Protect the Petrodollar

The second most important story after the catastrophe of climate change is the quite related story of: What is the end game for the Age of Fire and Fossil Fuels?

This is no small question. The incredible energy density of fossil fuels has made possible a huge population that will be fighting over the table scraps as these fuels become more rare and expensive. Just remember, any fuel that is not renewable is by definition running out. The role of fuels like gasoline in the food supply is beyond important. And while activities like freezing food for preservation can powered by solar or wind with a few changes, the idea of a battery-powered tractor or combine is still mostly a fantasy.

Here in USA, the end of the Age of Petroleum promises to especially difficult. We have been a net energy importer since about 1970 and while we sold off the country's industrial crown jewels and some prime real estate to help pay the bills, such actions were but a drop in the bucket compared to the massive oceans of oil we import every day. In 2012, the trade deficit in oil was over $300 billion and while fracking has recently lowered that amount to less than $15 billion in 2016, fracking is a secondary recovery technique designed to extract the last remnants of a depleted oil field. Of course, selling off the industrial crown jewels means that we make less of our needs every year—we now make less than 2% of our shoes for goodness sakes.

But the pain has mostly been rendered invisible because of the agreements USA managed to get agreed to in the 1970s when Richard Nixon closed the gold window. The most important plus the USA got by being the superpower was the agreement that the medium of exchange for the petroleum trade would be the dollar.

But we should remember a few fundamentals about money so we can understand why the petrodollar is so important.

The form money takes seems important to some, but in fact this is the most irrelevant issue (sorry goldbugs). The important question is: What makes money valuable?

1. Money is valuable if it can be exchanged for something else you want or need. Monetary cranks insist that paper or electronic money should be able to converted into something more intrinsically valuable like gold. Problem is, gold has very little intrinsic value compared to something like oil so the petrodollar is a FAR more stable store of value than gold could ever hope to be.
2. Money is valuable if you need it to pay off persons who can make your life miserable. As Peter Cooper, the Greenback Party Presidential candidate, would say, "If you can pay your taxes with it, the money is good." Of course, the same can be said for money used to pay off mortgages, etc. Creditors use police powers to enforce their currency rules.
3. The third way money is made valuable is when it is a monetization of human genius. When Japan's PM Abe tried to drive down the value of the Yen in 2012, he discovered that the factors usually blamed for driving down the value of a currency by the monetary pundits didn't work for the Yen. Turns out that if you can trade Yen for a Lexus (or thousand of other perfectly good examples), by gum it is worth something.

Bitcoins meet none of these criteria. Therefore its value is quite ephemeral. On the other hand, the petrodollar IS backed by force. The big problem is that it isn't easily-bullied pipsqueaks like Iraq or Libya challenging petrodollar supremacy. This time it's Russia and China. And while the Petrodollar is so powerful that it can withstand a bunch of shocks, it also has a bunch of enemies. Bringing down the petrodollar would make much of the world's population very happy. So while it is still powerful and backed by murderous people with insanely destructive weapons, the petrodollar is no longer invulnerable. We should all keep an eye on this story. There isn't a LOT of good writing on this subject but I found three articles worth reading.

Why the Russia Scare? Protect the Petrodollar

gjohnsit, 11/29/2017

Remember when Saddam insisted on selling Iraqi oil in Euros?
Saddam made a profit, but he never lived to spend it.

Remember when Gadhafi planned on selling Libyan oil in a gold-backed currency?
It was mentioned as a reason in Hillary's emails to bomb Libya.

Iran started selling oil in Euros two years ago.
I'm sure that it's just a coincidence that some in Washington are pushing for war with Iran.

Which brings us to the primary threat to the petrodollar today - Russia.

Russia has gone waayyyy past the "crimes" of Iraq, Libya, and Iran.

I was informed at a White House meeting that U.S. diplomats had let Saudi Arabia and other Arab countries know that they could charge as much as they wanted for their oil, but that the United States would treat it as an act of war not to keep their oil proceeds in U.S. dollar assets.

This was the point at which the international financial system became explicitly extractive. But it took until 2009, for the first attempt to withdraw from this system to occur. A conference was convened at Yekaterinburg, Russia, by the Shanghai Cooperation Organization (SCO). The alliance comprised Russia, China, Kazakhstan, Tajikistan, Kirghizstan and Uzbekistan, with observer status for Iran, India, Pakistan and Mongolia. U.S. officials asked to attend as observers, but their request was rejected.

The U.S. response has been to extend the new Cold War into the financial sector, rewriting the rules of international finance to benefit the United States and its satellites – and to deter countries from seeking to break free from America’s financial free ride.

