Some theorists have long speculated that any switch in the pricing of oil away from the dollar would represent an intolerable threat to the US-dominated international order. But what if the currency of the world’s most important commodity changed and would it matter if it did?
Headlines certainly suggest the greenback is under pressure. Brazilian president Luiz Inacio Lula da Silva called for a Brics currency two weeks ago, grouping his country, Russia, India, China and South Africa.
Last year, Saudi Arabia’s Finance Minister Mohammed Al Jadaan said that his country was considering pricing its oil sales to China in yuan. In February, Iraq’s central bank announced its intention to allow trade with China in yuan.
In March, TotalEnergies sold a cargo of liquefied natural gas from the UAE to China National Offshore Oil Company, settled in the Chinese currency. The deal was arranged through the Shanghai Petroleum and Natural Gas Exchange, whose chairman, Guo Xu, said it was, “a meaningful attempt to promote multi-currency pricing, settlement and cross-border payment in international LNG trading”.
The US’s addiction to sanctions, and its freezing of Russian foreign exchange reserves, strengthen the incentive for Russia — a leading oil and gas exporter — and China, the world’s biggest oil and gas importer, to cut dependence on the dollar.
The use of the dollar in energy trade is seen as a key part of its role as the global reserve currency — the “exorbitant privilege”, as Valery Giscard d’Estaing, then French finance minister, called it in 1965. This enables the US to run huge trade deficits and to earn more from its overseas investments than foreigners earn from lending to the US government.
Proponents of “de-dollarisation” often mix up three different things. There is the currency a transaction is settled in, the currency in which a commodity is priced, and the currency in which exporting countries hold the resulting reserves.
Certainly, China’s growing economic weight will result in more transactions being conducted in its currency. The yuan’s share of trade finance grew sharply, from less than 2 per cent in February 2022 to 4.5 per cent a year later. But it remains minor, and the gains came mostly from the redenomination of Russian dealings with China. The euro accounts for 6 per cent of world trade; the dollar for 84 per cent.
The currencies of the most important global oil exporters — the GCC countries and Iraq — are pegged to the dollar. A wholesale shift to another currency would expose them to exchange rate risks. They often run sizeable trade surpluses with China, so there is a limit on how much bilateral trade could be yuan-settled.
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When India looked for another currency for oil purchases from Russia, it chose the UAE dirham — precisely because of its peg to the dollar.
International oil is, in round figures, a $2 trillion annual market. International gas — much of which is denominated in euros — adds another $400 billion. The value of all global trade last year was estimated at $32 trillion. So even a complete, and implausible, switch in energy trade from the dollar would only dent, not end, its dominance.
Which currency is used to price energy is more strategic. We know what the oil price is in dollars per barrel — who can quickly recall the price in yuan, roubles per tonne, or the Japanese favourite, yen per kilolitre?
In March 2018, after years of delays, the Shanghai International Energy Exchange (INE) began trading a yuan-denominated crude oil futures contract, which allows mostly Middle East grades, including the UAE’s Murban and Upper Zakum, to be delivered.
But INE still attracts mostly Chinese retail investors, with the convertibility of the yuan a key risk for international players, along with other concerns such as exposure to US sanctions via the import of Iranian oil. Chinese buyers are glad to pay in yuan for Russian oil and gas, but extract hefty discounts.
The Middle East continues to rely on the well-known global dollar benchmarks, Brent and Dubai-Oman, as well as the contracts for Murban and Upper Zakum recently launched on ICE Futures Abu Dhabi. It is far preferable for their economic lifeline to be in the invisible hand of the market than an iron fist in Beijing.
When it comes to foreign currency holdings, the caprice of US policy is certainly a worry. But the US’s share of the world total, 57 per cent, has hardly budged since 2014. Other Western-bloc currencies — mainly the euro, plus the pound sterling, the Japanese yen, Swiss franc and the Australian and Canadian dollars — comprise another 37 per cent. The yuan is just 2.5 per cent.
Not surprisingly, illiquid financial markets, strict currency controls, exchange rate manipulation and exposure to Beijing’s political imperatives make it unattractive to park most national savings. China shows no inclination to rethink these policies.
Since both leading oil-exporting countries and China usually run large balance of payments surpluses, an accumulation of yuan reserves by the GCC would have to be matched by more Chinese reserves in a major capital importer — the only candidate being the US. And with much of their overseas wealth held in dollars, the main oil exporters have little interest in doing anything that would damage its value.
World energy trade will indeed become more fragmented. But this will primarily affect settlement currencies and purchases from some US adversaries, not benchmark prices. Any diminution of the dollar’s global role in favour of the yuan or another currency will be gradual, and will lead, not follow, the oil market.
Robin M Mills is chief executive of Qamar Energy and author of The Myth of the Oil Crisis
