Gary North’s Reality Check / www.GaryNorth.com – 2007-04-04 23:00:52
Issue 638 (April 3, 2007) — No, I don’t mean its arrest of a dozen or so British low- rank military people who were taking a boat ride in long-disputed waters dividing Iraq and Iran. That was just a bit of old- fashioned tail-twisting of the British lion, which has been close to toothless ever since 1945. I mean this:
Iran, the world’s fourth largest oil producer, will stop pricing oil in US dollars, with less than half of its oil income now paid in the American currency, Iran’s central bank governor said.
This March 29th article belonged on the front page of every daily newspaper, above the fold. You probably missed it. That’s because you don’t read “Al-Jazeera,” the Arabic newspaper. The editor at “Al-Jazeera” spotted a major story. The only mainstream media outlet that bothered to run this story was The International Herald Tribune, which is owned by the New York Times. The story appeared in the Trib’s business section (March 28).
The fact that Iran is openly calling on oil buyers to settle their accounts in currencies other than the United States dollar is reminiscent of Saddam Hussein’s similar decision in September, 2000. This was one month after Hugo Chavez met with Hussein in Iraq. He was the first head of state to visit Hussein since the 1991 Gulf War. Oil was then around $30.
[A good introductory book on this whole question is William Clark’s Petrodollar Warfare. Read especially Lt. Col. (ret.) Karen Kwiatkowski’s Afterword.]
On April 10, 2001, the Council on Foreign Relations and the James A. Baker III Institute issued a joint, bipartisan publication, “Strategic Energy Policy: Challenges for the 21st Century.” Baker is a former Secretary of State under Bush, Sr., and was regarded as the number-one advisor to Bush. He also ran the Reagan White House whenever Reagan did not lay down the law on a specific issue. When the CFR and Baker issue a joint report, we had better take it seriously as a statement of what the Powers That Be are thinking — or want the public to think — about government policy. The CFR’s press release summarized the report’s findings.
Ironically, the economic boom of recent years has exacerbated the potential for an energy crisis. Strong growth in most countries and new demands for energy have led to the end of previously sustained surplus in hydrocarbon fuels.
As a result, the world is now precariously close to using all its available global oil production capacity. If an accident or other disruption in production occurred — whether on the Alaskan oil pipeline, in the Mideast or elsewhere — the world might be on the brink of the worst international oil crisis in three decades.
The invasion of Iraq by Bush and the resistance to the occupation have created just the kind of disruption that the CFR warned about. It is no accident that when the Establishment’s independent Iraq Study Group presented a supposedly practical alternative to the Administration’s Iraq policy, Baker was co- chairman.
The problem is, the report was yada, yada, yada — the standard Establishment bloviation, which offered no meaningful, clear-cut solution to the problem because there is no agreement within the foreign policy Establishment regarding America’s Middle East policy, and hasn’t been since May 1, 1948.
Concern about a looming war with Iran is continuing to force oil prices upward. An actual war will drive prices much higher, just as the Iraq war has.
THE EURO WORRY
The euro was introduced in 1999 at an exchange rate of $1.17. It started falling almost immediately. It bottomed in October, 2000, a few days after Hussein’s announcement, at 83 cents. It stayed low until October 2001, after the 9-11 attack, when it started rising. So, initially, Hussein’s announcement did not have any visible economic effect on the dollar/euro exchange rate. A month before the Iraq war began, the euro was around $1.10. It continued to rise after the war began in March, 2003. It was at $1.16 in May.
The US dollar is the world’s reserve currency. About 65% of all central bank foreign exchange reserves are held in the dollar. A March 30 report on Bloomberg provides the figures.
The dollar’s share of global foreign-exchange reserves fell to the lowest level in at least eight years as central banks accelerated their purchases of euros, the International Monetary Fund said.
Dollars accounted for 64.7 percent of reserves last quarter, down from 65.8 percent in the prior three months, the IMF said today in Washington. The share of euros climbed to 25.8 percent from 25.1 percent, reaching its highest proportion since the single currency was introduced in 1999. . . .
The euro climbed 11.4 percent against the dollar last year, its fourth annual gain in five. The advances have enhanced the attractiveness to central banks of the currency now shared by 13 European Union nations. Reserve holdings in euros climbed 8.3 percent last quarter, the most in two years, IMF data show.
What the report does not mention is that these figures are essentially unchanged since the end of 2004. The dollar was then 66% and the euro 25%. The big change has come since 2002. In early 2002, the euro figure was 10%.
THE SAUDI CONNECTION
The dollar has been supported by Saudi Arabia ever since 1971. When Nixon unilaterally broke the United States government’s agreement to sell gold at $35/oz, the dollar has floated against other currencies. Foreign central banks have held T-bills as foreign exchange reserves because of the dollar’s universal acceptability for international trade.
The Saudis could have undermined the dollar’s role in trade if they had accepted yen or pounds sterling in addition to dollars. But the Nixon Administration negotiated a not-so-secret secret agreement. The Saudis would accept the dollar, and only the dollar, in oil sales, no matter who was buying the oil. At any time, the Saudis could have bailed out, but they didn’t — not even during the OPEC oil embargo.
Look at the chronology.
• August 15, 1971: Nixon closes the gold window, imposed price and wage controls, and floated the dollar.
• September 22, 1971: OPEC directs members to negotiate higher prices for oil due to the falling dollar.
• December 5: Libya nationalizes British Petroleum’s holdings.
• January 20, 1972: Six OPEC nations raise prices 8.49% to compensate them for the falling dollar. Saudi Arabia is one of them.
• June 1: Iraq nationalizes the foreign-owned Iraq Petroleum Company’s holdings.
