ECON Running on Empty, Part I How the Petrodollar System Restored, Then Ruined, America's Economy

[MinnesotaSmith]

Running on Empty, Part I​

How the Petrodollar System Restored, Then Ruined, America's Economy​

"The Russo-Ukraine War has at this point been ongoing for several months. Even if the war were to end tomorrow (which it won’t), it has already had a massive effect on the globe, with food crises, mass migrations, and enormous expenditure of blood and treasure.
The biggest effect of the war, though, is only beginning. America’s global hegemony is based on the petrodollar system and the Russo-Ukraine war is rapidly bringing that system to an end. The end of the petrodollar will be the end of the world order as we have known it since 1945.
Though the U.S. petrodollar system is perhaps the most important economic structure in the world, it is almost never discussed in mainstream sources. Therefore, before I write about the future, I’m going to write first about the past and present. Part I of this series will explain what the petrodollar system is and what its financial effects have been. In Part II, I’ll explain its implications for foreign policy and how that led to the Russo-Ukraine War. In Part III, I’ll explain how the system is breaking down and what might happen next.

The US Dollar is the World’s First Reserve Currency Not Backed By Gold
​

A reserve currency is a currency that is held by central banks worldwide as part of their foreign exchange reserves.
Reserve currencies arise in the context of international trade. Each country mints and/or prints its own currency, which is legal tender within its borders. When a business sells goods within a country, it is paid for those goods in the country’s currency. For instance, when Apple sells iPhones in Japan, it sells them for yen. This poses a problem for international businesses that sell goods abroad, as they need to be able spend the money they receive at home. From this necessity, foreign exchange arises, where yen can be traded for dollars, dollars for euro, and so on.
The value of a currency, however, can fluctuate sharply. Assuming a steady velocity of trade, the value of a currency is correlated to the quantity of goods and services that can be bought with it divided by quantity of the currency in circulation.

Value of Currency = Quantity of Available Goods / Available Currency

If a lot of currency is minted or printed, the value of the currency falls - this process is called devaluation of the currency. Devaluation can profoundly impact import and export. For instance, if Japan printed a thousand quadrillion yen immediately after Apple completed a new iPhone launch, Apple’s holdings of yen would drop in value. When it tried to swap its yen for dollars, it wouldn’t get many dollars, and it would have thus lost money on its sales. Going forward, Apple would have to raise the price of iPhones. Japanese consumers would see this as inflation.

Devaluation of currency is the primary reason for inflation. (Milton Friedman went further and claimed that “inflation is always and everywhere a monetary phenomenon,” but we don’t need to defend that claim to make our point.) It’s important to note that an increase in money supply doesn’t necessarily lead to inflation, however. If the quantity of available goods increases at the same time, then price levels will stay the same.

Now, history has proven that governments have, can, and do devalue their currencies regularly. And even when it is not intentionally devalued, the value of a currency can drop simply from economic factors. Every business, bank, and nation seeks to hold a currency with a stable value that will be useable for a wide variety of transactions around the world.

And that is the basis for a reserve currency. Every nation feels comfortable buying and selling with the reserve currency, knowing that the currency will always have value to other countries.

How is this happy state of affairs achieved? Traditionally, a reserve currency is established by a wealthy exporting nation and then backed by a precious metal, such as silver or gold. If a currency is backed, that means that a bank or business can swap the currency for a fixed amount of precious metal.

When a currency is backed by precious metal, the government that issues the currency is restricted in its ability to mint or print new currency, and that helps keep its value stable. The financiers transacting in the currency know that isn't just going to hyperinflate like the Zimbabwean money did. You cannot print more gold.

The Greek drachma, which became widespread during Alexander’s conquests, was arguably the world’s first reserve currency. The Roman denarii succeeded the drachma, and was in turn succeeded by (at various times and places) the Byzantine solidus, Arab dinar, French franc, Venetian ducat, Florentine florin, Spanish dollar, and Dutch guilder. Finally, from the 19th century until the middle of the 20th century, the United Kingdom’s pound sterling was the world’s reserve currency. All of these currencies were backed by silver or gold.

The United States dollar is today the world’s reserve currency, but it is not backed by gold. In fact, it is the first reserve currency in history to operate without backing by any precious metal whatsoever. How did this strange situation arise?

At the end of World War II, Great Britain was a debt-ridden and war-weary country, and the pound sterling was no longer capable of serving as the world’s reserve currency. In July 1944, hundreds of delegates from 44 Allied nations gathered in Bretton Woods, New Hampshire, for a 21-day summit to determine (among other things) a new reserve currency. The United States, which held two-thirds of the world’s gold, dominated the proceedings. At the conclusion of the summit, the so-called Bretton Woods System was put in place with the gold-backed US dollar as the world’s reserve currency.

The Bretton Woods System worked well for several decades. By 1971, however, the US government had begun running huge deficits to fund the Great Society and the Vietnam War. Meanwhile, Germany and Japan had rebuilt into manufacturing powers that ended American industrial dominance. These factors led to the US dollar declining in value. Countries began redeeming their dollars for gold, which resulted in an unsustainable decline in our gold supply. To preserve our gold holdings, Richard Nixon took us off the gold standard on August 15th, 1971.

Of course, this immediately caused a further loss of confidence in the US dollar. Countries that had previously held the dollar as a reserve currency began to abandon it, causing its value to drop even more. American consumers felt this as an increase in the cost of imports. In addition, since the dollar no longer tied to gold, the US government could, and did, print even more dollars, which increased the currency supply even as demand for dollars declined. America began to experience widespread inflation.

Then the situation got worse. In a brief span of years, Libya, Algeria, Iraq, Nigeria, Venezuela, and Saudi Arabia all nationalized the assets of the Western oil companies operating in their countries. This gave OPEC (the Organization of the Petroleum Exporting Countries) almost total control over global oil production. The OPEC members had long felt that oil prices were kept lower than they ought to be to the West’s benefit and their detriment. In 1973, OPEC members unilaterally raised oil prices.

The effect of rising energy prices on an economy is quite complex but, to a first approximation, the result is that prices rise on all other goods and services while economic growth stagnates. The US economy was terribly battered - its currency had been devalued just when oil had gotten expensive! This was the cause of the dreaded stagflation that began in 1973 and lasted until 1983.

And then the situation got… worser. The emboldened nations of the Middle East decided to renew their ongoing war with Israel. The Yom Kippur War of 1973 began with a two-front assault, with Syria attacking the Golan Heights and Egyptian attacking the Suez Canal. The USSR had supplied the Arab armies with anti-tank guided missiles and air defense missile systems. These new weapons, deployed for the first time, dealt exceptionally heavy losses to Israel’s forces. The Arab’s initial onslaught was so overwhelming that Israeli Prime Minister Golda Meir authorized a nuclear alert, ordering 13 atomic bombs be readied for use by missiles and aircraft.

As it happened, the Yom Kippur War ended without atomic bombs being deployed. But everyone knew the Middle East had come close to nuclear annihilation.

This posed a problem for, well, everybody. The entirety of industrial civilization depended on the ongoing flow of oil from the Middle East to the rest of the world. Nobody wanted the world’s most precious resource consumed in a mushroom cloud. The Arab states were especially nervous about what the next war might do to their burgeoning position.

Henry Kissinger, at that time US Secretary of State, saw a way to solve the problem. Actually he found a way to solve three problems: the Arab-Israel problem, the oil problem, and the currency problem. He traveled to Saudi Arabia, the world’s largest oil exporter, and negotiated a deal with them to create the petrodollar system. The arrangement had two components:

• The US would guarantee the security of the Saudi Arabian regime and agree to sell them the best arms and equipment our military-industrial complex could supply. In exchange, Saudi Arabia would use its position in OPEC to guarantee that all oil trade was denominated in US dollars.
• The US would open its markets to foreign investment from OPEC members. In exchange, a substantial portion of surplus oil proceeds would be used to purchase US Treasury debt.

This deal formed the basis of the petrodollar system. The US dollar was now backed, not by its own gold, but by other country’s oil!

The Financial Effects of the Petrodollar System
​

The financial effects of the petrodollar system cascaded across the US and the globe, impacting life for every consumer and producer on the planet.

The immediate or first-order effect of the petrodollar system was to restore the US dollar’s hegemony. Since every country in the world outside of OPEC needed to purchase oil, and OPEC would only sell oil for US dollars, every country in the world needed US dollars. The dollar became king again.

