Post by Steve Gardner on Nov 26, 2007 15:09:18 GMT
... and the Rise of the Petrodollar
This, the second in a five part series, originally appeared here - THE ALL-SEEING i
If the McCollum Memo set out the means by which America would be drawn into World War II, the Bretton Woods Agreement and its precursor, The Atlantic Charter, set out the motivation.
When World War II broke out, President Franklin D Roosevelt’s interventionist stance was in marked contrast to the isolationist sentiment held by a great many Americans. Whilst they feared a repeat of the sacrifices made during World War I, he feared that, if allowed to succeed in Europe, the Axis powers would “be in a position to bring enormous military and naval resources against [the Western] hemisphere.” But he also recognised that intervention would leave the US in a position to exploit an economically exhausted post-war Europe – one that would ultimately be forced to abandon the protectionist measures that had hitherto frustrated US access to the global marketplace. With that in mind, and although somewhat politically constrained, he began to look for ways to support the Allied effort.
“Entrepreneurs are simply those who understand that there is little difference between obstacle and opportunity and are able to turn both to their advantage.” – Niccolo Machiavelli
By mid-1940, Germany had overrun France and the Low Countries. A resource-depleted Britain stood alone and vulnerable. On September 2nd 1940, and in defiance of the Neutrality Acts, the US agreed to transfer fifty destroyers to the British Royal Navy under the terms of The Destroyers for Bases Agreement. In exchange, the US was granted the lease of land on various British possessions, “freely and without consideration”, for the “establishment and use of naval and air bases and facilities for entrance thereto and the operation and protection thereof.”
Sensing that America’s isolationist resolve was waning, Roosevelt used his Great Arsenal of Democracy fireside speech of December 29th 1940 to argue that there was “far less chance of the United States getting into war if we do all we can now to support the nations defending themselves against attack by the Axis.” He continued this theme in his State of the Union Address (also known as the Four Freedoms speech) on January 6th 1941 “t no previous time has American security been as seriously threatened from without as it is today,” he declared, before insisting that US “policy should be devoted primarily - almost exclusively - to meeting this foreign peril.”
His perseverance paid dividends. On March 11th 1941, in a move that would prove critical to the Allies’ eventual success, Congress passed the Lend-Lease Act . This Act entitled the President to authorise the “manufacture [of defense articles] in arsenals, factories, and shipyards, [and] sell, transfer title to, exchange, lease [or] lend” them to “the government of any country whose defense the President deems vital to the defense of the United States.” Although primarily intended to help Britain, Lend-Lease appropriations totalling around $50 billion were eventually extended to more than 40 nations by the end of the war.
Almost immediately, those responsible for administering the Lend-Lease program sought to clarify the “extent to which [their] Government intends to commit itself with reference to the defeat of the Axis powers.” On July 9th, 1941, Roosevelt made his position clear by asking both the Secretary of War and the Secretary of Navy to either in person, or through appointed representatives, explore “the overall production requirements required to defeat our potential enemies.” Preparation of the so-called ‘Victory Program’ was well under way by the time Roosevelt sat down with British Prime Minister, Winston Churchill, at the Atlantic Conference to discuss the Anglo-American alliance.
“To do it full justice, one must describe the arrangement itself as an instrument of American domination.” – Daniel Singer, author of Whose Millennium, Theirs or ours?
On August 14th, Roosevelt and Churchill issued a joint statement setting out their vision for a post-war Europe. As well as seeking to establish ‘a wider and permanent system of general security’, the Atlantic Charter also contained measures aimed at tearing down the barriers to free trade. It called for ‘all States, great or small, victor or vanquished’, to be granted…
Nearly three years later, and with the war drawing to a close, these free trade principles took a broader and more substantive form under the terms of the Bretton Woods Agreement. US policymakers understood that their own strong economy, which was based on a sustained period of uninterrupted military spending, must be used to drive global economic growth and prosperity in the post-war era. Without a market for exported goods, the US economy itself would be vulnerable. As Daniel Singer explains…
Thus the US exerted its predominance and Europe had little option but to acquiesce.
Initially, the Bretton Woods system worked well, with America’s economic strength providing a stable foundation upon which the world could emerge from the post-war doldrums. Dollars flowed out into the world economy through the institutions established under the agreement, as well as through US aid programmes such as the Truman Doctrine and the Marshall Plan. This in turn created more vibrant overseas markets for US corporations to tap in to. Before long, over half of the world’s international money transactions were dollar denominated, establishing it as the de facto global reserve currency.
However, by the late 1960’s, the system was in danger of collapse. The ability of the US to underwrite its military spending was predicated upon a world market without competition. The emergence of Germany and Japan as economic rivals, coupled with the spiralling inflation associated with the cost of persecuting the Vietnam War, upset the balance and led the US into a period of relative economic decline.
Dollar-holding countries, worried that the value of the US currency would plummet, began exchanging their reserves for gold. In August 1971, with dollars flooding back into the US and its gold supply greatly diminished, President Richard Nixon abandoned the gold standard, allowing market forces to determine the dollar’s floating value. Without firm backing, the dollar became volatile and inflation soared higher, fuelled by an ever-increasing wartime debt. At this point, the US looked for other ways of encouraging the rest of the world to accept dollars and then hold on to them.
