The war to save the US dollar
Dr Gavin R. Putland (First released March 26, 2003; revised April 15, 2003.)

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The Americans could live with Saddam until he started selling oil for euros instead of US dollars. Then the Europeans could live with him.

THE MIGHTY DOLLAR
The USA emerged from World War II as the world's biggest national economy and the only great power whose industrial base was not damaged by the war. America's huge productive capacity made the US dollar the easiest currency to spend in the global market and consequently the most acceptable foreign currency outside the USA. By the late 1950s, however, the recovery of Europe and Japan caused a suspicion that there were too many dollars in circulation. Central bankers began to exchange their dollars for gold under the terms of the 1944 Bretton Woods treaty, whereby the currencies of participating countries were backed by gold. In 1971, in response to the depletion of US gold reserves, President Richard Nixon announced that the dollar would no longer be redeemable for gold. So the system of fixed exchange rates via gold-backing fell apart. Everyone thought that the dollar would decline in value as traders relied less on the dollar and more on the emerging European and Asian currencies. But support for the dollar came from an unlikely quarter.

BLACK GOLD
In 1973, the Organization of Petroleum Exporting Countries (OPEC) quadrupled the price of oil but continued to accept only US dollars in payment, so that demand for dollars soared. From then on, the dollar was effectively backed by oil instead of gold -- and the US government didn't even have to own the oil!

Because dollars can buy oil, exporters in countries that need to import oil -- i.e. most developed countries -- will accept dollars for their exports. Hence everyone who needs to buy from those exporters will accept dollars as payment for other things, and so on. To pay their bills, importers must have reserves of dollars. To prop up their currencies against speculative attacks, the central banks of all countries must have reserves of dollars. To get capital, poor countries must borrow dollars, and to service these debts they must export goods to obtain more dollars. About 2/3 of all currency reserves, more than 4/5 of all currency transactions, more than half of the world's exports, and all loans from the International Monetary Fund (IMF) are denominated in dollars. As these things create demand for the dollar and shore up its value, oil exporters are the more willing to accept payment in dollars. So the process is self-reinforcing; it's called 'dollar hegemony'.

In the late 1970s, falling oil prices reduced demand for the dollar while mounting third-world debt reduced confidence in dollar-denominated deposits. The US Federal Reserve defended the dollar by raising interest rates to record levels. Heavily indebted poor countries are still paying for that episode. But the second oil-price shock (1979-80) restored demand for the dollar.

So America can export dollars, which cost nothing to produce, and receive real goods and services in return. When those dollars eventually find their way into foreign reserves, they can only be invested in American assets. This creates a demand for US treasury bills without high interest rates, and props up the US property market and stock market -- to the benefit of current owners of property and stock, and to the detriment of those full-time workers who live in caravans ('trailers') on the fringes of American cities because they do not 'earn' enough to rent or buy a home. Ordinary home owners may think they benefit from rising land prices; but in fact, every time an owner moves to a new home, the higher sale price of the old home is offset by the higher purchase price of the new one. The real winners are the big investors.

But the continuous inflow of foreign investment (on the 'capital account') is needed to balance America's mammoth trade deficit (on the 'current account'). America's imports now exceed its exports by almost 50%, or 5% of GDP. Its net foreign debt is more than a quarter of annual GDP, and its public debt is about 60% of annual GDP.

If oil exporters were to abandon the dollar for some other currency, the whole process would slam into reverse. Central banks and other traders would sell down their dollar reserves, causing the value of the dollar to plummet (and devaluing the debts of poor countries at the expense of their creditors). Interest rates would rise to maintain the demand for US treasury bills. The US property market would deflate (and poor Americans could more easily afford a home, at the expense of current property owners). The US stock market, being more volatile than the property market, would fall faster. Some investors who have bought American property and stocks with borrowed money would declare themselves bankrupt, causing some American banks to fail under the weight of bad debts. The newly liberated dollars could only be spent on American goods and services, which would begin to flow out of the country (reducing average living standards), while the glut of dollars chasing these same goods and services would fuel domestic inflation. As the flow of foreign investment dried up, America could no longer run a trade deficit, but would have to export real goods and services to pay for its imports and to service its massive foreign debt and to accumulate reserves of the new global currency -- whatever that currency might be...

EUROPE STRIKES BACK
In 1999, eleven member states of the European Union (EU) adopted the euro as a common accounting currency. Greece joined the Eurozone a year later. On 1 January 2002, the twelve countries withdrew their old money from circulation, completing the biggest currency reform in history.

