Exploring the Options: Arab Oil Exporters and the US Dollar
The pricing of oil in US dollars is one of the perks the United States enjoys due to its status as the world’s largest economy and to the dollar’s role as the world’s reserve currency. Dollar-priced oil means that national oil companies get paid in dollars, which might then wind up in their countries’ central bank reserves—which often bolsters dollar-pegged currencies—or be plowed into dollar-denominated investments such as US Treasury bonds or stocks. Such widespread use of the dollar is great news for the United States.
These so-called “petrodollars” help finance American debt and consumption. They also help maintain the dollar’s value against rival currencies despite US economic behavior that might otherwise weaken it. More importantly, the petrodollar encourages oil exporters to be physically invested in American assets and retain a stake in the wellbeing of the US economy which, if it fails, can take down many players with it.
Recent rumors that Saudi Arabia was moving away from pricing oil in dollars created a storm on social media and beyond. One post on X (formerly Twitter) cited a mysterious “50-year-old petrodollar agreement” between the United States and Saudi Arabia which, the post claimed, had expired. “Saudi Arabia will now sell oil in multiple currencies, including the Chinese RMB, Euros, Yen, and Yuan, instead of exclusively in US dollars,” wrote BRICS News. The official-sounding tweet engendered some breathless and awkward responses, such as “Dude ……. the amount of chaos this will start very quickly.” Another said: “There it is… US dollar is over under the democrats.”
The downfall of the dollar as the currency of choice in the oil trading system would certainly be a momentous event.
The downfall of the dollar as the currency of choice in the oil trading system would certainly be a momentous event. Demand for the American currency on international exchanges would decline, devaluing it and triggering inflation in the United States and in countries with currencies pegged to it. Second-order impacts could be even more damaging. One can imagine foreign holders of American dollars and assets liquidating currency reserves or selling off dollar-denominated assets. Such a selloff, especially if it happened quickly, could cause serious financial harm inside the United States and far beyond. Some analysts think such a scenario could be triggered deliberately, as a form of economic warfare.
Indeed, the risks are real. But the rumored storm failed to make the leap into the mainstream media or to outlets in Saudi Arabia and other Arab oil exporters, because the claims about the petrodollar’s demise turned out to be inaccurate.
The Petrodollar’s Backstory
The pricing of oil in US dollars has been a fact of life since the end of World War II, when the dollar became the world’s reserve currency. The petrodollar trade dates back to the 1971 demise of fixed exchange rates using the gold standard. The loss of that standard was costly for oil exporters who saw export rents dropping alongside the dollar’s value. This decline was recently described as one of the precipitating causes of the 1973 Arab oil embargo that quadrupled the price of oil.
After the embargo, Saudi Arabia and other big exporters had little capacity to absorb the torrent of dollars that began to flow into their central banks. Furthermore, the early 1970s saw a huge shift in oil ownership and money flows. In 1970, western major oil companies owned 85 percent of global oil and gas reserves; by 1980 that share dropped to just 12 percent due to across-the-board nationalizations by Arab producers. The combination of higher oil prices and nationalization of foreign ownership sent the producers’ profits through the roof. Saudi Arabia, for example, underwent a 40-fold increase in oil export earnings—from $655 million in 1965 to nearly $27 billion in 1975.
Given the lack of spending and investment options at home, many oil exporters decided—with US cajoling—to put their dollars to work in the US financial system. The advantages were compelling: likelihood of strong returns, stable political institutions, high liquidity, convertibility, and vast financial expertise. These attributes are still present in the US system and arguably remain unmatched by any other capital market worldwide.
The so-called “recycling” of petrodollars was facilitated through the US-Saudi Arabian Joint Commission on Economic Cooperation. The agreement forming the commission was signed 50 years ago—in 1974—and appears to be the document referenced as the “petrodollar agreement” on social media. But that joint commission operated for a few decades and then fell apart long before 2024, according to a 1990 appraisal.
The Temptations of the “Petroyuan” and Other Challenges to the US Dollar
Recently, the rise of the Euro and Chinese yuan (or renminbi) have prompted Saudi Arabia and other exporters to look for ways to price oil in currencies other than the dollar, or at least accept other currencies for payment. Most Arab oil exports flow to Asian countries, after all, so there are compelling reasons to broaden payment options.
Visiting Riyadh in 2022, Chinese President Xi Jinping told leaders of Gulf oil exporters—including Saudi Arabia’s Crown Prince Mohammed bin Salman—that China was working to shift its oil purchases to yuan. Later, Xi invited Gulf exporters to settle their oil and gas trades in yuan by using the Shanghai Petroleum and National Gas Exchange. While the Saudis and most other US-aligned producers ultimately balked at accepting oil payments in alternate currencies, the attractions of doing so tend to gain traction during times of political tension with the United States. This was especially evident in the 2022-23 spat between the Biden administration and Saudi Arabia regarding the latter’s pivot to economic cooperation with increasingly-isolated Russia.
