Arab Gold

Ron Paul, the (retired) Republican Congressman concluded a speech before Congress in 2006 thus:

“The chaos that one day will ensue from our 35-year experiment with worldwide fiat money will require a return to money of real value. We will know that day is approaching when oil-producing countries demand gold, or its equivalent, for their oil rather than dollars or euros.”*

To most people even today this is probably a pie-in-the-sky comment, but they would be wrong not to consider it more seriously in the light of subsequent events.

The possibility of the demise of the petrodollar is increasing quite rapidly for two reasons. Firstly, US oil consumption has fallen from 38% of the World’s total in 1965 to less than 20% today, while Asia/Pacific consumption has increased threefold to over 33%. Furthermore due to shale oil production US oil imports are expected to reduce further in the coming years, perhaps eliminating her oil deficit entirely, negating the need for petrodollars. This leaves the Arab nations with a stack of useless dollars.

The chart below shows the enormity of their problem.

In the thirty years before 2000, total energy export revenue ignoring compounding interest totalled $3.5 trillion and in the thirteen years since then over $8 trillion. With interest, and despite accelerated infrastructure spending since the late 1990s that still leaves enormous currency balances in Middle-Eastern hands, likely to be a number like $8-10 trillion with a large element of it still in dollars.

Secondly, America’s failure to support Mubarak in Egypt, the volte-face over Syria and now the détente with Iran have altered long-term relations with Saudi Arabia, forcing her to reconsider strategic options for the future and to look after her own interests. Saudi Arabia and Israel find that America is no longer prepared to be the regional policeman. And when she unsuccessfully courted Russia for help over Syria and got nowhere, it must have only heightened the Saudi’s sense of insecurity.

One could argue it all comes down to the money, but the other reality is US electoral fatigue after Iraq and Afghanistan; so a logical reassessment shows the region’s future on both trade and strategic grounds is increasingly focused towards Asia and Europe, not the US.

The currency replacement for the petrodollar need not concern us for the moment. What is more interesting is the regional attitude to gold, which was acquired in large quantities up to the mid-1990s, as insurance against this eventual outcome. Interestingly, I have discovered from contacts in the Swiss refining industry that some of this gold in LBMA 400 ounce gold bars is now being recast into the new Chinese 9999 standard of 1 kilo bars.

It is not immediately clear why Arab gold is being recast. However, taking into account the significant shift in the region’s trade and strategic options it becomes clear that gold held for eventual resale into dollar-denominated markets makes no sense at all, particularly when there are enormous dollar balances that will also have to be addressed.

However, the Arabs know that if they sell their dollars they will risk undermining the whole fiat currency regime. It is therefore quite possible they will seek as an alternative to take at least a portion of their oil revenue in gold or its equivalent, as Ron Paul suggested; so he had a point seven years ago and the foreign exchanges should now begin to anticipate this event.

There is a lesson for us in this: when we are distracted by China’s accelerating demand for gold and her conflicting desire not to trigger a financial crisis, the unexpected catalyst for monetary chaos may well be the actions of the Middle-Eastern potentates who cornered the gold market thirty years ago.

*This speech was recently commented on and drawn to my attention by Casey Research.

Alasdair Macleod

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www.financeandeconomics.org