The Eurozone already has a bigger share of world trade than the USA. In particular, it imports more oil than the USA and is the main trading partner of the Middle East. It offers higher interest rates than the USA, but does not have a huge foreign debt or trade deficit. Member states must accept tight constraints on budget deficits, and the European Central Bank has an exceptionally strong mandate to preserve the purchasing power of its currency. These things inspire confidence in the euro. In 2002, the central banks of Russia, China, Taiwan and Canada converted some of their reserves from dollars to euros. The strength of the euro also encourages expansion of the EU and puts pressure on current members Denmark, Sweden and the UK to join the Eurozone. In December 2002, ten new countries were accepted for EU membership with effect from May 2004. This will create a common market of 450 million people, which will buy more than half of OPEC's oil.

In summary, the only argument for preferring dollars to euros is that dollars can buy oil. As that argument does not affect OPEC, it would make sense for OPEC to convert most of its reserves to euros by mid 2004. If OPEC were then to price its oil in euros, it would increase demand for the euro, causing a handsome increase in the value of its new euro reserves. Similar arguments apply to non-OPEC oil exporters such as Norway and Russia.

ROGUE STATES
The first OPEC member to show serious disloyalty to the dollar was Iran, which has expressed interest in the euro since 1999. In January 2002, George W Bush named Iran in
his 'axis of evil', provoking a wave of anti-American demonstrations reminiscent of the Khomeini era, and undoubtedly setting back the political and religious liberalization of that country. Undeterred, Iran converted most of its currency reserves to euros during 2002, and a proposal to price Iran's oil in euros has been submitted to the central bank and the parliament.

Let us see whether the Americans find an excuse to destabilize Iran's toddling democracy in favor of a dictatorship that just happens to prefer dollars to euros.

The second offender was Venezuela. In 2000, Venezuela's elected President Hugo Chavez convened a conference on the future of fossil fuels and renewable energy. The report of
the conference, delivered by Chavez to the OPEC summit in September 2000, recommended that OPEC set up a computerized barter system so that members could trade oil for goods and services without the use of dollars or any other currency. The chief beneficiaries would be OPEC's poorer customers, who did not have large currency reserves. Chavez made 13 barter deals. In one of them, Cuba provided health services in Venezuelan villages.

In April 2002 there was a coup against Chavez. The coup was welcomed by the Bush administration and by editorials in numerous American newspapers, but collapsed after two
days, leaving evidence that the US administration was behind it [1].

The third and most blatant offender was Iraq. In October 2000, Saddam decreed that Iraqi oil would be sold for euros instead of dollars, with effect from November 6. Soon afterwards, Saddam converted Iraq's entire $10 billion 'oil for food' reserve fund from dollars to euros. These events went unreported in the US media.

Given America's record of toppling elected governments whose policies it didn't like (as in Chile, Nicaragua, and almost Venezuela), it is hard to believe that the motives of Operation Iraqi Freedom were as pure as its name suggested, especially considering how cheap 'freedom' has become in US domestic politics [see the Appendix]. The test of America's sincerity will be whether the new regime continues to sell Iraqi oil for euros.

Having occupied Iraq, America then stepped up its rhetoric against neighboring Syria. Coincidentally, Syria would like to sell oil for euros because most of its imports are purchased with euros.

REFERENCES
[1] See href='http://www.fair.org/press-releases/venezuela-editorials.html
http://www.observer.co.uk/international/story/0,6903,688071,00.html .

For the sources of the oil-currency-war theory, see
http://ist-socrates.berkeley.edu/~pdscott/iraq.html
http://www.ratical.org/ratville/CAH/RRiraqWar.html
http://www.commondreams.org/views03/0215-05.htm and
http://www.feasta.org/documents/papers/oil1.htm plus the
links on that page.
On the fortunes of the US dollar,
see http://www.npq.org/archive/1987_fall/adventures.html

On the causes and effects of overpriced real estate, see
http://www.users.bigpond.com/putland/menz.htm

For more reflections on the economic significance of natural resources, see
http://www.prosper.org.au and
http://www.earthsharing.org.au .


APPENDIX: THE PRICE OF FREEDOM IN AMERICA
Over 100 death-row prisoners in the USA have been found to be innocent since 1973. If we add non-death-row prisoners found innocent after serving years in prison, the number rises to over 200. More than two thirds of these people got NO COMPENSATION. Not even reimbursement of legal costs. Not even back-pay at standard rates for the work they had to do in prison.

Only 15 of the 50 American States have laws providing compensation for wrongful imprisonment. In 13 of those States the compensation is capped, and the limit is
invariably less than what a film star would expect to receive for a defamatory media report. In the other 35 States the legislature can pay compensation if it wants to, which it usually doesn't. The Federal jurisdiction has a compensation scheme under which the maximum payout is $5000 (yes, five thousand dollars).

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� Gavin Richard Putland, March-April 2003.
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