Dissecting the Alleged Demise of the Petrodollar
Rumors of demise run counter to reality, and the data –MBS’ spending binges could bring the petrodollar to an end, but it is no longer the global force it once was.
Some corners of the internet – admittedly largely Twitter and low-quality news sites – have been aflutter in recent days with declarations that the US Dollar’s globally dominant role has taken a significant beating, alleging that Saudi Arabia allowed its 50-year deal with the United States to recycle its oil profits into the currency has lapsed.
That is not true – the claims originated with a 12 June tweet from ‘BRICS News,’ one of many garbage misinformation accounts that have benefitted from Twitter’s degradation into X. Even some of the website’s most popular anti-Western critics have acknowledged as much – for there is no written agreement underlying the petrodollar’s structure.
But there is no doubt that the idea of the petrodollar – that Saudi Arabia will recycle the excess profits* that it earns from selling oil into the currency, and more specifically into US government securities like Treasury notes – is a very real thing.
There really was a secret agreement negotiated in July (not June) of 1974, fabulously detailed in this 2016 Bloomberg article that turned it into a behemoth, which is among the most important geo-economic structures of the second half of the 20th century. Borne out of the 1973 Arab Oil Embargo blockading exports to the United States, the agreement was launched in response to then-US president Richard Nixon seeking billions in aid for Israel amid the Yom Kippur War. This caused a major price shock for US consumers alongside oil shortages and spiking inflation, prompting fears about energy security and dependence on Saudi exports that remain key touch points for US geopolitics today.
In short, the deal included key US security pledges for Saudi Arabia but also saw it agree to recycle those excess profits into US assets as aforementioned to help mitigate the impact of the Arab Oil Embargo. At the time, Saudi Arabia was earning far more than it could reasonably invest domestically. (For further detail on this I strongly recommend Gregory Brew’s thread on X – the website has not yet lost all its value despite Elon Musk’s apparent best efforts – a quick overview of the history, and Victor McFarland’s book Oil Powers on Saudi-US relations for those seeking a deeper dive).
The petrodollar pact in effect means that for decades Saudi Arabia helped to finance US deficits. But this is no longer an important feature of the international political economy.
In order to demonstrate why, first we must dismiss some key myths.
The first myth is that the US remains dependent on Saudi oil, sold by Saudi Arabia in dollars.
Saudi Arabia indeed sells less oil to the United States. US imports of Saudi crude in 2022 were one-third of their 2000 level. Now the United States also produces more oil than Saudi Arabia. In fact, in 2023 it produced more oil than any country has, ever, at 12.9 million barrels per day (b/pd), compared to Saudi's 9.7 million b/pd (Russia was in second place at 10.1 million b/pd). This only decreases the US dependency on Saudi exports, not on the idea of the petrodollar.
Nevertheless, if Saudi Arabia moved to politicize its exports of oil again it still has sufficient price power to potentially drive oil prices up massively – albeit only at the expense of its budget.
That is where the earlier asterisk (*) comes in – Saudi Arabia comes in. According to the IMF, Saudi Arabia now needs oil prices to be US$96.20 per barrel when factoring in all of Saudi Crown Prince Mohammed bin Salman’s (MBS) domestic spending efforts. Examples of these efforts include the Neom megacity and attempts to turbocharge the country’s new football (soccer) league with some of the sport’s most expensive stars. MBS has also led the Kingdom into other expensive efforts abroad with questionable investment returns, such as ventures in the golf industry that amount to at least 5 billion dollars and counting. Oil prices have not touched that level since July 2022, which means that the amount of excess profits that Saudi Arabia has to recycle into US treasuries has vastly decreased.
It is also true that amid MBS’ has felt open discomfort with US President Joe Biden and fears that Saudi assets could one day be at risk of being targeted similarly to Russia’s if the Kingdom finds itself in the pariah status Biden pledged during his 2020 campaign following the murder of journalist Jamaal Khashoggi. Such concern means that the Kingdom has flirted with oil sales in currencies. However, these have only been in relatively small amounts and this blog discussed the structural challenges in expanding such sales last November given the capital controls in place for currencies like China’s yuan – see here for more.
The petrodollar will only be truly over when Saudi Arabia chooses not to put its assets into US securities – or can no longer afford to.
The data from Saudi Arabia since November 2023 paints a particularly fascinating picture that flies directly in the face of the recent ‘petrodollar-is-perishing’ hysteria. Despite the Kingdom not kicking off excess oil profits in that time as oil prices have averaged between US$70-$85 per barrel, Riydah’s purchases of US Treasuries have increased. As of late March, the Kingdom held US$135.9 billion of the bills, up from US$110.7 billion last July – a key point to note because it is when the US Federal Reserve last raised interest rates, to 5.5%, their highest since the 2008 financial crisis. This means that the effective yield earned by Saudi Arabia for buying Treasuries rose—it’s simple investment logic more than geopolitics.
But Saudi Arabia is only at 17th in the list of countries measured by their US Treasury holdings – far below its late 1970s heights when it owned as much as 20% of all US Treasuries held abroad. In first place, Japan holds nine times as many as Riyadh- and second place is of course famously China, despite ever-increasing trade tensions between the two countries. The petrodollar will only be truly over when Saudi Arabia chooses not to put its assets into US securities – or can no longer afford to. Thus far, that has not come to pass.
The petrodollar may ultimately fall victim to Saudi Arabia’s domestic spending splurges if MBS continues at the current rate because of the lack of excess profits to recycle into dollars. But, it will go out with a whimper, not a bang, because the Kingdom is nowhere near the major force in demand for US Treasury securities it once was.