The second-order effect of the petrodollar system was to flood the US with inexpensive imported goods. As mentioned earlier, when a business sells goods within a country, it is paid for those goods in the country’s currency; and the cost of goods in that currency is based on the value of the currency internationally. The primary way to get US dollars is to sell goods in the US, so everyone in the world suddenly wanted to send us their goods in exchange for our US dollars. And since those dollars were the only way to buy oil, the dollar was strong, meaning the imports were cheap. At the time, this seemed like a remarkably good thing for American consumers — we will send you cheap imports and you will send us pieces of paper you print for free. (Not even pieces of paper — digital zeros in a ledger!)

But it wasn’t actually a good thing. The third-order effect of the petrodollar system was to reduce the demand for exports from the United States. Remember, under the Bretton Woods system, trade with the US had basically worked like this:

• Japan (or any other country) sold goods in the US in exchange for US dollars.
• The US sold goods in Japan in exchange for Japanese yen.
• Japan either redeemed their US dollars for gold from the US, or sold its dollars in exchange for yen. Which of these options its pursued depended on how much yen the US had to exchange, e.g. it depended on US exports to Japan.

Foreign exchange, imports, and exports thus formed a triangle that tended to balance out. (We’re ignoring investment at this time, as foreign investment into the US wasn’t a major factor for the US until after the petrodollar system went into place.) Under the petrodollar system, foreign countries no longer needed to redeem their US dollars for American goods or gold. Instead, they could use them to buy OPEC oil. And they did.

Put another way, before the petrodollar system, the US had to export goods to keep the dollar strong. But the petrodollar system made dollars the only currency capable of purchasing oil, which everyone needed. And so, after the petrodollar system, the US could just export dollars.

The fourth-order effect of the petrodollar system was to financialize and deindustrialize the American economy.
When a country can produce a particular good for export at a lower relative cost than other countries can produce it, that country is said to have a comparative advantage in that good. The petrodollar system gave the US comparative advantage in manufacturing dollars. It could manufacture them at zero cost! No one else could manufacture them at all.

Under conditions of free trade, a country will both produce and export more of the good for which they have a comparative advantage, but will produce less and import more of those goods for which they do not. And that’s exactly what happened in the United States. America produced more dollars and produced much less of everything else.

When I say “produced more dollars,” I mean that literally. When a commercial bank makes a loan, it creates new dollars out of thin air. It manufactures them on demand, like Printful.com but instead of t-shirts, banks make greenbacks. The finance industry was, by far, the biggest beneficiary of the petrodollar system. The manufacturing sector, along with its union workforce, was the biggest victim. The collapse of America’s manufacturing heartland into the wasteland we call the Rust Belt was directly caused and/or exacerbated by the petrodollar system.

So at this point, the US was exporting dollars and importing goods; and Europe and Asia were exporting goods and importing dollars, then spending the dollars to import oil from OPEC members. What were the OPEC members doing with their dollars? Well, some of those big bucks were spent buying M1 Abrams tanks and other expensive products of the US military-industrial complex. (That’s the reason the US can still manufactures guns, missiles, and tanks even though it can’t manufacture diapers or telephones.)

But even the most paranoid sheik only needs a few thousand tanks and fighter jets. The rest of OPEC’s dollars were invested in the United States in a process known as petrodollar recycling. Within 5 years, over $450 billion had been recycled, with 90% of that made by the Arab countries of the Persian Gulf along with Libya. What did they invest in? US government debt. US stocks. US real estate. In short: assets.

Thus the fifth-order effect of the petrodollar system was to create a sustained increase in the price of American bonds, stocks, and real estate. The petrodollar created asset inflation. Banks benefited, as did existing homeowners and investors. The working class felt asset inflation in the form of rising rents.
Viewed as a whole, then, the petrodollar system was incredibly beneficial for (a) commercial banks, (b) arms manufacturers, (c) real estate owners, and (d) stockholders.

 

[MinnesotaSmith]

Part I, cont.

"For everyone else, the petrodollar system turned out to be a Trojan Horse, a promising gift that destroyed the recipient. By ending the oil crisis and reducing the price of imports, the petrodollar initially seemed to benefit consumers. But in order to consume, consumers needed to have money, and to have money they needed well-paid jobs. By deindustrializing the US, the petrodollar system destroyed the manufacturing jobs that had sustained the working class. In order to maintain their standard of living, US consumers began to borrow money. As their debt rose, though, their position only worsened.

In short, the petrodollar system is directly responsible for almost all of the financial problems that plague the American economy. This is a radical claim, to be sure. To help buttress my theoretical argument, I’m going to close out this essay with some empirical data drawn from a wonderful website called WTF Happened in 1971?
.
Deindustrialization and Financialization: Prior to the petrodollar system our economy was dominated by manufacturing. Now our economy its dominated by finance.



Transformation from Exporter of Goods to Importer of Goods: Prior to the petrodollar system, we were a net exporter of goods. Now we are a net importer of goods. We export dollars, we import cars and phones.



Wage Decline with Asset Inflation: Prior to the petrodollar system, our wages grew in conjunction with the economy. Under the petrodollar system, wages stagnate while the economy (measured in the value of stocks and real estate) grows. Big banks and big business benefit, while workers lose.









That’s just a few of the many, many charts found at WTF Happened in 1971? If you feel the need for further contemplation on the Tree of Woe, head over there see more data proving how bad things have gotten under our petrodollar regime.
In the next installment of Running on Empty, I’ll explain the political implications of the petrodollar system, revealing how the need to enforce US dollar hegemony over oil transactions has driven the US into an endless series of wars, at terrible cost to our soldiers and workers."

 

[MinnesotaSmith]

Running on Empty, Part II

How the Petrodollar Poisoned Foreign Policy with Financial Profiteering

treeofwoe.substack.com

Running on Empty, Part II​

How the Petrodollar Poisoned Foreign Policy with Financial Profiteering​

Jun 18, 2022

"Welcome to Part II of Running on Empty, my three-part analysis of the Petrodollar system. Part I of this series explained what the petrodollar system is, how it came to be, and what its financial effects have been on the United States. In Part II, I’ll explain the petrodollar’s implications for foreign policy. In Part III, I’ll show how those implications paved the way for the Russo-Ukraine War, and why that’s causing the system to break down.

America’s Chief Export is the US Dollar
​

As explained in the previous installment, the petrodollar system is based on an agreement between the US and Saudi Arabia. Under the terms of the deal, the US guarantees the security of Saudi Arabia and in exchange, Saudi Arabia guarantees that all petroleum is sold by OPEC for US dollars, with the US dollars re-invested into America via petrodollar recycling. The result: Since everyone needs petroleum, everyone needs US dollars. Oil replaces gold as the hard backing for the dollar. 1

Since the petrodollar system was put in place, the US has enjoyed a comparative advantage in manufacturing currency that no other nation enjoys. Under conditions of free trade, a country produces and exports more of a good for which it a comparative advantage, and produces less and imports more of the goods for which it doesn’t. And that’s what has happened: Since the petrodollar system was put in place in 1973, America has produced more and more dollars and produced less and less of everything else. The dollar is today our nation’s #1 export.

How large is the circulation of US dollars? As of April 2022, the American money supply, which economists call M2, stands at $21,728 Billion Dollars. M2 includes three types of money:

• metallic fiat money (U.S. Mint coins);
• central bank fiat paper money (Federal Reserve notes, AKA “dollar bills”); and
• bank deposits (including checking deposits, demand deposits, savings deposits, and money market fund deposits).

The U.S. Mint coins and Federal Reserve notes are collectively called the monetary base (MB). The monetary presently stands at $5,885 Billion Dollars. Therefore the remaining $15,843 Billion Dollars — 72% of the money supply — exists within bank deposits.
That’s a lot of money. Where did it actually come from? And cui bono — who benefited?

But the Dollar is Created by Private Banks For Profit
​

Most Americans believe that the Federal Government creates and controls our money supply. This belief is false. Now, it is true that the U.S. Treasury, acting through the Bureau of Engraving and Printing and the U.S. Mint, prints our paper money and coins our metallic money. However, the U.S. Treasury does not decide how much money gets printed. The Federal Reserve actually makes that decision, submitting an order to the BEP each year stating how much money to print.
Despite its name, the Federal Reserve isn’t actually run by the Federal Government. It’s just chartered by it. As the official website of the St. Louis Federal Reserve states, “The Federal Reserve Banks are not a part of the federal government, but they exist because of an act of Congress.” The Federal Reserve Banks are actually private corporations owned by the nation’s commercial banks, such as JP Morgan Chase, Bank of America, Wells Fargo, and Citigroup. The commercial banks are paid dividends (profits) from the Federal Reserve’s operations and get to elect six of the nine members of each Bank's board of directors. The dollar printing press is actually, albeit indirectly, controlled by Wall Street.