...The U.S. plan was to hurt Russia’s economy so much that it would be ripe for regime change (“color revolution”). But the effect was to drive it eastward, away from Western Europe to consolidate its long-term relations with China and Central Asia.

Repeated rounds of international sanctions have failed to cow Russia, and the reason is China.

In a symbolic blow to U.S. global financial hegemony, Russia and China took a small step toward undercutting the domination of the U.S. dollar as the international reserve currency on Tuesday when Russia’s second biggest financial institution, VTB, signed a deal with the Bank of China to bypass the dollar and pay each other in domestic currencies.

Russia's deals with China have given it access to the international markets, hard foreign currency and manufactured goods.

That was 2014.

China and Russia (and Iran to a lesser extent) have gotten closer and closer ever since.

Russia and China were considering linking their national payment system, Russian Prime Minister Dmitry Medvedev said on Wednesday, as he called for a more balanced global finance structure.

...That would have "good prospects" and "avoid those problems that sometimes arise when you use American payment systems", Medvedev said, mentioning Visa and Mastercard without elaborating.

Russia started to create the Karta Mir system after Western sanctions were imposed on the country in 2014, during the Ukraine crisis. The system is now widely accepted in Russia.

After new U.S. sanctions were imposed, Moscow promised to intensify work to cut dependence on Western payment systems further. Among other things, it wants to create more domestic financial services such as its own ratings agency.

Russia and China did in fact link their payment systems, thus making a huge part of Asia independent of western banks.

This direct currency settlement move by China and Russian, however, is one of the most dynamic game-changing developments since Washington’s Treasury and Wall Street banks came up with the US Dollar system at Bretton Woods in 1944.

It’s not about reducing currency risks in trade between Russia and China. Their trade in own currencies, bypassing the dollar, is already significant since the US sanctioned Russia in 2014—a very foolish move by the Obama Administration Treasury. It’s about creating a vast new alternative reserve currency zone or zones independent of the dollar.

Russia is also forming trade deals with India.

Plus, the war in Syria has brought Russia and Iran into a military alliance, on top of trade deals.

Russia and China, our only mildly-serious military rivals, are increasingly becoming more friendly and more independent of our influence.

The United States is a dying empire, and dying empires tend get paranoid.

And the U.S. should be paranoid about the petrodollar. The U.S. dollar is not in good shape.

The extended policy of zero interest rates plus all the “quantitative easing”, are indications of systemic weakness.

Put all that dry timber together, and then add a spark - the 2016 election - and you have a full-on hysteria.

The petrodollar has lasted for over 41 years, and has been the driving force behind America’s economic, political and military power. It would be ironic, indeed, were the tensions with Russia inadvertently to become the driver of America finally losing its petrodollar card.

more

China about to knock out petrodollar by trading oil in yuan

14 Dec, 2017

As one of the world’s top energy importers, China has successfully completed its fifth dry run in yuan-backed oil futures contract trading. The step has been already called Beijing’s challenge to the US dollar.

China's launch of 'petro-yuan' in two months sounds death knell for dollar's dominance

According to Bloomberg, which cited a statement from the exchange, 149 members of Shanghai International Energy Exchange traded 647,930 lots in the rehearsal with a total value of 268.2 billion yuan. The system met the listing requirements of crude futures after the exercise, it added.

“This contract has the potential to greatly help China’s push for yuan internationalization,” said Yao Wei, chief China economist at Societe Generale in Paris.

She added, however, “its success will hinge critically on the degree of freedom allowed for the capital flows related to the contract.”

A former China division chief at the International Monetary Fund, Eswar Prasad said: “It is not unreasonable to envision a world in which the overwhelming share of commodity contracts, especially for oil, are no longer denominated just in dollars.”

But “the yuan’s role in global finance will ultimately be determined by the degree of commitment of Xi Jinping’s government to economic and financial market reforms.”

Since the 1970s, the global oil trade has almost entirely been conducted in US dollars. The largest energy consumer, China, is interested in having oil contracts in yuan. Beijing plans to introduce its own oil benchmark which will rival Brent or West Texas Intermediate. Analysts say Chinese authorities will need to first convince large oil producers and consumers to use the yuan and invest in the Shanghai benchmark.

The Chinese government announced plans to start a crude oil futures contract priced in yuan and convertible into gold earlier this year. The contract will enable the country's trading partners to pay with gold or to convert yuan into gold without the necessity to keep money in Chinese assets or turn it into US dollars.

The new benchmark will reportedly allow exporters, such as Russia, Iran or Venezuela to avoid US sanctions by trading oil in yuan.

