Oil & Gas Summiteer

February 23, 2019

Petrodollar: Europe dares reserve currency dominance



By Sonny Atumah

China’s launch of the yuan-denominated oil contracts in March 2018 was to promote the Chinese yuan as a global reserve currency.



The yuan or renminbi, RMB integrating into the global financial system and trading in the Shanghai International Energy Exchange, INE, was to challenge the use of the United States dollar in international trade.

It came as President Donald Trump’s tariffs on China were developing ominously. Would the Chinese efforts to promote the renminbi as a global reserve currency achieve results? For a country’s currency to be in the SDR basket, it should be freely usable, and should have a large export base.

It is believed that only two percent of the yuan is used in global payments. Last week, European Union, EU finally joined the fray to challenge the dollar dominance in global trade. In a workshop convened by the European Commission in Brussels, it deliberated on plans to challenge the dollar’s dominance in global markets.

It sought to strengthen the international role of its currency, the euro, and making it become more independent from the United States, that is becoming an unpredictable ally.   The Chinese scenario plays out with Europe which today is at its wit’s end in oil and natural gas trading.

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The EU’s proposal to boost up the euro in settlements in international trade is encouraging the trade cooperation between the Eurozone and China to dump the dollar in the wake of the trade tensions with the United States. The commission plans to use the euro as the default currency and create euro-denominated price benchmarks for crude oil.

The European Union is the largest importer of energy in the world, with annual imports average of more than €300 billion (US$341 billion). Out of this amount, about 85 percent is paid in dollars. From draft documents deliberated in the February 14, Brussels meeting, a euro-denominated reference oil contract could be used as underlying asset for financial contracts such as derivatives that provide the necessary risk management tools for market participants.

Many believe that the EU had for long paid lip service to its preference to alternatives to the dollar in international trade. With the frosty relations that had developed between Washington and Brussels what hope for the euro?  The euro is the second global currency with a market share of just 20 percent after 20 years of its adoption in international trade. Struggle for a bolster within the single currency economic bloc has led to calls for reforms to strengthen the Euro zone that had been ridden in crisis.

In the midst of growing tensions between President Trump and European leaders in the zone, Germany and France may have become struts in what some refer to as the European Integration Project without the United Kingdom in the historic Brexit. Reports have it that the European Union, EU has launched an effort to increase the role of its single currency in international energy transactions, with a particular focus on buying and selling oil and natural gas in euro-denominated transactions.

It is not quite certain what the situation portends for the United States dollar if Europe moves away from the petrodollar as default currency, China promoting its petroyuan contracts, with Russia and Iran de-dollarising.  But an analyst believes that it would take another global agreement to replace the dollar with another currency. China that called for a replacement of the U.S. dollar as a global currency is one of the largest foreign holders of the dollar. China pegs its currency to influence the dollar.

The dollar clearing mechanism has been effectively controlled and monitored by the United States to remain the currency most used in the world. The mechanism controls all electronic bank transactions and goes after anyone that breaches the rules. Sixty percent of sovereign debt issuance and global foreign exchange reserves are in dollars.  In 2014, America fined French Bank, BNP Paribas US$9 billion for trading Iranian and Sudanese oil, with the bank agreeing a settlement under the threat of losing access to dollar clearing.

Fears of secondary sanctions have gripped European oil dealers over the United States decision to withdraw from the Iran Nuclear Deal. Oil companies have suspended purchases of Venezuelan crude due to fears of U.S. secondary sanctions.

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The United States is in control of the petrodollar. The petrodollar is any US dollar paid to oil-exporting countries in exchange for oil. It originated at the Bretton Woods conference in 1944. The dollar became the world’s reserve currency after World War II when America agreed to any US dollar for its value in gold if all other countries pegged their currencies to the dollar. America then held the world’s supply of gold.

In the wake of oil price increases in the early 1970s when America became a net importer of oil, with trade deficits, President Richard Nixon struck a deal with Saudi authorities. In the Joint Commission on Economic Cooperation they agreed to use American dollars for paying against oil contracts. The U.S. dollars is recycled back to America through contracts with the U.S. contractors.