Even if the U.S. Treasury were in charge of the printing press, however, it would still not create or control the money supply, because most of the money isn’t in bills or coins. As I said above, 72% of the money supply consists of commercial bank deposits.

And who creates bank deposits? Banks! According to the credit creation theory of banking, money is created whenever banks loan funds. They create this money out of thin air.
Now, many influential economists, as well as the unbiased and trustworthy philanthropists at the World Economic Forum, reject this theory, arguing that banks are merely financial intermediaries. I disagree with them, vehemently, but it’s a complex debate. For a comprehensive review, I refer you to the 2014 paper “Can Banks Individually Create Money Out of Nothing?” The paper’s findings are summarized below, and mirror my own assessment:

This paper presents the first empirical evidence in the history of banking on the question of whether banks can create money out of nothing… Three hypotheses are recognized in the literature. According to the financial intermediation theory of banking, banks are merely intermediaries like other non-bank financial institutions, collecting deposits that are then lent out. According to the fractional reserve theory of banking, individual banks are mere financial intermediaries that cannot create money, but collectively they end up creating money through systemic interaction. A third theory maintains that each individual bank has the power to create money ‘out of nothing’ and does so when it extends credit (the credit creation theory of banking). The question which of the theories is correct has far-reaching implications for research and policy.

Surprisingly, despite the longstanding controversy, until now no empirical study has tested the theories. This is the contribution of the present paper. An empirical test is conducted, whereby money is borrowed from a cooperating bank, while its internal records are being monitored, to establish whether in the process of making the loan available to the borrower, the bank transfers these funds from other accounts within or outside the bank, or whether they are newly created. This study establishes for the first time empirically that banks individually create money out of nothing. The money supply is created as ‘fairy dust’ produced by the banks individually, "out of thin air".

If you accept the credit creation theory of banking, then the method by which banks create money is actually easy to understand: Whenever they make a loan, they magically make the money they lend. When Citibank issues a college student his first credit card, extending a $1,000 credit line, Citibank has created $1,000. When a homeowner, noticing that his house has appreciated on Zillow.com, secures a home equity loan for $100,000 from Bank of America, Bank of America has created $100,000. The money didn’t exist before then.

Now, when a loan is created, it carries interest; and that interest must be paid back to the lender. The repayment of interest constitutes the bank’s profit. Since 72% of America’s money supply is created by commercial banks via lending, there’s a lot of profit to be had. (The other 28% of the money supply is created by the Federal Bank, indirectly for the profit of the commercial banks which own it, too.) Banking is big business - the biggest business in the world.

The Petrodollar Monopoly is Maintained by Military Might
​

At this point we’ve established that the petrodollar system gives the US a worldwide monopoly over creating the currency needed to buy oil, and that said currency is created by our commercial banks when they lend money for profit. This is a remarkably advantageous monopoly for any industry.

Economists hold that monopolies can occur because of a number of factors. For instance, the monopolist might be protected by barriers to entry created by high fixed costs, low volume-based pricing, or network effects. The monopolist might have physical control over real property. Or the monopolist might have legally-enforced control over intellectual property.

How is the petrodollar monopoly maintained? Within the United States, US banks have a legally-enforced monopoly over creation of money. But US law does not apply overseas and there are hundreds of currencies in circulation. What prevents an oil-producing country from selling its oil for euros or yuan? What prevents a country from disrupting oil sales in dollars through embargos, sanctions, or military force?

The petrodollar monopoly is maintained by maintained by military might. Any country that threatens the system, whether by destabilizing the Middle East or by selling oil for any other currency, is punished by the U.S. First it endures sanctions, then it faces air strikes and covert actions, and finally - if sufficiently recalcitrant — it suffers invasion.
The necessity of using force is logically entailed by the security deal we struck with Saudi Arabia and the actions taken to sustain the arrangement are evident in the historical record."

 

[MinnesotaSmith]

Part II, cont.

"After World War Two, but prior to the petrodollar regime, the US followed a policy of non-involvement in the Middle East. There were 36 notable conflicts in the Middle East between 1945 and 1980 — approximately one notable conflict each year.2 The United States participated in none of them.

But that changed as soon as the petrodollar system faced its first threat. That came in the form of the 1979 Iranian Revolution. US President Carter immediately announced a new policy:

"An attempt by any outside force to gain control of the Persian Gulf region will be regarded as an assault on the vital interests of the United States of America, and such an assault will be repelled by any means necessary, including military force."

In the 42 years since Carter announced this policy, there were another 39 notable conflicts in the Middle East — again, approximately one notable conflict began each year. But the US has taken part in 11 of these, with active fighting in every year since 2003.

War, Clausewitz taught us, is a continuation of policy by other means; and US policy is to sustain the dollar as the reserve currency by enforcing the petrodollar system. American war is therefore the perpetuation of the petrodollar by other means. The US military has been transformed into the enforcement arm of the US banking industry.3

The US Invasion of Iraq (1991) was for the Petrodollar

​

Syria and Egypt had invaded Israel in 1973. Turkey had invaded Cyprus in 1974. Iraq had invaded Iran in 1980. The US never committed forces to intervene. But when Iraq invaded Kuwait in 1991, the United States led the largest military alliance since WWII into war, deploying a million-man army to liberate a country smaller than Massachusetts. Why? Because Kuwait was adjacent to Saudi Arabia, and Saudi Arabia was terrified that Saddam would advance against it. As the Encyclopedia Britannica explains:

Saudi political leadership was challenged when Iraq, after having rejected attempted Saudi mediation, reasserted its earlier claims and invaded neighboring Kuwait on August 2, 1990, precipitating the Persian Gulf War (1990–91). The Kuwaiti government fled to Saudi Arabia, and King Fahd denounced the Iraqi invaders. Fearing that Pres. Saddam Hussein of Iraq might invade Saudi Arabia next (despite Saudi assistance to Iraq during the Iran-Iraq War), the Saudis, breaking with tradition, invited the United States and other countries to send troops to protect the kingdom.

Since the petrodollar system was founded on America’s guarantee that it would offer military aid to Saudi Arabia in time of need, we had to repel Saddam. And we did.

The US Invasion of Iraq (2003) was also for the Petrodollar

​

When President Bush ordered the invasion of Iraq in 2003, the war was justified as the necessary disarmament of a destructive supporter of Islamic terrorism and the heroic liberation of a long-suffering people.

At the time, I staunchly supported the war, and even consulted to the Department of Defense for a project during the War on Terror. Unfortunately, I now know that the US invasion of Iraq was more about the petrodollar than about weapons of mass destruction. The evidence was there back then for those with eyes to see. (I didn’t).

On 1 November 2000, America’s Radio Free Europe reported that Iraq was actively attempting to destroy the petrodollar system:

“Iraq is going ahead with its plans to stop using the U.S. dollar in its oil business in spite of warnings the move makes no financial sense… Iraq is dusting off a strategy which another state hit by U.S. sanctions — Iran — discussed as recently as last year… [T]he idea of switching to the euro has appeal to Iran and Iraq because they feel if several major oil producers did it they could create a stampede from the dollar which would weaken Washington.”

Radio Free Europe is run by the Federal Government and reflects the foreign policy of our country. If RFE declared that Iraq was seeking to end the petrodollar, it’s because… the US thought that Iraq was seeking to end the petrodollar.

And the United States moved swiftly to respond. On January 23, 2001 — eight months before 9/11 — the US Department of State began circulating an Iraq regime change policy. By November 27, 2001 Secretary of Defense Donald Rumsfeld had drafted a top secret memo outlining the plan for the Iraq War.

The patriotic impetus provided by the atrocities of 9/11 made it easy for the Bush Administration to get public support to invade Iraq. The American elite, with a few notable exceptions, supported the invasion.

