On one of the comments boards over at Eject! Eject! Eject!, a new conspiracy theory surfaced about the "true motivation" of the administration's decisions to wage war in Iraq. One of the central points of this new thesis is that the administration sees a threat to American economic "hegemony" in Iraq's decision to sell oil denominated in Euros rather than US dollars. The true threat, as evidently perceived by the administration, is that the rest of OPEC has expressed some interest in doing the same.

The motivation for OPEC here is not difficult to discern: the dollar has been dropping against the Euro. This means that if recent oil sales had been denominated in Euros instead of dollars, the sellers (OPEC) would have seen increased revenue from their exchange rate gain; instead, what has happened is that those buyers who first convert their Euros to dollars have seen reduced costs of oil. The main beneficiary of the current state of affairs are those European nations who are members of the Euro zone and who are net importers of oil. This is a simple reflection of exchange rate risk, which sometimes benefits and sometimes harms Europe, OPEC, and the rest of the world (though not the US). And it is possible to hedge adequately against this risk if one is truly concerned about it.

But the manner in which this reform has been suggested suggests something beyond a reduction in exchange rate risk. Consider, for example, the following:

>>Prime Minister Datuk Seri Dr Mahathir Mohamad has proposed for oil to be traded in the euro equivalent of the dollar to protect producers from currency manipulation and hedging against the weakening greenback. He said oil-producing countries are feeling the impact of the weakened dollar which had depreciated sharply against the euro.

"[But] should the euro depreciate against the dollar, then payment should be made in dollars. This is a kind of hedging," Dr Mahathir said.<< (Business Times in Malaysia, "PM Argues That Oil Should be Traded in Euros," 6/17/2003)

The damning aspect of this is that OPEC's suggestion is that they be allowed the "flexibility" to resume trading in dollars if and when that becomes more to their advantage. Note that a hedge is simply a means of reducing or eliminating risk, not a maneuver designed to produce a gain. It is clear that this effort as proposed above is not really designed to simply eliminate exchange rate risk, so much as ensure that all exchange rate fluctuations, of whichever direction, benefit OPEC. That is emphatically not a hedge, despite what the Malaysian Prime Minister would suggest. And no rational buyer of any product would allow themselves to be trapped or cajoled into such a contract relationship.

A commenter at Eject!3.com pointed to an essay in support of his theory that George Bush went to war in Iraq over this whole dollar-denomination issue, rather verbosely entitled
The Real Reasons for the Upcoming War With Iraq: A Macroeconomic and Geostrategic Analysis of the Unspoken Truth, by an author by the name of William Clark. It's sponsored by Indymedia, which immediately gives the reader cause for concern. But the mere fact of its origin is not sufficiently compelling an argument to discredit the theory, so I did read it and gave it some thought. The paper is well-written enough to seem superficially credible, and the mistakes (though many are present) are not obvious, so I prepared a few remarks on it which were also posted at Eject!3.com. A lightly edited version of these is presented below.

This was at least one of the more interesting conspiracy theories I've encountered, so I'm glad I read it. If you're interested in giving the left a fair hearing before offering rebuttal, you could do worse than to follow the link I provided above and give the essay a quick read. I believe what I've said below sufficiently discredits Mr Clark's analysis to an objective reader, though I did not get too much into some of the technical details. If there's any element you'd be interested to see treated in more detail, drop me an email and I'll see what I can do for you.

If I've missed something and am myself completely mistaken, please take the opportunity to give me a free education!

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Short version: the author makes a few good points which I agree with, but makes some mistakes in his economic analysis, and ultimately I think his final conclusion is not rational.

Longer version:
The author is correct in saying that it is to the US advantage to maintain the status quo with respect to the standard currency for oil transactions, all things considered. But he greatly overstates how valuable this is; the main benefit here to the US is the elimination of the exchange rate risk, though even here it often works to our disadvantage, not our advantage.

I still maintain that the only reason you're hearing about this Euros-for-oil idea right now is that the dollar is dropping against most other currencies right now. If the dollar starts to rebound you'll stop hearing about this right quick, as it would then cost the sellers of oil money to sell in Euros. I warrant that as much as most of the oil-selling nations dislike the US, they don't dislike us enough to engage in financial transaction disadvantageous to their own interest, just to hurt us too.

And US economic policy is not simply to make the dollar as strong as possible, as the author seems to think; rather, given the dollar's basic fundamental strength, US policy is generally to keep it basically stable. Understand that dollar movements against other currencies cut both ways, and that the US Treasury Secretary recently (misguidedly, in my opinion) applauded the dollar's recent fall for the boost this would provide to US exports (and hence, US GDP, and US employment figures). The flip side is that the fall in the dollar tends to discourage foreign investment in US assets, and capital is harder to raise; this means to US companies that capital-intensive projects to improve efficiency and cut costs must be forgone or postponed, and therefore large and permanent drops in the dollar have elements which are depressive in the long term to US GDP. The whole situation is much more complicated than Mr Clark suggests.