Elsewhere, oil’s de-dollarization has already started. Russia has switched from the dollar to the yuan for much of its $88 billion in commodities trade with China, due to US sanctions following the invasion of Ukraine. Iran has done the same due to US sanctions. Other governments are testing the waters. French oil company TotalEnergies sold China an LNG cargo in Yuan. The UAE accepted Indian rupees for a crude oil cargo. Pakistan has been paying for Russian oil with yuan. A JP Morgan banker estimated that one-fifth of the world’s oil was bought and sold in non-dollar currencies in 2023.
Saudi officials have already determined that it would be possible for Riyadh to diversify beyond the dollar, perhaps accepting a small amount of yuan for payment for some oil exports. At the 2023 World Economic Forum, Saudi Finance Minister Mohammed al-Jadaan said the kingdom was open to settling trades in non-dollar currencies.
But for now, it appears the risks outweigh the rewards. Mitigating the risk involved with accepting yuan as payment for oil deliveries would require that the amount of yuan received as payment would be no larger than the amount needed to finance Saudi imports from China. That way, Saudi imports could be purchased directly from China by spending the accrued “petroyuan” inside China. This cautious strategy would reduce the risk involved in dealing with Chinese capital controls and moving the less-convertible Chinese currency out of China.
The Case for Holding Firm
There remain strong reasons for Saudi Arabia and other US-aligned oil exporters to avoid accepting yuan for oil. The Saudi riyal—like most of the Gulf Arab currencies—is pegged to the dollar, which means selling oil in dollars is nearly the same as selling it in Saudi riyals. Further, managing the dollar peg to local currencies requires holding formidable stockpiles of US dollars at central banks, which may need to sell some of those dollars at times of weakness in the riyal, dirham, or dinar. Fortunately, pricing oil in dollars ensures a plentiful incoming flow of the US currency for these purposes. Saudi Arabia also manages large trade flows in US goods and services, including in US military hardware, which requires dollars. And the day-to-day financing, insuring, and transporting of oil is mostly done in dollars.
Finally, as Bloomberg’s Javier Blas argues, there are other risks. Beijing has at times sought to manipulate prices of commodities such as iron ore, cotton, coal, and grains when it viewed prices to be too high. If oil were denominated in yuan, the possibility arises that China could undermine OPEC’s power to administer oil prices. “Having spent 60 years building a formidable cartel, why would Middle East nations cede pricing power to China?” writes Blas.
A Murky Future for the Petrodollar?
But there are still reasons for oil exporting states to explore some diversification beyond the dollar. Perhaps the strongest argument in favor of some de-dollarization is the American ability—now becoming a propensity—to impose ‘extraterritorial’ or secondary sanctions on trade and other activity that does not affect the United States. These tendencies reached a peak under the Trump administration, where the dollar was weaponized in an attempt to block the Nord Stream 2 natural gas pipeline between Russia and Germany, and various trade between Europe and Iran, Venezuela, and Cuba.
While the United States was not a party to any of the sanctioned trade initiatives, Washington was still able to undermine them due to prevailing dependence on the dollar and the US banking system in global commerce. Imposing coercive “secondary sanctions” essentially forces foreign firms to forgo access to the US market if they choose to do business with sanctioned entities. Few firms or governments are willing to take that risk if it means they lose access to the US financial system.
Oil’s de-dollarization has already started with Russia and Iran switching from the dollar to the yuan due to US sanctions.
The hazards of US sanctions have already pushed Russia away from the dollar. Now, China is shifting in the same direction. Even for US-allied blocs such as the European Union, there are growing rationales to switch currencies when trading with strategic competitors of the United States, such as China. The EU and China both face the prospect that a future US government might impose extraterritorial sanctions on their trade. Therefore, both stand to benefit from preparing an alternate trade-clearing architecture outside the dollar—although such an arrangement would not necessarily prevent US sanctions from being levied on firms involved in trade that runs afoul of Washington.
Caution is Warranted
So, while the US dollar network is vast and deep enough to remain the primary conduit for global trade, the dollar’s status is not guaranteed. The United States’ growing protectionism, its political dysfunction which bleeds into economic policy and institutional integrity, along with overuse of sanctions, all provide incentives for countries to consider an alternate trading system in another currency.
While dumping the dollar is not prudent for now, pressures to re-think total dependence are growing. It might not be the attractions of an alternate currency that convinces Arab oil exporters to look beyond the greenback. Rather, the impetus might more likely arise from risks inherent in polarized US domestic politics, including the possibility of politicization of US financial institutions, the effects of trade protections, or further rounds of dollar-weaponizing sanctions.
Kuwait took a small step toward diversification in 2007 when the Central Bank of Kuwait repegged the Kuwaiti dinar away from the dollar to an undisclosed but dollar-dominated basket of currencies. The UAE’s recent willingness to accept alternate currencies for its exports is another tentative step in this direction. In thinking through the preparations for future hazards involving the dollar, Arab governments may find it prudent to look at additional options, which means developing the capacity to accept payments and maintain reserves in other currencies.
The views expressed in this publication are the author’s own and do not necessarily reflect the position of Arab Center Washington DC, its staff, or its Board of Directors.