The elite in Europe were more circumspect. In January 2003, the Foundation for the Economics of Sustainability published a paper by Cóilín Nunan warning that America was going to invade Iraq in order to maintain dollar hegemony:

Europe, like most of the rest of the world, wishes to see a peaceful resolution of the current US-Iraqi tensions and a gradual lifting of the sanctions - this would certainly serve its interests best. But as Iraqi oil is denominated in euros, allowing it to become more widely available at present could loosen the dollar stranglehold and possibly do more damage than good to US economic health. All of this is bad news for the US economy and the dollar. 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.

Mr. Nunan was, of course, correct. Two months later, the US invaded Iraq, where it continues to wage war, at varying degrees of intensity, almost two decades later.

The Foreign Policy Implications of the Petrodollar
​

The Iraq invasions are just two of the manifold policy outcomes driven by our petrodollar system. Two further examples wills suffice for this blog:

• In April 2005, Iran announced that it would begin selling petroleum in alternative currencies in an oil exchange that would open in March 2006. In September 2006, the US enacted the Iran Freedom and Support Act, which empowered President Bush to aid “pro-democracy groups” in Iran. In January 2007, US forces raided the Iranian Consulate General located in Erbil, Iraq. In December 2007, Iran announced it would no longer sell oil for dollars. The two nations have continued to trade blows over oil and currency since.
• 
  
• In 2009, Libyan dictator Muammar Gaddafi suggested that Africa’s nations should switch to a pan-African currency based on gold. Libya was sitting on 150 tons of gold and announced that to support the currency its oil would be sold for gold-backed dinars. In March 2001, a NATO-led coalition intervened in Libya, leading to Gaddafi’s 41-year old regime (and life) coming to an end.

If you’d like to read more about the foreign policy implications of the petrodollar, I recommend two books:

• Petrodollar Warfare: Oil, Iraq, and the Future of the Dollar by William R. Clark. Written in 2005, the book warned that the unsustainable macroeconomics and geostrategic tensions created by the petrodollar system would lead America into military overextension and subsequent economic decline.
• Super Imperialism: The Economic Strategy of the American Empire by Michael Hudson. The 2021 edition is the most up-to-date explanation of how the dollar’s being forced off gold in 1971 led to the new international financial system which I call “the petrodollar regime” and Professor Hudson calls “super imperialism.”

In part III of this essay series, we’ll discuss how the petrodollar system is related to the the Russo-Ukraine War, and how we should understand the future of geopolitics in light of the petrodollar system’s imminent demise."

1
If you are wondering why you never heard much about the petrodollar treaty, it’s because it some of its key terms were deliberately kept secret. It stayed secret until 2016, when Bloomberg Business used a Freedom of Information Act request to discover what had transpired. Because the details of the petrodollar arrangement were kept secret for many years, many people have called it a conspiracy theory. Now that the existence of the arrangement is known, it’s harder to dismiss the theory.

However, some critics still argue that oil is of too little importance to explain America’s currency dominance, making the petrodollar effectively a myth. For a “steel man” presentation of this argument, check this Reddit post. I agree with the Redditor on the historical record but disagree on the economics. The Redditor’s napkin math hasn’t taken into account the fact that oil replaced gold in providing the “hard” backing of the US dollar. By similar napkin math, the prior gold standard also would have made no sense, because gold was such a small fraction of the US economy. I leave it to the reader to decide who is right.
2
Noam Chomsky found a clever way to exploit the yearly outbreaks of violence. Anytime he was called on to submit a speech proposal for a conference the following year, he always entitled it “The Current Crisis in the Middle East,” knowing that there’d always be a new crisis to talk about.
3
Many writers, especially on the political left, have claimed that the US wages war on behalf of oil companies. I believe this claim fails because it doesn’t actually track US policy. For instance, from 1973 to 1988, Saudi Arabia gradually nationalized ownership of all oil assets in the country, taking them from Exxon, Texaco, and Mobil. The US contemplated invading Saudi Arabia to take control of the oil fields and easily could have done so. Instead of doing that, we set up the petrodollar system.

We see a similar outcome in Iraq. When the US invaded Iraq, many leftists claimed that we’d done it for Halliburton. But many of Iraq’s oil contracts actually went to foreign firms, including Chinese and Russian oil companies. Why would the US allow this if the war was really fought for physical ownership of oil?
The truth is that the US foreign policymakers don’t actually care that much who ends up owning or operating the wells. They mostly care what currency the oil is bought and sold with. The war machine primarily serves Big Finance, not Big Oil."

 

[MinnesotaSmith]

Running on Empty, Part III

The Implications of the Petrodollar System for America and World Geostrategy

treeofwoe.substack.com

Running on Empty, Part III​

The Implications of the Petrodollar System for America and World Geostrategy​

Jun 9, 2022


"Welcome to Part III of Running on Empty, my three-part analysis of the Petrodollar system. Part I of this series explained what the petrodollar system is, how it came to be, and what its financial effects have been on the United States. Part II explained the petrodollar’s implications for foreign policy in the Middle East. If you haven’t read those yet, check them out!

In Part III, below, we look at how those implications scale to at the geostrategic level. In Part IV, we’ll discuss how the sanctions brought about by the Russo-Ukraine War might cause the petrodollar system to break down. (I’d hoped to wrap up the series in three parts, but due to length, I had to break it up.)

Ruler of the World Ocean
​

Many of history’s leading nations — and all of its commercial empires — have been thalassocracies. For the last 207 years, the globe has been dominated by maritime powers. The United Kingdom began the trend in 1815. Emerging as the winner of the Napoleonic Wars, the UK established the so-called Pax Britannica and enforced it with the world’s greatest navy. While Britannia ruled the waves, the sun never set on her flag. Germany tried twice to unseat Britain at sea, and failed both times. Japan tried to turn the Pacific into its own thalassocracy in the form of the “Greater East Asian Co-Prosperity Sphere,” but suffered defeat at the hands of the UK and the US. Since 1945, the UK has gradually ceded control of the oceans to the US. America rules the waves today. The World Ocean is mare nostrum, our pond.

Why was sea power been the basis of national power? The answer is trade. Since the Bronze Age, the sea has been the most profitable means of carrying out international trade. Phoenicia, Carthage, and Rome grew rich on maritime trade in a time when sea travel was far more dangerous and commerce far less widespread than today.

Today, despite amazing advances in air and ground transportation, the sea remains the most important method of shipping cargo around the world. According to the Organization for Economic Co-operation and Development (OECD), 90% of all trade goods are carried by sea. And of that, 40% of maritime trade consists either of fossil fuels on their way to be burned or of chemicals derived directly from fossil fuels.

America’s control of the World Ocean is what makes the petrodollar system possible. If the ocean became a war zone, or was riddled with privateers and pirates, fossil fuel shipments and international trade would collapse. If America could not project power over the ocean, it could not guarantee the security of Saudi Arabi, nor intervene in wars where necessary to enforce the system.

Conversely, no one can hope to unseat the petrodollar system while these conditions sustain. If 90% of all commerce must cross the ocean, and America controls the ocean, then America controls 90% of all commerce. “The power to destroy a thing is the absolute control over it,” as Frank Herbert so aptly put it in Dune.
To unseat America then, one must wrest from it control over global trade. But does that mean a war for naval supremacy? Not necessarily.

Ruler of The World Island
​

In a 1904 paper called “The Geographical Pivot of History,” an English geostrategist named Sir Halford Mackinder developed the theory of the “World Island.” According to the theory, the world is best understood as having just one ocean and one continent:

“There is one ocean covering nine-twelfths of the globe; there is one continent — the World Island — covering two-twelfths of the globe; and there are many smaller islands … which together cover the remaining one-twelfth.”

The single continent is the Eurasian-African landmass. According to Mackinder, North America, South America, Australia, and the rest are merely archipelagoes and islands next to the mighty World Island.
At the center of the World-Island sits the “Heartland”. This was Mackinder’s term for Eastern Europe, which he believed would be the key to global dominance:

Who rules Eastern Europe commands the Heartland
Who rules the Heartland commands the World Island
Who rules the World Island commands the world

The World Island gives a ruling power everything it needs. More than half of the manpower and resources of the world lie upon it.

Only two empires have ever ruled come close to ruling the World Island. The first was the Mongol Empire, which at its height stretched from Southeast China all the way to Ukraine. However, it was halted in Eastern Europe and North Africa, and so never came to dominate the whole landmass.



