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Covid-19 and the oil market crash spell the end for US hegemony and the petrodollar

April 21, 2020 at 3:34 pm

An oil derrick pumps crude from the ground near on April 20, 2020 [Dave Creaney/Anadolu Agency]

The combined impact of the oil war between Russia and Saudi Arabia and the fall in demand for crude oil during the coronavirus pandemic has led to the collapse of the oil market. Prices have plunged down to unchartered territory, from $18 a barrel to as little as minus $40 a barrel according to the US oil benchmark, West Texas Intermediate (WTI). Oil prices have never been in the negative, but although they bounced back above zero today, it is unlikely that the market will recover any time soon.

This has left hundreds of US oil producers who invested heavily in the shale oil industry on the verge of bankruptcy; the world is flooded with oil but there is not enough demand or even storage space. This has left oil traders having to pay people to take oil off their hands.

With the highest number of Covid-19 cases and deaths already, the US has taken an uncharacteristic back seat in global leadership during this crisis. Its superpower status is now exposed, with China stepping up to fill the void dealing with the outbreak in Europe and the Middle East. The unexpected oil market crash could be the final nail in the coffin of US hegemony, ushering in the end of the petrodollar agreement between the US and Saudi Arabia. Perhaps to maintain the delusion of American grandeur, US President Donald Trump tweeted “USA STRONG!” earlier this month.

READ: Trump may block Saudi oil imports to save US market

The US-Saudi agreement dates back to the 1970s following the end of the Bretton Woods gold standard, which saw pegged exchange rates and gold-backed currencies, ironically at a time of US ascendency in the new economic order after World War Two. When it became apparent that the slow growth of global supply impeded government spending and inflation at a time of the Vietnam War and a persistent balance of payments debt, the then US President Richard Nixon shocked the world by ending the gold standard. Under that new agreement with the Saudis, oil could only be purchased using US dollars, in exchange for US protection and military equipment.

The oil price war between Saudi Arabia and Russia was thought to have culminated last week with both countries and other OPEC+ members agreeing to cut oil production, following pressure from Trump, who feared the impact it would have on the US economy. Although the agreement to cut output by 10 million barrels a day is scheduled to come into effect from next month, it could happen much sooner in light of the current situation. Nevertheless, it is clear that some of the countries affected, including Saudi Arabia, have left it late to diversify their oil-based economies.

Last month, Russia Today’s Max Kesier predicted that the US shale market will bear the brunt of the oil war, with Russia, not Saudi, coming out on top geopolitically. Oil is cheaper to extract in Russia than in the US, and Moscow has less debt to worry about than the Saudis.

READ: Saudi company expects government debt to reach $228 billion

According to Keiser, the impact of the oil war “will be a complete evisceration of the American shale industry. It’s going to need a massive bail-out, a massive money printing.” The US dollar is going “to suffer greatly” marking the beginning of the end for the greenback as the strongest and most-trusted global currency. Of course, any negative impact on the US economy will have ripple effects for others, including oil-producing nations heavily reliant on the commodity.

A new war in the Middle East could be on the horizon, with tensions in the Gulf over Iran. The last time that a Gulf State — Kuwait — produced more than its oil it decimated Iraq’s war-torn economy and led to the Gulf War. Any move to ditch the dollar as the world’s currency will not happen without a fight from Washington.

It could may well be that the agreement between the US and Saudi Arabia is all but finished; indeed the Saudis threatened to ditch the dollar for oil deals last year, although the last two countries in the region to do so faced NATO-led wars as a result. Libya’s Muammar Gaddafi wanted to cease trading in US dollars and use a gold-backed dinar instead, while Iraq’s Saddam Hussein insisted on dumping the dollar and switched to Euros back in 2000. Saudi Arabia is thus playing a dangerous game and, unlike Russia, it has no nuclear deterrent of its own and has sub-contracted its defence entirely to America.

It is interesting that the US is now in a similar predicament to Iran and Venezuela who have been on the receiving end of US economic terrorism. Faced with obstacles when trying to sell their natural resources, they both trade in their own currencies. Tragically though, despite the trillions that the US has spent on wars in the Middle East in order to keep control of the world’s energy market and maintain the dollar’s supremacy, it has now become worthless, which is a huge insult to the millions of lives lost in the process. The end of the petrodollar will signify the end of an era of US hegemony, but who will step up to replace it? That’s a very big question.

READ: UAE borrows $7bn to counter slumping oil prices

The views expressed in this article belong to the author and do not necessarily reflect the editorial policy of Middle East Monitor.