In September, Venezuela ditched the greenback for oil payments. Caracas has ordered oil traders to convert crude oil contracts into euro and not to pay or be paid in US dollars anymore. The measure followed the rolling out of sanctions by the United States against the country. more

The Petro-Yuan Bombshell and Its Relation to the New US Security Doctrine

"Russia and China ... have concluded that pumping the US military budget by buying US bonds ... is an unsustainable proposition ..."
Pepe Escobar, Dec 23, 2017

The new 55-page “America First” National Security Strategy (NSS), drafted over the course of 2017, defines Russia and China as “revisionist” powers, “rivals,” and for all practical purposes strategic competitors of the United States.

The NSS stops short of defining Russia and China as enemies, allowing for an “attempt to build a great partnership with those and other countries.” Still, Beijing qualified it as “reckless” and “irrational.” The Kremlin noted its “imperialist character” and “disregard for a multipolar world.” Iran, predictably, is described by the NSS as “the world’s most significant state sponsor of terrorism.”

Russia, China and Iran happen to be the three key movers and shakers in the ongoing geopolitical and geo-economic process of Eurasia integration.

The NSS can certainly be regarded as a response to what happened at the BRICS summit in Xiamen last September. Then, Russian President Vladimir Putin insisted on “the BRIC countries’ concerns over the unfairness of the global financial and economic architecture which does not give due regard to the growing weight of the emerging economies,” and stressed the need to “overcome the excessive domination of a limited number of reserve currencies.”

Yes, this is photoshopped, but still very apt - the whole world is wondering what his next move will be ...

That was a clear reference to the US dollar, which accounts for nearly two-thirds of total reserve currency around the world and remains the benchmark determining the price of energy and strategic raw materials.

And that brings us to the unnamed secret at the heart of the NSS; the Russia-China “threat” to the US dollar.

The CIPS/SWIFT face-off

The website of the China Foreign Exchange Trade System (CFETS) recently announced the establishment of a yuan-ruble payment system, hinting that similar systems regarding other currencies participating in the New Silk Roads, a.k.a. Belt and Road Initiative (BRI) will also be in place in the near future.

Crucially, this is not about reducing currency risk; after all Russia and China have increasingly traded bilaterally in their own currencies since the 2014 US-imposed sanctions on Russia. This is about the implementation of a huge, new alternative reserve currency zone, bypassing the US dollar.

The decision follows the establishment by Beijing, in October 2015, of the China International Payments System (CIPS). CIPS has a cooperation agreement with the private, Belgium-based SWIFT international bank clearing system, through which virtually every global transaction must transit.

What matters, in this case, is that Beijing – as well as Moscow – clearly read the writing on the wall when, in 2012, Washington applied pressure on SWIFT; blocked international clearing for every Iranian bank; and froze $100 billion in Iranian assets overseas as well as Tehran’s potential to export oil. In the event that Washington might decide to slap sanctions on China, bank clearing though CIPS works as a de facto sanctions-evading mechanism.

Last March, Russia's central bank opened its first office in Beijing. Moscow is launching its first $1 billion yuan-denominated government bond sale. Moscow has made it very clear it is committed to a long-term strategy to stop using the US dollar as their primary currency in global trade, moving alongside Beijing towards what could be dubbed a post-Bretton Woods exchange system.

Gold is essential in this strategy. Russia, China, India, Brazil & South Africa are all either large producers or consumers of gold – or both. Following what has been extensively discussed in their summits since the early 2010s, the BRICS countries are bound to focus on trading physical gold.

Markets such as COMEX actually trade derivatives on gold, and are backed by an insignificant amount of physical gold. Major BRICS gold producers – especially the Russia-China partnership – plan to be able to exercise extra influence in setting up global gold prices.

The ultimate politically charged dossier
Intractable questions referring to the US dollar as the top reserve currency have been discussed at the highest levels of JP Morgan for at least five years now. There cannot be a more politically charged dossier. The NSS duly sidestepped it.

The current state of play is still all about the petrodollar system; since last year, what used to be a key, “secret” informal deal between the US and the House of Saud, is firmly in the public domain.

Even warriors in the Hindu Kush may now be aware of how oil and virtually all commodities must be traded in US dollars, and how these petrodollars are recycled into US Treasuries. Through this mechanism, Washington has accumulated an astonishing $20 trillion in debt – and counting.

Vast populations all across MENA (Middle East-Northern Africa) also learned what happened when Iraq’s Saddam Hussein decided to sell oil in euros, or when Muammar Gaddafi planned to issue a pan-African gold dinar.

But now it’s China who’s entering the fray, following through on plans set up way back in 2012. And the name of the game is oil-futures trading priced in yuan, with the yuan fully convertible into gold on the Shanghai and Hong Kong foreign exchange markets.