The second was the Cold War empire of the Soviet Union. The Soviet Union, by itself, encompassed more than 22 million square kilometers - nearly as much as the Mongol Empire at its height. When its Communist client states were added in, the Soviet Union dominated much more: all of Eastern Europe, most of Asia and North Africa, and half of the Middle East. This the closest any power has ever come to ruling the World Island.1

World Ocean Against World Island
​

The Cold War fought between the US and the USSR was a conflict between the power that controlled the World Ocean and the power that controlled the World Island. The winner won the world.
When America triumphed, the Soviet Union vanished from the world stage. In the aftermath of its victory, American policy makers vowed they would never again allow a great power to seize the World Island. In the new world order, American thalassocracy would reign.

The so-called Wolfowitz Doctrine embodies this national priority. Originally developed by US Undersecretary of Defense Paul Wolfowitz in a confidential 1992 planning document, it has more-or-less guided US foreign policy for the past 30 years. The Wolfowitz Doctrine states that:

Our first objective is to prevent the re-emergence of a new rival, either on the territory of the former Soviet Union or elsewhere, that poses a threat on the order of that posed formerly by the Soviet Union. This is a dominant consideration underlying the new regional defense strategy and requires that we endeavor to prevent any hostile power from dominating a region whose resources would, under consolidated control, be sufficient to generate global power.

There is only one region whose resources would be sufficient to generate global power, and that region is the World Island. Thus the Wolfowitz Doctrine states that America will never allow another power to take control of the World Island again. Who might try to do that? The Wolfowitz doctrine emphasized that Russia was still the primary adversary:

We continue to recognize that collectively the conventional forces of the states formerly comprising the Soviet Union retain the most military potential in all of Eurasia; and we do not dismiss the risks… from efforts to reincorporate into Russia the newly independent republics of Ukraine, Belarus, and possibly others... We must… be mindful that… Russia will remain the strongest military power in Eurasia and the only power in the world with the capability of destroying the United States.

5 years later, former National Security Advisor Zbigniew Brzezinski reiterated the Wolfowitz Doctrine. He was even more explicit about where the threat would come from:

For the first time, ever a non-Eurasian power has emerged… as the world’s paramount power. The defeat and collapse of the Soviet Union was the final step in the rapid ascendance of… the United States.
American foreign policy must… employ its influence in Eurasia in a manner that creates a stable continental equilibrium, with the United States as the political arbiter. … It is imperative that no Eurasian challenger emerges, capable of dominating Eurasia and thus also challenging America.
Eurasia is the chessboard on which the struggle for global primacy continues to be played.

Brzezinski’s use of the word “Eurasian” is fitting, as the Russians call their own version of World Island theory Eurasianism. Its leading proponent is Aleksandr Dugin, a Moscow State University professor sometimes called “Putin’s Rasputin” or “Putin’s Brain.”

Working in the tradition of continental philosophy, Dugin argues that the conflict between the World Ocean and the World Island has a psycho-spiritual elemental, with the thalassocratic powers inevitably aligned with individuality and capitalism while the continental align with collectivism and tradition. This 2016 article summarizes Dugin’s views:

Dugin sees Russia to be the leading nation in the Eurasian Union and has founded the International Eurasia Movement to make that happen…. Dugin digs even deeper into his very controversial historical analysis, claiming Eurasia’s current opponent is not just the United States, but Atlanticism, the axis of cooperation between Europe, US and Canada that crosses the Atlantic Ocean. These maritime, liberal nations value individuality and market forces.
Eurasia, on the other hand, represents the conservative philosophy of land-locked continentalism, which according to Eurasians, has among its values a hierarchical structure, law and order, traditionalism and religion... Thus we have Atlantis vs Eurasia. In fact, Dugin claims all history can be viewed as a battle between maritime and land-based nations.

After the Cold War, then:

• American concluded that maintaining its national hegemony meant it had to forestall the rise of a Eurasian power on the World Island.
• Russia concluded that reclaiming its national destiny meant had to again become the leading Eurasian power on the World Island.

These are inherently incompatible foreign policy goals and they have put the two powers back at odds. In the 30 years since the Cold War ended, Russia has systematically worked to rebuild its continental greatness, and the US has systematically worked to keep Russia from doing this.
Russia’s strategic actions have been widely reported in the west, ranging from the 2008 invasion of Georgia to the 2014 conquest of Crimea to the 2022 assault on Ukraine.

Less well reported are America’s operations. The US has expanded the Western sphere of power eastward, bring more nations into the NATO military bloc, the EU economic bloc, and the globalist-progressive cultural bloc. An example of the sort of methods that America uses can be found in this RAND report, Overextending and Unbalancing Russia: Assessing the Impact of Cost-Imposing Options. The 2019 report suggested actions such as:

• Undermining Russia’s image abroad would focus on diminishing Russian standing and influence, thus undercutting regime claims of restoring Russia to its former glory. Further sanctions, the removal of Russia from non-UN international forums, and boycotting such events as the World Cup could be implemented by Western states and would damage Russian prestige.
• Deploying additional tactical nuclear weapons to locations in Europe and Asia could heighten Russia’s anxiety enough to significantly increase investments in its air defenses.
• Providing lethal aid to Ukraine would exploit Russia’s greatest point of external vulnerability. But any increase in U.S. military arms and advice to Ukraine would need to be carefully calibrated to increase the costs to Russia of sustaining its existing commitment without provoking a much wider conflict…"

 

[Dozdoats]

In the long run, we're all dead.

=============

View: https://www.youtube.com/watch?v=N1xKxeQEROo

Alasdair Macleod: The Current System is Close to Collapse
14,866 views Aug 26, 2022
RT 56:23

Tom welcomes back Alasdair Macleod to the show. Alasdair is the Head of Research for GoldMoney and an advocate for sound money.

Palisade is also on Odysee Palisades Gold Radio and Rumble Palisades Gold Radio
To subscribe to our newsletter and be notified of new shows, please visit Palisades Gold Radio

Tom welcomes back Alasdair Macleod to the show. Alasdair is the Head of Research for GoldMoney and an advocate for sound money.

Alasdair prefers to focus on the big picture for gold and the economy. We are nearing a bank credit contraction, which will be severe. GDP is the measure of total bank credit in an economy. He believes a banking crisis is coming quite soon, perhaps only a month or two away.

Alasdair notes, "There is only a snowball in hell's chance that politicians will stop printing money." Fixing things would require a fundamental shift in the way government participates in the economy. There are massive risks to bankers if corporations with loans can't repay.

Aladair outlines his recent article on geopolitics and economic split that is developing. Russia and China both have significant gold reserves. It's apparent we are making bad policy choices around Russia. Russia is making their energy policies clear to everyone, including those in the Middle East. It's clear the West is trying to move away from oil, which is creating opportunities for other countries.

The Russian economy works fairly well and has reasonable income tax levels. They still have a few problems around protection of property ownership. The actions of Russia and BRICS nations is designed to reduce and eventually remove the dollar's hegemonic status.

Alasdair discusses the problems in China, particularly in their housing markets. China has a firm control of their credit and banking system. Long-term, they will likely ride out these issues.

The prices for energy are extremely worrisome, as prices are quite literally off the charts. We also have to consider the probability of food problems this winter.

The Euro trend downwards relative to the dollar is concerning. More concerning is the amount of bonds accumulated by the E.U. will bring significant mark to mark losses as rates rise. The Euro system itself is bust.

Lastly, he cautions that investors should take the opportunity of low prices on gold and silver. Get some insurance in the form of precious metals, you might need it.

Talking Points From This Episode
- Why the world is facing a serious bank credit contraction.
- The developing economic split between the East and West.
- Concerns for the E.U. bond markets and why the Euro system is failing.

Time Stamp References:
0:00 - Introduction
0:47 - Metals Sentiment
5:04 - Reversing Policy
9:15 - Rates, Risks, & Gold
13:08 - Gold Demand Increase?
15:12 - World Splitting in Two
25:08 - Geopolitical Alignments
28:35 - Problems in China
32:32 - Europe, Winter is Coming
38:28 - Political Intentions
40:10 - Euro Parity Breakdown
44:16 - Basel III Purpose
47:27 - Derivative Risks
53:10 - Commodities & Energy
54:52 - Wrap Up

 

[MinnesotaSmith]

Part III, cont.

"Most American are unaware of our own nation’s geostrategy and hence oblivious to the sometimes-ugly means by which our hegemony is maintained. Thus, when Russia claimed in January 2022 that it was being provoked by the United States, most Americans dismissed this as merely Russian propaganda.