The answer came in the form of ‘petrodollar recycling’. In 1974, through his close relationship with their royal family, US Secretary of State Henry Kissinger persuaded Saudi Arabia to price its oil exports exclusively in US dollars. Thereafter, any nation wanting to purchase oil was required to pay for it in dollars. But since Saudi Arabia and other OPEC nations could earn more from oil exports than they could invest in their own economies, they bought US Treasury bonds and deposited their surplus dollars in US banks where it was held as reserve currency. These banks then lent the money on to other countries through the dollar-denominated IMF, and they in turn used much of it to buy oil.
The effect of this ‘recycling’ is that oil-purchasing countries are required to hold considerable dollar reserves and sustain a trade surplus in order to do so. Conversely, the US can afford to run an enormous trade deficit on the back of its dollar exports. In simplistic terms, the US gets its oil for free. For example the US buys goods valued at $1 from Japan. Japan buys $1 of oil from Saudi Arabia. Saudi Arabia buys a $1 debt instrument from the US. The US can now recycle that $1 to buy oil. Meantime, when Japan has more goods to sell, the US simply 'creates' more dollars. In practice, the US only pays the amounts required to both service the debt and ‘create’ the dollars.
But such an arrangement can only continue for so long as the petrodollar’s hegemonic status remains unchallenged. Saddam Hussein’s decision to switch the unit of accounting for all Iraqi oil transactions to the petroeuro in 2000 amounted to just such a challenge. Some argue it was one of the key factors behind the American-led invasion of Iraq in 2003, following which, the policy was quickly reversed. However, a number of other countries have since openly explored the possibility of a switch, including Libya, Venezuela, Saudi Arabia and, perhaps most notably in the context of recent events, Iran (see also Part Five: Peak Oil and The Shanghai Cooperation Organisation).
You can read more about Iranian plans to switch to the petroeuro in William Clark’s essay, Iran’s New Oil Trade System Challenges U.S. Currency.
This, the second in a five part series, originally appeared here - THE ALL-SEEING i
~~~~~
If the McCollum Memo set out the means by which America would be drawn into World War II, the Bretton Woods Agreement and its precursor, The Atlantic Charter, set out the motivation.
When World War II broke out, President Franklin D Roosevelt’s interventionist stance was in marked contrast to the isolationist sentiment held by a great many Americans. Whilst they feared a repeat of the sacrifices made during World War I, he feared that, if allowed to succeed in Europe, the Axis powers would “be in a position to bring enormous military and naval resources against [the Western] hemisphere.” But he also recognised that intervention would leave the US in a position to exploit an economically exhausted post-war Europe – one that would ultimately be forced to abandon the protectionist measures that had hitherto frustrated US access to the global marketplace. With that in mind, and although somewhat politically constrained, he began to look for ways to support the Allied effort.
“Entrepreneurs are simply those who understand that there is little difference between obstacle and opportunity and are able to turn both to their advantage.” – Niccolo Machiavelli
By mid-1940, Germany had overrun France and the Low Countries. A resource-depleted Britain stood alone and vulnerable. On September 2nd 1940, and in defiance of the Neutrality Acts, the US agreed to transfer fifty destroyers to the British Royal Navy under the terms of The Destroyers for Bases Agreement. In exchange, the US was granted the lease of land on various British possessions, “freely and without consideration”, for the “establishment and use of naval and air bases and facilities for entrance thereto and the operation and protection thereof.”
Sensing that America’s isolationist resolve was waning, Roosevelt used his Great Arsenal of Democracy fireside speech of December 29th 1940 to argue that there was “far less chance of the United States getting into war if we do all we can now to support the nations defending themselves against attack by the Axis.” He continued this theme in his State of the Union Address (also known as the Four Freedoms speech) on January 6th 1941 “t no previous time has American security been as seriously threatened from without as it is today,” he declared, before insisting that US “policy should be devoted primarily - almost exclusively - to meeting this foreign peril.”
His perseverance paid dividends. On March 11th 1941, in a move that would prove critical to the Allies’ eventual success, Congress passed the Lend-Lease Act . This Act entitled the President to authorise the “manufacture [of defense articles] in arsenals, factories, and shipyards, [and] sell, transfer title to, exchange, lease [or] lend” them to “the government of any country whose defense the President deems vital to the defense of the United States.” Although primarily intended to help Britain, Lend-Lease appropriations totalling around $50 billion were eventually extended to more than 40 nations by the end of the war.
Almost immediately, those responsible for administering the Lend-Lease program sought to clarify the “extent to which [their] Government intends to commit itself with reference to the defeat of the Axis powers.” On July 9th, 1941, Roosevelt made his position clear by asking both the Secretary of War and the Secretary of Navy to either in person, or through appointed representatives, explore “the overall production requirements required to defeat our potential enemies.” Preparation of the so-called ‘Victory Program’ was well under way by the time Roosevelt sat down with British Prime Minister, Winston Churchill, at the Atlantic Conference to discuss the Anglo-American alliance.