The Shanghai Futures Exchange and its subsidiary, the Shanghai International Energy Exchange (INE) have already run four production environment tests for crude oil futures. Operations were supposed to start at the end of 2017, but even if they start sometime in early 2018, the fundamentals are clear: this triple win (oil/yuan/gold) completely bypasses the US dollar. The era of the petro-yuan is at hand.

Of course, there are questions on how Beijing will technically manage to set up a rival mark to Brent and WTI, or whether China’s capital controls will influence it. Beijing has been quite discreet on the triple win; the petro-yuan was not even mentioned in National Development and Reform Commission documents following the 19th CCP Congress last October.

What’s certain is that the BRICS countries supported the petro-yuan move at their summit in Xiamen, as diplomats confirmed to Asia Times. Venezuela is also on board. It’s crucial to remember that Russia is number two and Venezuela is number seven among the world’s Top Ten oil producers. Considering the pull of China’s economy, they may soon be joined by other producers.

Yao Wei, chief China economist at Societe Generale in Paris, goes straight to the point, remarking how “this contract has the potential to greatly help China’s push for yuan internationalization.”

The hidden riches of “belt” and “road”
An extensive report by DBS in Singapore hits most of the right notes linking the internationalization of the yuan with the expansion of BRI.

In 2018, six major BRI projects will be on overdrive; the Jakarta-Bandung high-speed railway, the China-Laos railway, the Addis Ababa-Djibouti railway, the Hungary-Serbia railway, the Melaka Gateway project in Malaysia, and the upgrading of Gwadar port in Pakistan.

HSBC estimates that BRI as a whole will generate no less than an additional, game-changing $2.5 trillion worth of new trade a year.

It’s important to keep in mind that the “belt” in BRI should be seen as a series of corridors connecting Eastern China with oil/gas-rich regions in Central Asia and the Middle East, while the “roads” soon to be plied by high-speed rail traverse regions filled with – what else - un-mined gold.

A key determinant of the future of the petro-yuan is what the House of Saud will do about it. Should Crown Prince – and inevitable future king – MBS opt to follow Russia’s lead, to dub it as a paradigm shift would be the understatement of the century.

Yuan-denominated gold contracts will be traded not only in Shanghai and Hong Kong but also in Dubai. Saudi Arabia is also considering to issue so-called Panda bonds, after the Emirate of Sharjah is set to take the lead in the Middle East for Chinese interbank bonds.

Of course, the prelude to D-Day will be when the House of Saud officially announces it accepts yuan for at least part of its exports to China.

A follower of the Austrian school of economics correctly asserts that for oil-producing nations, higher oil price in US dollars is not as important as market share: “They are increasingly able to choose in which currencies they want to trade.”

What’s clear is that the House of Saud simply cannot alienate China as one of its top customers; it’s Beijing who will dictate future terms. That may include extra pressure for Chinese participation in Aramco’s IPO. In parallel, Washington would see Riyadh embracing the petro-yuan as the ultimate red line.

An independent European report points to what may be the Chinese trump card: “an authorization to issue treasury bills in yuan by Saudi Arabia,” the creation of a Saudi investment fund, and the acquisition of a 5% share of Aramco.

Nations under US sanctions, such as Russia, Iran and Venezuela, will be among the first to embrace the petro-yuan. Smaller producers such as Angola and Nigeria are already selling oil/gas to China in yuan.

And if you don’t export oil but are part of BRI, such as Pakistan, the least you can do is replace the US dollar in bilateral trade, as Interior Minister Ahsan Iqbal is currently evaluating.

A key feature of the geoeconomic heart of the world moving from the West towards Asia is that by the start of the next decade the petro-yuan and trade bypassing the US dollar will be certified facts on the ground across Eurasia.

The NSS for its part promises to preserve “peace through strength.” As Washington currently deploys no less than 291,000 troops in 183 countries and has sent Special Ops to no less than 149 nations in 2017 alone, it’s hard to argue the US is at “peace” – especially when the NSS seeks to channel even more resources to the industrial-military complex.

“Revisionist” Russia and China have committed an unpardonable sin; they have concluded that pumping the US military budget by buying US bonds that allow the US Treasury to finance a multi-trillion dollar deficit without raising interest rates is an unsustainable proposition for the Global South. Their “threat” – under the framework of BRICS as well as the SCO, which includes prospective members Iran and Turkey – is to increasingly settle bilateral and multilateral trade bypassing the US dollar.

It ain’t over till the fat (golden) lady sings. When the beginning of the end of the petrodollar system – established by Kissinger in tandem with the House of Saud way back in 1974 – becomes a fact on the ground, all eyes will be focused on the NSS counterpunch. more