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HomeNews ReportsSaudi Arabia stops selling oil exclusively in US Dollar: As 50-year-old US-Saudi Petrodollar Agreement...

Saudi Arabia stops selling oil exclusively in US Dollar: As 50-year-old US-Saudi Petrodollar Agreement expires, new avenues expected in the global economy

The petrodollar system replaced gold as the standard of value which enabled the US to maintain dominance over international trade and allowed the US govt to control the world's energy market.

Recently, a 50-year-old petrodollar pact between Saudi Arabia and the United States expired and Saudi Arabia has opted not to renew it. The shift of base currency is going to have longlasting implications for the global economy. The decision made by Saudi Arabia marks a significant departure from the longstanding financial arrangement between the two nations that was established back in 1974. Notably, this particular arrangement to recycle petrodollars positioned the US dollar as the primary currency for international oil transactions, which is now bound to change.

The Historical Agreement

The original petrodollar agreement was signed on 8th June 1974 by US Secretary of State Henry Kissinger and Prince Fand Ibn Abdel Aziz of Saudi Arabia. It was a period marked by the aftermath of the Arab oil embargo and a notable spike in international oil prices. The agreement, which was later known as the petrodollar system, was aimed to establish a stabilised global oil market and ensure a steady flow of oil from Saudi Arabia to the United States. In return, the United States agreed to help Saudi Arabia with military enhancements and economic cooperation.

Under the agreement, Saudi Arabia agreed to price its oil exports exclusively in U.S. dollars and invest its surplus oil revenues in US Treasury bonds, and it was promised US military, security, and economic development assistance in return. This system replaced gold as the standard of value which enabled the US to maintain dominance over international trade and allowed the US govt to control the world’s energy market. Although the agreement was signed by the Saudi govt, almost all OPEC countries use the US Dollar to sell their oil in the international market.

When the pact was signed, The New York Times reported it as a “milestone pact” and highlighted its role in fostering closer economic ties between the two nations. The report pointed out that it would stabilise the oil market. The U.S.-Saudi Arabian Joint Commission on Economic Cooperation, as detailed in a report by the Comptroller General of the United States, was a central element of this agreement.

This particular commission has the aim to foster closer political and economic ties between the two nations. Not to forget, the US allies were also dependent on Saudi oil. It facilitated the flow of goods, services and technology from the US to Saudi Arabia in exchange for Saudi oil sold exclusively in US dollars. This arrangement not only secured the US’s energy needs but also reinforced the dollar’s position as the dominant global currency​​.

Evolution and impact of the petrodollar system

Over the years, the global economic dynamics were highly influenced by the petrodollar system. It created a constant demand for US dollars as the currency was required for oil transactions. The value of the US dollar increased significantly, and it reinforced the currency’s status as the primary reserve currency of the world. It allowed the US to run larger trade deficits and maintain lower interest rates than would otherwise be possible.

According to a report by the Government Accountability Office (GAO) in 1979, the mechanisms of the US-Saudi agreement included the establishment of the two joint commissions focused on economic cooperation and military needs. The agreement ensured that Saudi Arabia would reinvest its oil revenues in US assets. It further tied the economic fortunes of the two nations together and enhanced US economic influence worldwide.

A paradigm shift in global finance

As Saudi Arabia has decided not to renew the petrodollar agreement, the country now has the flexibility to conduct sales of its largest asset in multiple currencies. It includes the Chinese RMB, Euros, Yen, and Yuan, which will expand in the future. It reflects a broader strategy of the Middle Eastern country to diversify its economic alliances and reduce reliance on the US dollar. This move can be seen as a potential catalyst for a significant shift in the global financial markets as it will push the countries to shift away from the US dollar as the primary reserve currency.

So far, the US dollar has served as the base for determining the value of different international currencies which would now change in coming years. Katja Hamilton of BizCommunity highlights that this shift could open new avenues for global economic transactions. He pointed out that digital currencies like Bitcoin are also being considered for future use in oil trading, a step that will change the economic structure of the world currencies at an unprecedented level. The diversification of currency usage aligns with Saudi Arabia’s broader economic vision, which includes integrating into the global economy through varied financial instruments and digital innovations.

Recent developments and prospects

It has to be noted that Saudi Arabia has been actively exploring digital currency avenues in recent times. The nation recently joined Project mBridge which is an initiative led by the Bank for International Settlements (BIS) that explores a multi-central bank digital currency (CBDC) platform. The main aim of the project is to facilitate instant cross-border payments and foreign exchange transactions. The move underscores Saudi Arabia’s commitment to modernise its financial avenues and opt for digital transformation.

Notably, the CBDC platform is mainly controlled by the Chinese central bank. Saudi Arabia has signed a local currency swap agreement with China that indicates a strategic pivot towards stronger financial ties with Asia. The agreement between Saudi Arabia and China allows for smoother bilateral trade and investment flows without needing US dollars as base currency for transactions.

Broader implications

The expiration of the petrodollar agreement between Saudi Arabia and the US is going to have extensive implications for the global economy as the former’s subsequent financial manoeuvres will open doors for a paradigm shift. The US has long benefited from the status of the dollar as the dominant global currency. The position of the currency provided the US with significant economic advantages. However, Saudi Arabia and other countries are now exploring alternatives resulting in reducing the hold that the US has on other countries’ economies. With this shift, the global financial landscape could witness a shift towards a more multipolar currency system.

The move came at a time of broader geopolitical realignment. The nations are seeking a balance between economic dependencies and aim at strengthening regional partnerships. With a singular base currency for trade, it is not easy for the countries to do business without the US’s interference. The potential decline in the dollar’s dominance could lead to increased volatility in currency markets and a re-evaluation of financial strategies by central banks and multinational corporations worldwide.

Domestic currency trade is increasing worldwide. In July 2023, it was reported that banks in 22 countries including Russia, UK, Germay, Israel and others opened special Vostro accounts in Indian banks to trade in Indian rupee. With Saudi shifting away from dollar, it will give a push to other countries including India to make the much needed shift.

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B.Sc. Multimedia, a journalist by profession.

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