The Ultimate Pivot: Saudi Betrayal of the Petrodollar

Saudi Arabia has gone nuclear, threatening the petrodollar. Or has it?

The report from Zerohedge via Reuters that Saudi Arabia is angry with the U.S. for considering a bill exposing OPEC to U.S. antitrust law is a trial balloon.

The chances of the U.S. bill known as NOPEC coming into force are slim and Saudi Arabia would be unlikely to follow through, but the fact Riyadh is considering such a drastic step is a sign of the kingdom’s annoyance about potential U.S. legal challenges to OPEC.

If these things are so unlikely then why make the threat public? There are a number of reasons.

First, one must remember that the Saudis are hemorrhaging money. Their primary budget deficit in 2018 was around 7% of GDP. Since the 2014 crash in oil prices it has gone from almost zero sovereign debt to $180 billion in debt to finance its spending, or around 22% of GDP.

2019’s budget will be even bigger as it tries to deficit spend its way to growth. It’s needs for a higher oil price are built into their primary budget not their production costs, which are some of the lowest in the world.

Second, the Saudis finally opened up the books on Saudi-Aramco this week. And it revealed the giant is far more profitable than thought. It has is eye on acquiring stakes in some of the biggest oil and gas projects out there these past couple of years. It’s floating its first public bond to buy a stake in SABIC to get into the mid and downstream petroleum markets.

Third, the Saudis budget deficit is tied directly to its having pegged the Riyal to the U.S. dollar which leaves them at the mercy of the dollar price of oil. It doesn’t have the flexibility of Russia who free-floated the ruble back in late 2014 to pay local expenses in devalued local currency when oil prices drop.

This is why the Saudis are struggling financially and why Aramco is looking to use its financial might to finally begin making friends and influencing people around the world.

So, a threat to de-couple Saudi oil sales from the dollar is a threat a long time coming. I’ve been talking about this day since I started this blog and for years previous when I wrote for Newsmax.

The petrodollar still forms the backbone of how the U.S. dollar maintains its reserve currency status. That a vast majority of the oil trade is still settled in dollars creates a synthetic form of demand for U.S. debt, which, in turn, liquefies world trade.

The Saudis need budgetary flexibility to assist Crown Prince Mohammed bin Salman’s Vision 2030 plan to remake the Saudi economy a reality. Deficit spending and gutting the country’s balance sheet is not the path to sustainable prosperity.

But since l’affair Kashoggi last fall relations between the U.S. and Saudi Arabia have been deteriorating. The division between a now-hostile U.S. legislature and a deal-making Trump is intensifying.

Congress is forcing President Trump to veto their bill to end U.S. support for the Saudis war in Yemen, another bin Salman tragedy. At the same time, Saudi Arabia is a key part of Trump’s plans to secure peace for Israel (sold as his Deal of the Century to be unveiled on Israeli Independence Day no less).

So Trump needs the Saudis to stay on board with the plan. But the tensions are rising because the Saudis can see how the political and economic winds are shifting. Trump has been running roughshod over the Saudis, shaking them down for weapon sales while trying to take oil market share from them.

About the only area they agree on anymore is their hatred for Iran, which is driven by Trump’s arch-neocon/Israeli Firster cabinet. The Saudis are in an increasingly untenable position and can’t get any relief from either the U.S. or Russia.

So, the conventional wisdom, expressed by the Saudis, is that the U.S. needs the petrodollar to maintain its position of world power. Trump is trying to do just that not by enforcing compliance on the Saudis but by increasing our domestic exports while restricting supply from marginal producers like Libya, Venezuela, Iraq and Iran.

That would give Trump the leverage he needs to confront China, a massive energy importer. But China is also a major Saudi customer and that’s where this threat gets interesting.

China is the one pushing the Saudis to accept yuan for their oil. De-pegging the riyal is the only way they could do that and still manage their foreign exchange reserves.

At the same time, though, Trump wants a weaker dollar because he needs that to fund his gross fiscal debauchery to spend our grandchildren into debtor’s prison.

He even went so far as to instruct the Fed to stop QT, drop rates and even do more QE because the ‘economy is so strong.’ He’s become a cartoon of himself at this point. He needs the Fed to end QT so he can sell more than a trillion of new debt at low rates into the market to fund his insane budget.

And this lends credence to the theory that Trump is actually trying to end the dollar’s reserve currency status. But, like I just said, if he were interested in that he wouldn’t be running the biggest deficit in the country’s history, he would be cutting spending overall.

The situation is beyond complicated but it boils down to the simplest of things. That which is unsustainable will end. The petrodollar is one of those things. It will be torn apart by Saudi spending needs, China’s willingness to buy oil from everyone else, including the U.S., and the waning U.S. influence in the Middle East.

If not today or next week, than in the near future. The question is whether the U.S. is prepared for it or not. Right now the dollar is king. A decade of ZIRP has created a massive synthetic short position in the dollar in the form of emerging market corporate and real estate debt.

But after that? And after that synthetic short pushes the dollar much higher and the price of oil into the floor? That’s when things get truly interesting. For now, the Saudis are making noise. With oil trading in the $60s no one is losing too much money or market share too quickly.

And so the status quo will prevail, for now.


4 thoughts on “The Ultimate Pivot: Saudi Betrayal of the Petrodollar

  1. The waning US influence in the Middle East is probably proportional to the waning oil supply in the Middle East.

  2. More like the US government is pissing the rest of the world off and they want to get out from under dollar to escape the madness.

    • Peace for Israel may entail war on others…. I don’t think those things are incompatible. However, I also feel actual war is a low probability, though the idiots in the White House are raising the odds of a mistake creating a hot conflict.

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