The US dollar survived the collapse of Bretton Woods in the ‘70s because its use in crude oil transactions made it the king of reserve currencies, but can it survive a collapse of petro dollars? Can the world survive the catastrophic geopolitical consequences that would follow?

There is an overriding belief that the U.S. dollar can hold onto its status as the world’s king reserve currency simply because of petro dollars. But in recent years, a serious threat to this system has developed—and the risk of the dollar being dethroned is very real.

The U.S. dollar has reigned supreme since the end of WWII, when the Bretton Woods system gave it is initial power. With Bretton Woods’collapse in 1971, oil became its new saviour and kingmaker as the U.S. dollar became the prime currency for crude oil transactions.

In 1973, the U.S. made a pact with the Saudi King to conduct all crude oil trades in U.S. dollars—in return for U.S. protection of its oil fields. Because of the global hunger for crude, the demand for U.S. dollars experienced a similar, sustained hunger. Related: $380 Billion In Upstream Projects Delayed As Oil Keeps Tanking

The major producers of crude oil had an abundance of dollars, which was recycled back into the system to purchase dollar-denominated assets. The consumers pay for crude oil in dollars; hence, they always have to keep a steady reserve of dollars, thereby maintaining a high demand for the the currency.

This is now under threat, and history risks being repeated.

The Bretton Woods system failed due to the over valuation of the dollar as spending increased over the war in Vietnam war and America’s Great Society programs.

The argument that the U.S. dollar is a flawed currency is gaining ground. According to commodity guru Jim Rogers, this is illustrated by a string of Quantitative Easings by the U.S. Fed, an ultra-low interest rate policy and ever-increasing U.S. debt. Demand for the U.S. dollar has remained high despite this because of the world’s reliance on it to fund crude oil purchases. Related: ExxonMobil’s Large Offshore Discovery Faces Political Risk

But this paints a false picture.

Over the past few years, countries such as China, Russia, Iran, and Brazile, Russia, India, and China, and South Africa (the BRICS nations) have begun to pose a challenge to the current system, forming pacts to transact oil in local currencies, bypassing the petro-dollar.

So are we witnessing the beginning of the end of the petro-dollar? Not quite yet.

The U.S. has dealt with all earlier challenges to its petro-dollar system with a strong hand.

A key reason for the wars in Iraq, Syria, and Libya, was in response to an attempt to find an alternative to the petro-dollar.

With China and Russia leading the most recent attack on the U.S. dollar throne, the battlefield is moving to a new and much broader front. Related: Forget $20 - Oil Prices At $8 Per Barrel In Canada

The U.S. and Russia are already engaged in proxy wars in the Gulf region, but any escalation or a direct altercation could sow the seeds of a dreaded WWIII.

The current strength of the U.S. dollar shouldn’t be taken for granted. Although a viable alternative to the U.S. dollar has yet to be found, the petro-dollar is vulnerable in the long-term, and perhaps even in the medium-term.

It is a circular argument. At the same time that current conflicts could easily move into direct altercations of a preliminary Third-World-War nature, the collapse of the petro-dollar as various nations seek an alternative could have economic consquences that could be the end game for a major world war.

An increase in oil prices would stave off this pending danger, but for now, prices continue on their relentless downwards slide.

By Julianne Geiger for Oilprice.com

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