In a significant geopolitical shift, Saudi Arabia has decided to terminate its 50-year-old petrodollar agreement with the United States. According to media reports, the deal, signed on June 8, 1974, expired on June 9 and the Middle East country has now decided not to renew it.

It marks a historic turn in the economic and diplomatic relations between the two nations, which have long been anchored by their oil-for-dollars pact.

The term ‘petrodollar’ denotes the use of the US dollar as the currency for global crude oil transactions. The petrodollar system came about in the aftermath of the US going off the gold standard.

What is the Latest Issue?

Saudi Arabia has decided not to renew its long-standing agreement with the United States, under which the Kingdom would sell its oil exclusively in US dollars. This arrangement, known as the petrodollar system, has been a cornerstone of the global oil market and the US dollar’s dominance in international trade. The deal set up joint commissions for economic cooperation and Saudi Arabia’s military needs.

What Was the Deal and When Was It Signed?

The petrodollar system was established following an agreement on June 8, 1974, during a series of negotiations between the US government, led by President Richard Nixon and Secretary of State Henry Kissinger, and the Saudi royal family.

The deal was simple: in exchange for guaranteeing the security of the Saudi regime and providing military aid, Saudi Arabia agreed to price its oil exports exclusively in US dollars. This agreement ensured a steady demand for the US dollar, as other countries needed dollars to purchase oil, effectively reinforcing the dollar’s status as the world’s primary reserve currency.

What Was The Significance of the Petrodollar Deal?

The petrodollar system has been significant for several reasons:

US Dollar Dominance: The agreement cemented the US dollar’s position as the world’s dominant currency, facilitating international trade and allowing the US to exert significant influence over the global financial system.

Economic Stability: The steady demand for the US dollar helped maintain its value and provided the US with the unique ability to run large trade deficits without facing immediate economic repercussions.

Geopolitical Influence: The deal secured a strategic alliance between the US and Saudi Arabia, ensuring American influence in the Middle East, a region critical for its oil resources.

Financial Markets: The petrodollar recycling mechanism allowed oil-exporting countries to invest their surplus dollars in US assets, thereby supporting American financial markets and government debt.

Impact of Not Renewing the Deal

The decision by Saudi Arabia to end the petrodollar agreement is poised to have far-reaching consequences:

Global Currency Realignment: The end of the petrodollar system may lead to a decrease in global demand for the US dollar. Other currencies, such as the Euro, the Chinese Yuan, or even cryptocurrencies, could become more prominent in international trade, potentially diminishing the dollar’s hegemony. Saudi Arabia has become a participant in Project mBridge, a joint initiative aimed at developing a digital currency platform for use by central banks and commercial banks.

Volatility In Exchange Rates: A reduction in demand for the dollar could lead to greater volatility in exchange rates and financial markets. This might affect countries heavily reliant on dollar-denominated trade and debt.

US May Face Financial Challenges: The US may face challenges in financing its deficits and maintaining its economic dominance without the constant influx of petrodollars. This could result in higher interest rates and a reevaluation of fiscal policies.

Geopolitical Realignment: The termination of the deal could lead to a realignment of global alliances. Saudi Arabia might seek to strengthen ties with other major powers such as China or Russia, thereby altering the geopolitical landscape of the Middle East and beyond.

Oil Market Dynamics: Oil-exporting countries might start accepting multiple currencies for their oil, leading to a more diversified and potentially more complex oil market. This could impact global oil prices and trading practices.