On December 16th, 2015, Federal Reserve Officials announced that after six years of 0 percent interest, they would finally raise the Federal Fund Rate. The move was seen by many as an attempt to provide markets with a boost of confidence. Although markets initially sold off on the news, they have in fact rebounded back to normal levels. Still, the question of whether or not the US economy is strong enough to maintain levels of growth has yet to be answered. Washington's privileged position as issuer of the global reserve currency has allowed for an unprecedented monetary expansion with relatively low impact on global financial markets.

Instead of consuming its own inflation, it exports it to producing economies who seem happy enough to send their hard-earned wealth to US consumers for what many people consider mere pieces of paper. The result of a repeat US economic engine stall, yet another round of monetary injection, doesn't seem likely to draw the ire of the international order that subsidizes US consumption. Any criticism of Fed monetary policy or speculation concerning its implications would be met with the usual bromides about how the dollar is still strongest among weak rival currencies.

The Dollar's much coveted and seemingly unshakable position as global reserve currency has caused many to speculate on the true nature of its relationship to US foreign policy and global international affairs. Washington's ability to run massive deficits in the face of minimal international pressure compel many to believe that the US is somehow holding the world hostage. Lending credibility to this view, US military interventionism in Iraq and Libya, as well as an aggressive posture towards Iran, all happened to coincide with the governments of those countries adopting anti-dollar policies. Ever a popular villain in conspiracy mythology, the Fed is said to be a front operating at the behest of an international cabal of bankers hell-bent on controlling the world through a one world currency. In this scenario, the US government is painted as simply the enforcement arm of its puppet masters on Wall Street.

Just What Is A Petrodollar?

This shortsighted view of international politics comes equipped with some anecdotal evidence. On August 15th, 1971, then President Nixon closed the gold window. This move was precipitated by a negative balance of payments from twin deficits resulting in diminishing Fed specie holdings compared to a three fold increase of foreign exchange reserves in foreign vaults accumulated during the Bretton-Woods era. In an attempt to prop up the Dollar, Nixon entered into a series of arrangements with top oil producing nations to limit their sales to dollar transactions. The most egregious misconception about these agreements is that somehow the dollar became a sort of commodity currency, but with the adoption of global fiat, the US had no reason to protect the dollar's value. It did, however, have an immense need to finance ever growing deficits.

With the adoption of dollar denominated sales, oil producing countries had surplus dollars that they used to invest in banks which in turn lent the petrodollars to the US to finance its budget deficits. This is the scheme, and it doesn't get any more dramatic than that. The goal was never meant to create dollar demand by backing it with oil, but simply to ensure there was adequate demand for US debt by flooding Iranian and Saudi treasuries with so many dollars that they couldn't be used in any other way. Leaders of the West realized that the economic system established by Bretton-Woods was no longer sustainable without close coordination by central banks. In 1975, the G7 forum, which was largely designed to organize Western efforts after the 1973 oil crisis, began using the forum to coordinate fiscal and monetary policy protecting the Bretton-Woods institutions that had become so valuable to western economic dominance.