“To do it full justice, one must describe the arrangement itself as an instrument of American domination.” – Daniel Singer, author of Whose Millennium, Theirs or ours?
On August 14th, Roosevelt and Churchill issued a joint statement setting out their vision for a post-war Europe. As well as seeking to establish ‘a wider and permanent system of general security’, the Atlantic Charter also contained measures aimed at tearing down the barriers to free trade. It called for ‘all States, great or small, victor or vanquished’, to be granted…
access, on equal terms, to the trade and to the raw materials of the world which are needed for their economic prosperity;
…to bring about the fullest collaboration between all nations in the economic field with the objector securing, for all, improved labor standards, economic advancement and social security;
…[to] enable all men to traverse the high seas and oceans without hindrance;
Nearly three years later, and with the war drawing to a close, these free trade principles took a broader and more substantive form under the terms of the Bretton Woods Agreement. US policymakers understood that their own strong economy, which was based on a sustained period of uninterrupted military spending, must be used to drive global economic growth and prosperity in the post-war era. Without a market for exported goods, the US economy itself would be vulnerable. As Daniel Singer explains…
[o]n paper the draftsmen set up a multilateral, international institution to deal with the financial problems of the world. At its heart was the International Monetary Fund (IMF), which was to authorize the very exceptional adjustments in the fixed rates of exchange, but also to act as a supplier of liquidity. (Gradually it became a lender of last resort.) It was to fulfill this function thanks to a fund filled by members’ contributions according to a complex mechanism of quotas, determined by the given country’s economic strength, which also signaled the amount of money that country could borrow. To show accurately the crucial role of the United States, it is not enough to point out that the American quota in the IMF, by far the biggest, prevented any decision from being taken without Washington’s consent or even to stress that the new monetary arrangement was in fact a gold-dollar exchange standard, since all currencies were linked to the dollar valued at $35 per ounce of gold. To do it full justice, one must describe the arrangement itself as an instrument of American domination.
Thus the US exerted its predominance and Europe had little option but to acquiesce.
Initially, the Bretton Woods system worked well, with America’s economic strength providing a stable foundation upon which the world could emerge from the post-war doldrums. Dollars flowed out into the world economy through the institutions established under the agreement, as well as through US aid programmes such as the Truman Doctrine and the Marshall Plan. This in turn created more vibrant overseas markets for US corporations to tap in to. Before long, over half of the world’s international money transactions were dollar denominated, establishing it as the de facto global reserve currency.
However, by the late 1960’s, the system was in danger of collapse. The ability of the US to underwrite its military spending was predicated upon a world market without competition. The emergence of Germany and Japan as economic rivals, coupled with the spiralling inflation associated with the cost of persecuting the Vietnam War, upset the balance and led the US into a period of relative economic decline.
Dollar-holding countries, worried that the value of the US currency would plummet, began exchanging their reserves for gold. In August 1971, with dollars flooding back into the US and its gold supply greatly diminished, President Richard Nixon abandoned the gold standard, allowing market forces to determine the dollar’s floating value. Without firm backing, the dollar became volatile and inflation soared higher, fuelled by an ever-increasing wartime debt. At this point, the US looked for other ways of encouraging the rest of the world to accept dollars and then hold on to them.
The answer came in the form of ‘petrodollar recycling’. In 1974, through his close relationship with their royal family, US Secretary of State Henry Kissinger persuaded Saudi Arabia to price its oil exports exclusively in US dollars. Thereafter, any nation wanting to purchase oil was required to pay for it in dollars. But since Saudi Arabia and other OPEC nations could earn more from oil exports than they could invest in their own economies, they bought US Treasury bonds and deposited their surplus dollars in US banks where it was held as reserve currency. These banks then lent the money on to other countries through the dollar-denominated IMF, and they in turn used much of it to buy oil.
The effect of this ‘recycling’ is that oil-purchasing countries are required to hold considerable dollar reserves and sustain a trade surplus in order to do so. Conversely, the US can afford to run an enormous trade deficit on the back of its dollar exports. In simplistic terms, the US gets its oil for free. For example the US buys goods valued at $1 from Japan. Japan buys $1 of oil from Saudi Arabia. Saudi Arabia buys a $1 debt instrument from the US. The US can now recycle that $1 to buy oil. Meantime, when Japan has more goods to sell, the US simply 'creates' more dollars. In practice, the US only pays the amounts required to both service the debt and ‘create’ the dollars.
But such an arrangement can only continue for so long as the petrodollar’s hegemonic status remains unchallenged. Saddam Hussein’s decision to switch the unit of accounting for all Iraqi oil transactions to the petroeuro in 2000 amounted to just such a challenge. Some argue it was one of the key factors behind the American-led invasion of Iraq in 2003, following which, the policy was quickly reversed. However, a number of other countries have since openly explored the possibility of a switch, including Libya, Venezuela, Saudi Arabia and, perhaps most notably in the context of recent events, Iran (see also Part Five: Peak Oil and The Shanghai Cooperation Organisation).
You can read more about Iranian plans to switch to the petroeuro in William Clark’s essay, Iran’s New Oil Trade System Challenges U.S. Currency.
