Trade Tariffs and the American Petrodollar Supremacy

Trump has recently introduced tariffs on China. Trump has been alleging that these tariffs are meant to punish China for unfair trade practices. These unfair trade practices include theft of American intellectual property as well as dumping of goods to America.

However, many critics believe that unfair trade practices are not the real reason Trump is taking action against China. The real reason is the fact that China is looking to end the American petrodollar supremacy. We need to first understand that oil prices all over the world are denominated in dollars. This is because dollars are the reserve currency. Other countries accept dollars as a form of payment for their goods and services. American experts are worried that gold is the only real threat to the supremacy of the unbacked dollar. China is rumored to have set up a mechanism wherein countries can exchange gold for petrol. This will bypass the need for the dollar, and the entire American economy will come crumbling down.

This is not the first time that America has punished a country for trying to circumvent the dollar hegemony. Saddam Hussein was a dictator all his life. However, Americans only took action when Saddam started accepted Euros as payment for oil. Similarly, the Americans only realized the tyranny of Muammar Gadaffi after he proposed to create an African currency, that would be backed by gold and would, therefore, be a superior alternative to America’s fiat dollar. Iran has also been allaying fears about America’s covert operations which are designed to enforce the use of “satan’s currency,” i.e., the dollar.

Now, since China is taking this initiative, the United States can no longer bully it with military action. Unlike Iraq, Iran, and Libya, China has the power to retaliate against American aggression if required. It is for this reason Trump is taking the economic route. This appears to be the beginning of a prolonged trade war between the top two economic powers in the world.

In this article, we will have a closer look at China’s design to circumvent American currency hegemony.

The Introduction of the Chinese Oil Futures

China has now surpassed the United States into becoming the number one importer of crude oil across the world. As a result, China is not comfortable with having to buy dollars each time they want to purchase oil. China is not comfortable because of two primary reasons.

  • Firstly, it wants to increase the acceptance of Yuan in world trade. China wants all trading parties to accept payments in Yuan like they accept payments in dollars. For this reason, China wants oil to also be priced in Yuan. Given the fact that China is the largest importer of oil, this idea may not be far-fetched
  • China is averse to the idea that United States must have all information regarding its trade activities. Right now China needs to buy dollars before they conduct trade. This means that American banks receive all the information regarding its trade activities. This information can be used by Americans to limit the Chinese influence.

    To solve these issues, China has decided to list oil futures in the year 2018. These oil futures will be denominated in Yuan. Also, they will be sold at the Shanghai International Energy Exchange and will be available to foreign investors. All the technical and bureaucratic formalities for this project have been completed. Hence, Chinese oil futures could be a reality very soon.

  • China has been aggressively loaning out money to as many as 18 nations for its One Belt One Road Project. These loans are denominated in Yuan. As a result, the interest and the principal payments will have to be paid back in Yuan as well. This will create a demand for the Chinese currency. If a sufficient number of nations start accepting Yuan as payment for goods and services, it can circumvent the supremacy of the dollar.
  • Chinese futures also have provisions whereas investors can hedge their investments into Pounds, Euros, Dollars and even gold. As a result, the Chinese futures may prove to be a direct link between oil and gold. The Americans have always been wary that such a link would mean disaster for the dollar.

Limitations

There is considerable hype in the financial markets about the ability of the Chinese government to compete with the mighty Americans. However, if you ask investors, they do not have enough faith in China. Firstly, China does not have the influence to take on the Americans in the oil market. Secondly, China is known for state interference in markets. Investors are afraid that if China’s plans do not work as per their expectations, they will suddenly impose controls on the exit of foreign capital. As a result, the free movement of capital will be impacted.

China’s reputation as a bully and an unfair player has kept international players away from its stock and bond markets. It is likely that it will keep the players away from its futures market as well. To sum it up, Trump’s tariffs have very different objectives to what is being stated in the media.

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The article is Written By “Prachi Juneja” and Reviewed By Management Study Guide Content Team. MSG Content Team comprises experienced Faculty Member, Professionals and Subject Matter Experts. We are a ISO 2001:2015 Certified Education Provider. To Know more, click on About Us. The use of this material is free for learning and education purpose. Please reference authorship of content used, including link(s) to ManagementStudyGuide.com and the content page url.


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