Russia insisted that our inviting Ukraine into NATO was violating a promise that the US made to the USSR at the end of the Cold War. We insisted we’d never made such a promise.

Despite our protestations to the contrary, America did in fact make an “iron-clad” promise. We just didn’t make in writing. Newly declassified documents show that Gorbachev was verbally assured NATO wouldn’t expand. This is now an established matter of historical fact:

According to transcripts of meetings in Moscow on Feb. 9 [1990], then-Secretary of State James Baker suggested that in exchange for cooperation on Germany, U.S. could make “iron-clad guarantees” that NATO would not expand “one inch eastward.” Less than a week later, Soviet President Mikhail Gorbachev agreed to begin reunification talks. No formal deal was struck, but from all the evidence, the quid pro quo was clear: Gorbachev acceded to Germany’s western alignment and the U.S. would limit NATO’s expansion.

What changed between 1990 and 1992? As the LA Times so sweetly puts it, “U.S. policymakers soon realized that ruling out NATO’s expansion might not be in the best interests of the United States.” E.g. the Pentagon formulated the Wolfowitz Doctrine.

What is America’s long term goal vis a vis Russia? I don’t have access to Yankee White security clearance to know for sure — but I’d bet my Substack that our goal is to break the Russian Federation up into a bunch of smaller countries.

That’s not a conspiracy theory; that’s a quote. Secretary of Defense Dick Cheney (later Vice President Cheny, architect of the petrodollar wars of the 2000s) stated he wanted to dismantle not just the Soviet Union but Russia itself, so it “could never again be a threat.” A gaff is when a politician accidentally tells the truth. I believe that policy has been quietly pursued ever since. Journalist Benjamin Norton, writing for Multipolarista, analyzes the situation as follows:

The Russian Federation of today consists of 22 republics. Moscow has long accused Washington of supporting secessionist movements within its borders, aimed at breaking away some of these republics, with the goal of destabilizing and ultimately dismantling Russia. Russian security services have published evidence that the United States supported Chechen separatists in their wars on the central Russian government.

The idea that America might see Russia as so threatening that it needs to be broken up might seem, on first blush, implausible. Nowadays, Russia is being ridiculed in many quarters as all bark and no bite, a Potemkin empire with a smaller GDP than Italy. But a better understanding of Russia’s economic power comes from looking at the real, not nominal, output of its economy:

• The world’s largest exporter of wheat.
• The world’s largest exporter of fertilizer.
• The world’s largest exporter of natural gas.
• The world’s second largest exporter of oil.
• The world’s third largest exporter of coal.
• The world’s fifth largest exporter of steel.

Food. Fertilizer. Gas. Oil. Coal. Steel. Russia has all the resources needed to feed the people and power the machines. One nation more than any other needs what Russia has: China.

China and Russia: A Match Made in Shangdi
​

Some historians have argued that the decisive turning point in the Cold War actually came when China rejected Russia and embraced America.2 From the vantage point of World Island theory, it makes a lot of sense.

Today, China also seeks to rule the World Island. By organizing the combined resources of Eurasia and Africa under its own hegemony, it expects to topple the existing world order and replace it with one of its own design. Since empire is nowadays a term verboten, China calls this effort “The Belt and Road Initiative” or BRI.



As the illustration above shows, the Belt and Road Initiative is aimed squarely at the World Island. The purpose of the BRI would be immediately apparent to Sir Halford Mackinder.

China’s Belt and Road Initiative has been devised in order to disrupt America’s thalassocracy. China will let American spend enormous money to deploy aircraft carriers around the ocean… while the raw materials that China needs, and the finished goods it manufactures, are shipped overland under its own control.

But China’s strategy cannot succeed without Russia. It needs Russia’s wheat, gas, coal, oil, steel, and most of all, it needs rights-of-way across its land for roads and pipelines. The longest segments of the BRI all run through Russia.

Since Russia also knows and understands the importance of the World Island, and believes its national destiny is to lead Eurasia, it’s easy to imagine a future where China and Russia fight it out. But that future is not at hand.

Right now, neither China nor Russia can unseat America. But as a coalition, they are the quintessential “hostile power” that the Wolfowitz Doctrine fears, the one “whose resources would, under consolidated control, be sufficient to generate global power.”

America cannot maintain its pre-eminence if the World Island replaces the World Ocean as the center of global trade. Actually it’s worse than that. America can’t even maintain Medicare without the petrodollar system. Having transformed itself into a managed financial economy instead of an industrial capitalist economy, America must protect the petrodollar system or face economic collapse. (See Part I if you need a refresher on this.) And it can’t protect the petrodollar if the World Island replaces the World Ocean. Therefore, America must block the rise of the World Island.

That means war.

Russia vs Ukraine is actually World Island vs World Ocean
​

Since the invention of the atomic bomb, the threat of mutual assured destruction has kept nuclear-armed superpowers from waging war on each other directly (though they’ve come very close.) Instead, the nuclear superpowers have fought proxy wars. There are three types of proxy wars:

• Type 1: Superpower-Backed Rebel vs Client. A superpower can support an uprising in the territory of a client or ally of the enemy superpower. The Soviet Union supported numerous Latin American revolutions in order to erode American power in South America.
• Type 2: Superpower vs Client. A superpower can wage war against a client or ally of another superpower. The US waged war against the Soviet Union’s allies North Korea and North Vietnam in order to contain communism.
• Type 3: Client vs Client. An ally of one superpower can fight a client or ally of the other superpower. Neither superpower fights directly, but each expects to improve its geopolitical position if its client wins. The foremost example is the 1973 Arab-Israeli War, in which Russia’s Arab allies fought America’s Israeli ally.

The Russo-Ukraine War is, depending on your perspective, either a Type 2 or Type 3 war. From China’s perspective, it’s Type 3. China’s proxy (Russia) is fighting America’s proxy (Ukraine) for control of the World Island’s Heartland (Ukraine, in particular access to the Crimea and Black Sea). From America’s perspective, it’s Type 2. America’s proxy (Ukraine) is fighting Russia.

Going into the war:

• China’s long-term goal is to establish itself as the World Island power with a BRI network that runs from Pacific to Atlantic. Its short-term goal is to weaken the United States.
• Russia’s long-term goal is to establish itself as the leading World Island power with a wheat, oil, gas, coal, and steel trade that runs from Pacific to Atlantic. Its short-term goal is to stop the eastern advance of NATO and EU blocs.
• America’s long-term goal is to maintain its hegemony. To do so, it believe it needs to keep Russia down, preferably split into a bloc of smaller nations that will be easier to control, it needs to forestall China’s rise until the regime falls or weakens.3 In this way, the World Ocean power will remain dominant, its currency regime will continue to enrich the American elite, and the world order will stay in place.

Who is going to win? Right now, it looks like no one is winning the Russo-Ukraine War.

Russia wanted to stave off the encroachment of NATO, capture valuable territory, and return Russians to Greater Russia. It entered the war believing that Ukraine would quickly fall, and that sanctions would be modest and manageable. It did not expect the West to respond with such militancy, nor the Ukrainians to fight with such vigor. Russia has instead suffered tremendous losses of manpower and material and been placed under severe hardship.

China wanted to see its ally gain a quick win against the West while it was left in peace to continue building the Brick and Road Initiative. It has been advancing its interests step-by-step for decades, and was confident that the US would decline and fall in a decade or two. It did not expect the West to unite in outrage against Russia over what it saw as little different than its own territorial claims on stolen territory. It did not expect Russia to botch the invasion.

America wanted to bring Ukraine into NATO, further weakening and isolating Russia, in preparation for eventually bringing Russia down. It expected that punitive sanctions would deter the Russians from further aggression, bring them to the bargaining table, and perhaps provoke regime change. The war has certainly weakened and isolated Russia from the West, but it has, I believe, also destroyed the world order that made the petrodollar system viable.

We’ll turn to that in the last part of this essay series. Part IV will be the final installment, I promise.4"

1
Perhaps Mackinder would have been gratified to see that the Soviet Union ruled the World Island from a position of power in the Heartland, just as he had predicted… Certain he would not have been surprised that when the Soviet Union lost Eastern Europe, it lost the World Island.
2
Americans in the 1980s viewed China as a valuable ally if the Cold War went hot. John Milius, in his epic Red Dawn, has the rescued pilot explain that it was “600 million Chinese” allies who kept America from losing World War III.
3
Arguably, America only needs to do this long enough for demographic collapse to destroy China’s ambitions. China’s population is expected to plummet between now and 2100 due to the disastrous effects of the one-child policy.
4
I will break this promise if it is in my national interest."