• October 27: OPEC announces 25% ownership of Western oil operations in six countries, with 51% by 1983. Saudi Arabia is one of them.
• March 16: Shah of Iran nationalizes all foreign-owned oil companies.
• September 1: Libya nationalizes 51% of all other oil companies.
I don’t want to belabor this. You can see what happened. The nationalizations continued for another year.
On October 6, 1973, the fourth Israeli-Arab war broke out. On October 17, OPEC’s six Middle Eastern nations raised the price of oil to $3.65 from $3.12. On October 19, they declared an oil embargo against the United States. On October 19, they embargoed the Netherlands. The Netherlands is where the world’s oil exchange operates. Oil rose. On December 22, the six Gulf states raised the price from $5.12 to $11.65, effective January 1, 1974. You can see the chronology here.
The initial domino in the sequence is clear: the closing of the gold window on August 15, 1971. But at no time did the Saudis or OPEC officially abandon the dollar as the sole unit of account.
This was when the flow of petrodollars began to accelerate. The Saudis sold their oil for dollars, but they deposited the money mainly in multinational banks headquartered in New York City. The banks then lent the money around the world.
The Saudis could have pulled the plug at any time. All they had to do was allow other currencies in exchange for oil. Then they could have ceased doing business with U.S. banks. They could have switched to London, Germany, and Switzerland. They didn’t.
There had to be a reason. But what reason makes sense?
The Saud family runs the country. It is a fiefdom. The family cannot protect itself militarily without weapons. It also needs a buffer against enemies. It gets both from the United States.
After the fall of the Shah in 1979 and the capture of the American embassy by Iran’s revolutionary guards, the Shi’ite threat to Saudi Arabia grew. The Saudis support the Wahhabi Sunni sect, which has always been officially supportive of the Saud family. This goes back over two centuries.
Iran under the mullahs became an immediate threat to the Saud family. The oil fields of Saudi Arabia are in the east, which is where Shi’ites are dominant.
The military equipment and other support given to Hussein by the U.S. in the Iraq-Iran war (September 1980 to August 1988) was a shield for Saudi Arabia. It kept a pro-Sunni leader in power in an otherwise Shi’ite-dominated country on Saudi Arabia’s border. When Hussein moved into Kuwait in 1991, the Saudis agreed to help fund the Gulf war. When Bush encouraged the Shi’ites to revolt after the war ended, and they did, the United States let Hussein’s troops slaughter them. This was a benefit for the Saudis. They did not want Shi’ite forces on their border. They still don’t.
The Shi’ites and Kurds will be the big winners if and when the U.S. departs. The Saudis will then have a Shi’ite state on its border. Across the water is Iran, which is facing a crisis within a decade, as its oil exports decline, possibly to zero. Iran will have to make its move soon. The prospects of a Shi’ite kingdom are fading.
The quid pro quo for the dollar’s sole acceptability in Saudi Arabia and the other Sunni members of OPEC is protection. As long as the United States keeps the State of Israel on a tight leash beyond its own borders, the Saudis need fear only the Shi’ites.
This is why there has been no hue and cry from the Saudis regarding the second American invasion of Iraq. This is why there is silence regarding the two carrier task forces in the Gulf, with the third leaving San Diego today to join the other two.
IRAN BREAKS THE STRANGLEHOLD
With Iran now selling oil only for other currencies, it has offered a challenge to the other OPEC exporters. They can get out of the petrodollar trap by switching to the euro. Iran is about to set the precedent. Iraq did, but it was invaded. Then the old arrangement was reimposed by the Americans: oil for dollars only.
By telling other oil exporters that it’s a good idea to do business in other currencies, Iran threatens to cause a shift in central bank holdings. If the euro continues to rise, central banks are better off by buying euros. At the margin, they will make money. But the dollar will fall: reduced demand for dollars. The downside of this is two-fold: (1) a falling dollar means fewer exports to America; (2) a falling market price of their existing holdings of T-bills. This will hurt Japan and China the most.
This threat to U.S. foreign policy is great. The threat to the domestic economy is worse. The dollar has been subsidized by OPEC nations for 35 years.
The dollar’s looming fall in value in relation to other currencies is a minimal threat to the American economy compared to rising oil prices. We are importers of oil. If gasoline prices rise, voters will seek vengeance. Republicans know this. So, Iran is now a threat to Bush and the Republicans in 2008.
Let us return to the article in “Al-Jazeera.”
Almost all of Iran’s European and Asian oil customers started paying in currencies other than the US dollar late last year as Tehran moved to diversify its foreign exchange reserves away from the U.S. dollar.
Zhuhai Zhenrong Trading, a Chinese state-run company that is the biggest buyer of Iranian crude oil worldwide, have begun paying Iran for its oil in euros. Then what about Japan? The nation has been paying in dollars.
Japanese buyers, who buy almost a quarter of Iran’s 2.2-million barrel daily shipments, continue to pay in dollars but are willing to shift to yen if asked.
“We are looking at it so that we can switch the currencies any time, but we have not gotten any official requests from them,” said Fumiaki Watari, the chairman of Japan’s top refiner, Nippon Oil.
Japan has now been officially asked to pay in some other currency.
The Israelis would like Iran removed as a regional center of power. On this point, they are in full agreement with the Saudis.
The Administration does not want to see a dramatic fall of the dollar in relation to the euro.
An attack on Iran will produce a spike in the oil price, no matter what currency is used to settle accounts. Oil importers don’t want that. Oil exporters will cry crocodile tears, and then hike their prices. It’s called “meeting the market.”
The potential for disrupting the flow of oil has never been greater.
If I were James Baker and his associates at the Council on Foreign Relations, I would be ordering several cases of Depends. They are running out of time to reign in Junior.
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