to buy dollars at the time. It’s already being called a “game changer” for the oil industry. It is by far the biggest threat to the petro-dollar right now, and the US is powerless to stop it.
- The Syria affair, one of the biggest screw ups in foreign policy history. Aside from that one, the US has a massive PR issue in the Middle East in general.
- Venezuela is collapsing and it seems Russia and China are ready for scavenging.
Times have changed. Today, even piss-poor countries like North Korea can force the US into submission, by threatening to fire a ballistic missile across the world and flatten an entire city. The world has become too unstable to use force as an effective foreign policy instrument.
A complete collapse of the petrodollar can’t happen overnight, though, because the dollar is backed by not just oil, but the world’s biggest economy. It also wouldn’t be a complete collapse, because the US itself is one of the biggest oil producers in the world, so a big chunk of trading will always be done in US dollars.
But a decline will gradually happen. The US government is running the biggest ponzi scheme in history and in doing so is keeping the entire world’s economy hostage to the privately owned FED. Since 2008, the US printed about 3 trillion dollars in their “quantitative easing” program, quadrupling the FED’s reserves. But China, Europe and Russia all want a piece of the pie and are fighting for it. In fact, I think the entire world is a little bit fed up with the whole thing too, especially in Europe, where the monumental cluster f**k that is the Middle East has resulted in serious demographic problems that aren’t on some remote corner of the world anymore… They are at their doorstep.