 

[MinnesotaSmith]

Part IV, the end.

Running on Empty, Part IV

How the War between Russia and Ukraine is Destroying the Petrodollar System

treeofwoe.substack.com

Running on Empty, Part IV​

How the War between Russia and Ukraine is Destroying the Petrodollar System​

Jun 16, 2022

"Welcome to Part IV of Running on Empty, my four-part analysis of the Petrodollar system.
Part I of this series explained that the US dollar is the world’s first reserve currency that is not backed by precious metals. Instead it is backed by other people’s oil. Because of a secret treaty between the US and Saudi Arabia, petroleum can only be purchased with dollars. Every country needs oil, so everyone country needs dollars and sells imports to the US to get them. Demand for dollars has made the USD the primary American export, allowing the US to deindustrialize and financialize its economy.

Part II explained how the petrodollar has grossly enriched American asset holders (stocks, bonds, and real estate) and painfully impoverished American wage earners. Under the petrodollar system, dollars are created by private banks for profit. These dollars are recycled into the economy by OPEC nations, causing stocks, bonds, and real estate to rise. This profitable exchange is enforced by American military might, which punishes any country that seeks to exit the petrodollar system.

Part III explained that for the petrodollar system to function, America needs to be able to project power worldwide to secure international trade and enforce the system. America secures global commerce and projects military power by commanding the World Ocean, by which 90% of all goods are trafficked. To overcome America’s naval supremacy, both Russia and China have sought to establish control of the World Island, the Eurasian supercontinent that houses most of the world’s population and resources. The Russo-Ukraine War is a proxy war between the uncontested master of the World Ocean (America) and the would-be masters of the World Island (China and Russa).

In Part IV, we’ll discuss how faulty expectations by both sides in the Russo-Ukraine War have led to sanctions of such severity might cause the petrodollar system to break down.

Strategic Goals
​

Going into the war, each of the various great powers had its own long-term and short-term goals.1 My assessment of these is as follows:

• Russia’s long-term goal is to establish itself as the leading World Island power with a wheat, oil, gas, coal, and steel trade that runs from Pacific to Atlantic. Its short-term goal is to stop the eastern advance of NATO and EU blocs.
• China’s long-term goal is to establish itself as the leading World Island power with a Belt & Road network that runs from Pacific to Atlantic. Re-taking Taiwan is seen as indispensable to this. Its short-term goal is to weaken the United States.
• America’s long-term goal is to maintain its hegemony. To do so, it believe it needs to keep Russia down, preferably split into a bloc of smaller nations that will be easier to control, it needs to forestall China’s rise until the regime falls or weakens.3 In this way, the World Ocean power will remain dominant, its currency regime will continue to enrich the American elite, and the world order will stay in place. Its short-term goal is to continue the eastern advance of NATO, to weaken Russia, and to deter China from foreign adventure.
• Ukraine’s long-term goal is to join the European community, maintain its territorial integrity, and support the American effort to break Russia down.
• Europe’s long-term goal (to the extent a unified Europe can be said to exist) is to transform into a continent-wide social democracy, protected by the hegemon, powered by renewable energy, and occupied with a myriad of diverse affluent citizens governed by a wise technocracy. Europe’s short-term goal is to sustain its economy and its progressive regimes.

Expected versus Actual Outcomes
​

Russia launched what it called a “special military operation,” and NATO called a “full-scale invasion” of Ukraine on 24 February 2022. What did everybody expect to happen?

• Russia believed that Ukraine would quickly collapse. The Russian army would secure the territory of the Donetsk and Luhansk People's Republics, which could later be integrated into Russia. If the initial assault was effective enough, the capital might fall and the pro-American ruling regime collapse; it could then be replaced by a pro-Russian regime. Faced with a fait accompli, the world would accommodate itself to the new reality, as it had after Russia’s prior actions in George and Crimea.
• China believed that Russia would succeed. Russia’s success would, in turn, demonstrate that the West is a “paper tiger” that cannot stop a strong and determined power willing to exercise its might. If Russia was successful enough to claim a decisive victory, this might position China to re-take Taiwan.
• America and Europe believed that Ukraine would collapse, but not too quickly; it would hold out long enough for a series of devastating sanctions to economically cripple Russia. Faced with the prospect of economic isolation and impoverishment, Russia would come to the negotiating table to work out a deal. The deal would leave Ukraine with its territory intact but deny it NATO membership. If the sanctions hit hard enough, Putin’s regime might collapse; it could then be replaced by a pro-Western (or at least pro-globalist) regime.
• Ukraine believed that it would hold out against Russia long enough for a combination of American sanctions and military aid to force Russia to the negotiating table for a deal, as above.

Those were the expectations. What was the reality? If you’ve been following the war, then you know what happened: Everybody was wrong about everything.

Russia was wrong because Ukraine did not quickly collapse under the weight of Russian military might. It didn’t collapse in days, nor in weeks, nor months. It didn’t collapse at all. Ukraine actually pushed back Russia in the northeast, and held its ground against Russia in the southeast, inflict great cost in men and material. Far from winning easily, Russia has suffered casualties not seen in European warfare since WWII.

But America, Europe, and Ukraine were also wrong! Russia’s economy did not quickly collapse under the weight of Western sanctions. Economic pain didn’t bring Russia to the negotiating table with America and Europe — it forced Europe to negotiate with Russia for oil and gas. And as the war drags on, the sanctions continue to hurt the West more and more.

Russia seems to now be on the verge of doing to Ukraine in June what it thought it would do in March — crushing it. Now, it looks like Russia might win in Ukraine after all, and without coming to the negotiating table. The shock this turn of events has caused in our journalist class can be seen by tracing the headlines:



But Putin’s “shock triumph” won’t be the taking of the Donbas. The shock triumph will be the destruction of the petrodollar at the hands of the very sanctions intended to maintain it.

Suicide by Sanction
​

The Peterson Institute for International Economics reports that “Russia's military assault on Ukraine has prompted other countries to impose an extraordinary set of coordinated economic sanctions against Russia. The measures aim to limit customary trade and financial relations with Russia, penalize Russian oligarchs for supporting Putin and potentially cripple Russia's economy, all in hopes of… deterring Putin from… continuing acts of war.” PIIE has tracked and tabulated a full list of the sanctions, annotated by date and country. We’ll summarize the list here.
Over the last 90 days, the West has:

• Banned Russian banks from using the SWIFT financial system2, the primary means by which international transactions are handled worldwide;
• Banned imports of Russian oil, natural gas, and coal into the US, UK, Canada, and Australia;
• Banned export of industrial, high-tech, and dual-use goods from the West to Russia;
• Divested investment by US, UK, and EU countries into Russian oil and gas;
• Frozen the assets of Russia’s largest banks, as well as hundreds of Russian politicians and oligarchs and many of their family members;
• Prohibited transactions with the Russian Central Bank, the Russian Ministry of Finance, and Russia’s sovereign wealth funds; and
• Prohibited Russian ships from docking, Russian trucks from using the roads, and Russian aircraft from flying, in US, UK, or EU territories.

Russia, meanwhile, has responded with counter-sanctions. Russia has:

• Banned Russians from transferring foreign currency abroad, including servicing of foreign loans;
• Banned exports of grain to its Eurasian Economic Union partners;
• Blocked transactions with foreign energy companies;
• Decreed that natural gas payments must be made in rubles if the buyers are from unfriendly countries, including Western Europe. Russia supplies one-third of Europe’s energy; and
• Shut off natural gas exports to Bulgaria, Finland, and Poland over their refusal to pay in rubles.

On first glance, the Western sanctions seem monolithic and overpowering and the Russian sanctions narrow and weak in comparison. Indeed, the Washington Post called the sanctions a “financial nuclear weapon,” and the unanimous expectation was that Russia would utterly crumble.

Had Russia crumbled, the dollar’s hegemony would have been assured for another generation. A humiliated Russia would have toppled Putin from power and exited Ukraine; the sanctions would have been lifted; Russia would have re-entered the world financial system; and China would have been suitably cautioned not to “**** around and find out.”
That’s not what happened. As Global Times puts it, “after two months, the effect of the sanctions has failed to meet the expectations set by Western countries. The exchange rate of the Russian ruble has returned to or even exceeded the level before the sanctions, the bank run has basically disappeared, and the performance of the Russian capital market has stabilized.”