The increase in dollars in circulation by virtue of the oil currency denomination isn't all that significant. Many nations get their oil-buying dollars direct from US consumers via US purchases of foreign goods, so it's not like foreign nations have to go out of their way to buy dollars they'd otherwise not need just so they can consummate their oil purchases. Remember that big US trade deficit we hear so much about; this tends to greatly increase foreign holdings of dollars compared to US holdings of foreign currencies. The holding of dollars by foreign nationals is good for the US in the long run, as it represents foreign investment in US capital, but it's financed largely by the trade deficit, which was $536 Billion in the 12 months ended June 2003. The huge trade deficit itself is less good for the US, though ultimately it's somewhat self-correcting; if eventually we buy so much from foreigners and sell so little in return that the whole world is just saturated in US dollars, demand for the acquisition of additional dollars will decrease. This means the value of the dollar will decrease (and this may be what we're observing now), reducing US consumption of foreign goods and facilitating (via that weak dollar) increased export of US goods, till some equilibrium (or cyclical range, at any rate) is achieved.

The author advocates pegging the dollar and the euro in a "trading band with reserve status parity," which is a fancy was of saying he wants to artificially force exchange rates to be confined within a narrow range, rather than allowing the market to determine it freely; and that we pronounce that the euro is just as good a reserve currency as the dollar. Fixed exchange rates are good policy in some really narrow circumstances, like when a nation with a tremendously weak and volatile currency is trying to artificially encourage foreign investment beyond that which the market has already resulted in, while it works earnestly on its fundamentals. This works reasonably well for a while, provided the weak nation's fundamentals don't proceed to get worse; if this happens, the currency will ultimately collapse horribly and the exchange rate pegging only will have intensified and postponed the collapse. Pegging a major country's (or bloc's) currency to the dollar would essentially be an acknowledgement of the dollar's superiority and would be very unusual policy.

Contrary to what the author suggests, European economies (which may be large in absolute size) have some considerable structural deficiencies, and will not grow faster than the US economy in any sustainable way any time soon. As long as the US continues to have faster average growth than Europe, with low inflation and a stable government, merely saying that the Euro is just as good as a reserve currency doesn't do anything. As long as the US economy offers better growth prospects than the Euro zone, the dollar's long-term trend will be upward against the Euro. And pegging two currencies with an ever-widening gap in fundamentals will ultimately not prove helpful. It is this that makes the dollar useful and attractive as a reserve currency.

Since we didn't buy any oil from Iraq prior to the recent war, and we stopped selling/giving oil to North Korea, those two nations' decisions to stop using the dollar to denominate their oil transactions didn't do anything really to hurt us. The trivial amount of reserves ($10B) held by Hussein would do nothing really to weaken the dollar by virtue of their mere conversion into Euros; consider that this amount is similar to the amount of reserves held by Peru or Columbia, and that by comparison China holds $365B and even Poland holds $30B. Dropping $10B on the exchange market is no big deal.

Now, I don't want to be gratuitously negative about this, but I noted that the essay was posted on Indymedia. Indymedia is well-known for its tremendously liberal slant. The author of the essay even goes so far as to suggest that the media are willing participants in a conspiracy to suppress the information contained in the Clark essay, though he doesn't point out what the media gets for its end of the bargain in suppressing the information. I feel obligated to regard any unsubstantiated conspiracy theory proffered by a biased source (whether liberal or otherwise) with extreme skepticism.

One other general, fundamental issue I take with the essay is the ruthless, godlike competency that Mr Clark rather surprisingly ascribes to the Bush administration. I have not been impressed with either Treasury Secretary appointed by President Bush; Paul O'Neill is a decent man but was clueless as Treasury chief, and Snow seemed downright pleased with the dollar's weakening (leading as it does in the short term to a boost in US exports but causing a decrease in foreign capital investment in the long term). And we all know liberal opinion surrounding Mr Bush's personal intelligence.

Despite this, the author would have us believe that this administration has adopted a long-term strategy centered around an economic subtlety which is difficult to understand, which they don't intend to explain, and that they will pursue this (in their first term!) via a war that the liberals would have us understand no one wanted. I'm not sure most government officials (in this administration or any other) work amid such certainty of their methods. Not all of them even agree on the best practices to achieve a basically agreed set of ends. To suggest that there is some ultra-efficient, essentially infallible, monolithic "corporate-military-industrial network conglomerate" (Clark's actual term; hereafter CMINC) pulling all the strings with absolute certainty that the actions they influence will produce the results they want is, I think, to ascribe far too much competence to our government officials. What was this omnipotent CMINC doing during the Clinton administration? Was Clinton a tool of the CMINC as well? If not, and by Clinton merely winning an election the CMINC was thwarted for eight years, I'd suggest that maybe it's not really so powerful after all.

All things considered, having read the argument offered by Mr Clark, I am respectfully unconvinced.

JKS.