Did US-Saudi petrodollar pact really come to an end?

Recently, it was reported that a petrodollar agreement between the United States and Saudi Arabia has expired, and it was reported that the Gulf nation has decided against renewing the deal which expired earlier on June 03, 2024.

The supposed 50-year-old agreement apparently acted as a catalyst in shaping the global energy market and influencing international relations. It was also an important cornerstone in the Washington-Riyadh bilateral relations, since two oil-heavy countries decided on pricing and trading oil in US dollars.

Writing to the Atlantic Council, Hung Tran highlights that the US dollar’s run as the global reserve currency may be looking at a culmination as countries from the BRICS group, the Middle East, and Asia increase their usage of local currencies for cross-border payments.

However, the news of the said longstanding petrodollar agreement between the two countries expiring, has since been debunked with several credible news agencies reporting such an agreement never existed in the first place.

So, then what was agreed between the US and Saudi Arabia, 50 years back?

On June 09, 1974, writing to The New York Times, Bernard Gwertzman had highlighted the agreement between the United States and Saudi Arabia signed a wide-ranging military and economic agreement that both said “heralded an era of increasingly close cooperation”.

In his article, Gwertzman went on to highlight that with this was the “first such arrangement between the United States and an Arab country”, the new accord hoped to provide Saudi Arabia with “incentives to increase her oil production” and a “model for economic cooperation” between the US and Saudi Arabia.

The said agreement was signed between the then US Secretary of State Henry A. Kissinger and Prince Fahd Ibn Abdel Aziz, who was the then Saudi Arabian Second Deputy Prime Minister and Minister of Interior during King Faisal bin Abdulaziz Al Saud’s presidency.

Regarding the agreement, Prince Fahd was quoted saying the agreement was “an excellent opening in a new and glorious chapter in relations between Saudi Arabia and the United States”.

Ahead of his tour of the Middle East alongside then US President Richard Nixon, Kissinger had said the agreement was a milestone for the US.

A year before the said agreement was signed, Fahd was made the head of the Supreme Council on Petroleum in March 1973.

In his article, Gwertzman continued that the said US-Saudi Arabia agreement established two joint commissions, one on economic cooperation and the other on Saudi’s military needs. Besides this, four joint working groups were created to “prepare recommendations and plans for the economic commission” as well.

The first group was focused on the industrialization, which was set to meet on July 15, 1974 to “consider plans for Saudi Arabia’s economic development, paying special attention to the use of flared gas for expanding the production of fertilizer”. The second group was on manpower and education, a third on technology, and the fourth group to examine agricultural development proposals, in particular on desert agriculture.

On the morning of June 06, 1974 a meeting was held at the Oval Office between the then US President Nixon and Prince Fahd. Then US Secretary of State Kissinger and then Saudi Ambassador to the US, Ibrahim Al-Sowayel were also in attendance of the said meeting.

In said meeting, Prince Fahd said the Saudi Arabian policy was to maintain friendship with the people of the Gulf States, and noted the “occasional difficulty” that had risen from the “south and the north” adding that he believed “prevention represented the best approach and the best prescription was a strong Saudi Arabia”.

Fahd, in this regard went on to tell Nixon that “Saudi Arabia is not looking for conquest; she is looking for respect”.

These were the statements from the then Second Deputy Prime Minister of Saudi Arabia during his meeting with Nixon, which was held around the same time as the said 1974 US-Saudi agreement – which strongly hints the arrangement aimed to seek strengthening Saudi’s military strength more than anything else.

What led to this agreement in the first place?

Egypt attacked the Bar Lev Line in the Sinai Peninsula on October 06, 1973 after which Syria launched an offensive in the Golan Heights – both of which had been occupied by Israel during the 1967 Six-Day War.

Both Egypt and Syria suffered significant loss of equipment during much of their fighting, which prompted the Soviet Union to fly new equipment on October 12 of the same year. At this point, both Nixon and Kissinger had viewed the October War more in terms of the Cold War and surmised that the Soviet power play in the region required an “American answer”.

As such, Nixon authorized Operation Nickel Grass on October 12, 1973 to deliver weapons and supplies to Israel to replace the latter’s materiel losses. The offensive in the region continued.

On October 16, 1973, it was announced at an OPEC summit in Kuwait City that the price of oil would go from USD 3.01 per barrel to USD 5.12.

Following this, the Iraqi Oil Minister Sa’dun Hammadi demanded “total nationalization” of all assets of American oil companies in the Middle East and the withdrawal of all Arab funds from the USA. The decision was echoed by the Libyan Oil Minister Izz al-Din al-Mabruk, who had too, called for the nationalization of all assets of all Western oil companies in the Middle East.