The reason the sanctions failed becomes obvious when you look at what didn’t get sanctioned. The EU didn’t ban oil and gas. Instead it just ordered that imports of Russian oil be “phased out” over the next 6 months, with an exception beyond that for EU states that "suffer from a specific dependence on Russian supplies and have no viable alternative options.” The EU has not banned natural gas imports at all. It can’t. Europe has decarbonized and denuclearized so much that it is utterly dependent on Russian power. Russia supplies Europe with 40% of its natural gas. If it does not have Russian gas, Europe freezes."

 

[MinnesotaSmith]

Part IV, cont.

"When Russia demanded payment in rubles for its gas, the EU responded with shock and outrage, called Putin a blackmailer, and refused to cooperate. After Bulgaria, Finland, and Poland had their gas shut off, the EU decided it would pay for natural gas in rubles. As a result, the ruble has now become one of the most successful currencies in the world. Now the “gasruble” (to coin a word) is competing with the “petrodollar” as a currency for global energy transactions.

This is a truly seminal moment. Vladimir Putin is essentially the first world leader to defy the petrodollar successfully. Not only is the EU now buying Russian gas in Russian rubles, the rest of the world has largely remained open to trade with the Bear. As it turns out, the “global community” actually only includes the US, UK, EU, Canada, Australia, and New Zealand. Of the world’s 10 most populated countries, only one (the US) joined the sanctions. India, Indonesia, Pakistan, Brazil, Nigeria, Bangladesh, and Mexico did not. (If only there were some word we could use for that portion of the globe that is neither part of NATO or Russia.3)



Russia’s trade relations with the world have enabled it to bypass the sanctions on its oil. Russia simply ships its oil to nations such as China and India, who then refine it and ship it to whichever country would like to buy it. The US cannot sanction the grey areas on the map without wreaking further havoc on the global supply chains.

Russia and China smell blood in the water. Before the Russo-Ukraine War, both had already created competitors for the SWIFT system. Russia had established the System for Transfer of Financial Messages (SPFS), a ruble-based payment system, as an alternative to SWIFT. China had launched the Cross-Border Interbank Payment System (CIPS) as a renminbi-based system. Now they plan to expand them. Eric Johnson, writing for Global Finance, notes:

A December report by the Hong Kong-based consultancy Dezan Shira & Associates cited “plans to integrate” CIPS and SPFS. It also said the Russian government was in talks to expand SPFS to Turkey and Iran. Tim White, a Special Advisor on Sanctions at AML RightSource, a financial compliance specialist, says Russia may seek to expand its SPFS system to other non-NATO players in light of the Swift ban… “[C]ountries will be drawn to using other currencies and payments and settlement systems that fall outside American control.”

China, India, Russia… These are the nations of the World Island and they now fall outside American control.

What Happens Now?
​

There no longer seems to be any reasonable prospect of returning to the pre-war world order. The Russo-Ukraine War has triggered a new Cold War with the “Free World” of the US, UK, and EU up against the “Former Communist World” of China and Russia. This is, of course, exactly the World Ocean versus World Island confrontation that the US didn’t want to happen.

It’s happening.

That’s clear. What’s less clear is what that means. Who will the Third World side with? That is, will Brazil still buy oil in dollars? Will Nigeria still sell oil in dollars? Will BRIC nations still export us goods in exchange for greenbacks? Will the US be able to sustain its global trade deficits, offshore its inflation, and continuously inflate its assets?

The Western elite is confident that the Russo-Ukraine War will not hurt the importance of the dollar or euro. Yesterday the European Central Bank released a report to reassure everyone that things are just peachy for the currency:

The barrage of sanctions -- including the freezing of Russian central bank assets and the expulsion of private lenders from the SWIFT messaging network -- has fueled speculation that some nations may seek to bypass the euro and the dollar in the future, for example by boosting their holdings of renminbi, gold and crypto-assets, according to the report.
But those alternatives “often lack the depth, liquidity or other economic and financial attributes required to appeal to global investors,” the report said. And while the dollar’s share in global reserves has declined, its importance remained stable or even increased in other areas like bond issuance, it said.

The Chinese seem to believe de-dollarization is, if not at hand, at least in sight. Xu Wenhong, a research fellow at the Chinese Academy of Social Sciences, writing for Global Times, says:

Western countries take advantage of SWIFT's dominant position in the international financial system, weaponize it, and abuse the public good in the international financial field to attack other countries, resulting in falling trust in SWIFT and the emergence of more alternatives. At present, some countries have developed several alternative systems similar to SWIFT. In the future, the international payment system may be built on multi-system coexistence and regionalization, which will also accelerate the process of "de-dollarization" on a global scale.

Dissident thinkers are, shall we say, less sanguine about things. Market Ticker’s Karl Denninger speaks with his usual blunt candor:

The so-called Russian Sanctions have blown up spectacularly in the western world's face. Russia now has a stronger currency than it did before the war we instigated began. Oil and Natural Gas, never mind things like fertilizer, are nice and expensive which suits Putin just fine. He has negotiated long term interchange with China for both and is building out the capacity to wildly increase same. Europe is ****ed down the road as a result and in the meantime they got nothing for all these "sanctions."
For that matter so are we. We've sequestered our inflationary deficit spending4 overseas via the China/US (and other nations, including India) trade deficit for the last two decades. That's over and will never come back because none of the nations that we were doing it with have any reason to allow it ever again and they don't need to… As a result we can no longer spend in deficit without it reflecting back into inflation which means the "free ride" gave has been terminated and while this was always eventually going to end we did this to ourselves and thus the inflation you're seeing and will continue to see was and is caused directly by our policies and our government.
Thus the only way to stop the inflation is to stop deficit spending -- all of it -- right now…
We had better reverse course on all of our insanity with regard to energy now -- including oil, natural gas and especially coal, which has a stable long-term price structure or we're going to get ****ed. The economy here will fold back into a deep, nasty inflationary recession materially worse than the Carter Stagflation…
Further, we can no longer spend, at the federal level, anything we do not first tax from someone. I do not give a wet crap what the excuse is from the left or right it all stops now or we will continue to get a wild inflationary spike, demand destruction will inevitably follow and so will severe civil unrest when the blackouts start along with the inability to fund food or even worse -- civil war.

I agree with Mr. Denninger. In a sense, this four part essay series was my attempt to explain, in depth, why one ought to agree with him — to show how the petrodollar system had come to be created, what its effects had been, how it forced us into a particular geostrategic position, and how our attempt to maintain that position had backfired into the destruction of the system.

We should not mourn this. The petrodollar system was corrupt from its inception — built on other’s people’s resources, made for profit by our private banks, enforced by military might on the rest of the world. The petrodollar system created a new gilded age, made homes unaffordable to wage owners, and deindustrialized what was once the world’s most powerful manufacturing base. It left America running on empty. And now it will stop. The only question is whether that stop will be a slow brake or a crash, and how best we can get started again afterwards.

1
Let’s acknowledge here that reality is not so clean as a Tree of Woe essay might wish. America, China, and Russia each have many different politicians and parties operating within them, and Europe has many from each country. Each and every one of those politicians and parties is pursuing different goals. I have presented what I believe to be the strategic goal of the permanent bureaucracy or deep state of each faction. For instance, there are obviously some Europeans who oppose social democracy or would prefer less European unification rather than more, but the EU “deep state” seems to be committed towards tighter unification, more technocratic socialism, etc.
2
SWIFT is the Society for Worldwide Interbank Financial Telecommunication, which operates a messaging network that banks and other financial institutions use to transfer money. There are 11,000 SWIFT members (banks) worldwide.
3
Hurray. We’ve re-invented the Third World.
4
See Parts I and II of this series if you don’t understand how the petrodollar system has enabled us to offshore our inflation."

 

[Samuel Adams]

Good read.


Is that all you got ?

 

[MinnesotaSmith]

Good read.


Is that all you got ?

There's plenty more at the blog where I found those.

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[Dozdoats]

Is that all you got ?

He got The Transcript at last ...

 

[Samuel Adams]

I want the video !


Where’s the video ?

 

[MinnesotaSmith]

I want the video !


Where’s the video ?

Illiterate.

 

[Dozdoats]

Innumerate is far worse ...

American monetary history since 1933 has been a desperate search for ways to cheat more people more of the time. Now we find ourselves reaching the limits of fraud....