Though Iraq and Libya had demanded for an embargo, Saudi maintained that forcing through an increase in the oil price was still the best weapon in their arsenal to influence the United States.

On October 17, Arab oil producers cut production by 5 percent and instituted an oil embargo against Israel’s allies – which included the US along with the Netherlands, and Portugal as well. From October 17 to 19 of the same year, Saudi Foreign Minister Omar Al Saqqaf visited Washington with the foreign ministers of Algeria, Kuwait and Morocco and warned of a real oil embargo possibility.

They had also met Nixon in the Oval Office, after which King Faisal of Saudi Arabia was informed of Washington’s intention for a “peaceful, just and honorable” settlement of the October War – meaning the battle was likely getting wrapped-up, more thanks to US intervention.

After Israel requested a USD 850 million worth of American arms on October 18, 1973, Nixon, who thought a bolder move on his administration’s part to heed the plea could help his government make amends for the Watergate scandal, approved for some USD 2.2 billion worth of arms to be sent to Israel.

Kissinger in retrospect, would go on to address the consequences of Nixon’s move, stating it was not the best decision at the time.

The arms lift had enraged King Faisal and retaliated two days later on October 20, by placing a total embargo on oil shipments to the United States – which was to be joined by all of the other oil-producing Arab countries with the exception of Iraq and Libya.

The embargo was accompanied by gradual monthly production cuts and by December 1973, production had been cut to 25 percent, sparking a global recession and increased tension between the United States and several of its European allies who blamed US had provoked the embargo.

While the embargo lasted from October 1973 to March 1974, Kissinger along with others in the Nixon administration had discussed possibilities of invading Saudi Arabia if the embargo was not lifted. Kissinger even publicly threatened Saudi Arabia of “countermeasures” to which Saudi responded with further oil cuts and burn their oil fields if US military invaded.

Kissinger gave up a potential war bid after the US Central Intelligence Agency (CIA) confirmed Saudi’s threats as real, and decided it was better to deal with Israel’s troop withdrawals and seek a more diplomatic approach.

Saudi Arabia lifted its oil embargo on March 14, 1974 after Kissinger had promised to sell weapons to Saudi Arabia – something the US had previously denied. Besides this, Saudi Arabia had billions of dollars invested in Western banks, and inflation set off by the oil embargo was a threat to this fortune which gave the Saudi king a vested interest in helping to contain the damage he himself inflicted on the Western economies.

The Nixon administration sought to cement an economic partnership with Saudi Arabia owing to great economic and political uncertainty, which was playing against the global energy trade.

In a move to encourage Saudi Arabia use the US Dollar as the medium of exchange for its oil sales – and by this funnel the said dollar back to the US Treasury bond markets to help finance US fiscal deficits – the United States made its promise to supply military equipment to Saudi Arabia and protect its national security.

What really happens then, if the petrodollar never existed?

Although there was heavy media speculation that the expiry of the US-Saudi Arabia petrodollar agreement, would mean a weakening US dollar, Paul Donovan, the Chief Economic at UBS Global Wealth Management remarked it was a fake story.

“Clearly, the story that is going around today is fake news. There was an agreement signed in June of 1974,  but it had nothing to do with currencies because the Saudis carried on selling in sterling after that,” Donovan noted in an interview with MarketWatch.

Donovan is referring to the United States-Saudi Arabian Joint Commission on Economic Cooperation, which was formally established on June 08, 1974 by a joint statement issued and signed by Kissinger and Prince Fahd.

The agreement was initially intended to last five years, but was repeatedly extended on the back of the rationale that such a deal would ensure that a second 1973-oil embargo scenario between the two economic giants are avoided.

Donovan and other experts all argue that a formal agreement demanding Saudi Arabia price its crude oil in US dollars never existed – which they claim is proven all the more with Saudi Arabia’s continued acceptance of payments in other currencies, most notably in sterling pound for oil even after the 1974 agreement.

The Key Takeaway

It has become argumentative that a petrodollar agreement between the USA and Saudi Arabia existed in the first place; with the consensus of the industry experts leaning towards its non-existence. However, it is also a learned fact that one of the current Brazil, Russia, India, China and South Africa (BRICS) objectives is to use more local currency transactions and to sidestep the dollar.

While Saudi Arabia had joined BRICS, it later said Riyadh has not finalized its participation.

Saudi’s on-off BRICS membership is viewed as its bargaining chip in recent negotiations about a controversial new US-Saudi deal for weapons and defense.

So, in boiling it all down, the logical conclusion is that due to the non-existence of a US-Saudi pact on petrodollars in the first place, it was never impacted. However, the dollar’s dominance is losing traction in the global economy, of which there is no doubt but while gradually waning, the greenback will continue to remain persistent for days to come.