Global Petrodollar System: Born in 1974, Falling in 2026?

In the past few weeks, the current US-Iran conflict has had a profound impact on global financial markets. However, because the US dollar index has almost moved in tandem with oil prices above $100, the influence of this geopolitical crisis on the global petrodollar system has been relatively less discussed. Now, entering the fourth week of fighting and with the Strait of Hormuz still largely blocked, a major investment bank finally took notice on Tuesday…

Deutsche Bank strategist Mallika Sachdeva pointed out in a recent research report that the long-term impact of the Iran conflict on the dollar may lie in testing the foundation of the petrodollar system. If cracks further emerge, the use of the dollar in global trade and savings, as well as its status as the world’s reserve currency, could face significant chain reactions!

The report states that the reason the world holds reserves in dollars largely stems from the global use of dollars for payments. The dominance of the dollar in cross-border trade is fundamentally supported by the petrodollar—since global crude oil trade is priced and settled in dollars.

This arrangement dates back to a 1974 agreement: Saudi Arabia agreed to price its oil in dollars and invest surplus funds in dollar assets in exchange for U.S. security guarantees. As oil is a core input for manufacturing and transportation worldwide, global value chains naturally tend toward dollarization, and global surpluses accumulate in dollars.

However, even before this conflict erupted, the foundation of the petrodollar system was already under pressure. Middle Eastern crude oil now mainly flows to Asia rather than the U.S.; sanctioned Russian and Iranian oil have long been traded outside the dollar system; Saudi Arabia is advancing defense autonomy and exploring non-dollar payment infrastructure like mBridge (a multilateral central bank digital currency bridge).

Deutsche Bank believes this conflict could further expose cracks: the security of Gulf infrastructure and the maritime safety of global oil trade are both challenged. Gulf economies may suffer losses, prompting them to reduce holdings of dollar-denominated foreign assets. This conflict could become a key catalyst weakening the dominance of the petrodollar.

A greater risk is that: if the world gradually moves away from oil and gas trade toward more resilient energy sources—including domestic fuels, renewables, and nuclear power—disentangling from oil itself will have equally significant impacts on pricing in other currencies. A more self-sufficient world in defense and energy would also hold fewer dollar reserves. The strategic importance of the Middle East’s dollar reserve status cannot be underestimated. The current conflict may be the perfect storm for the petrodollar.

This round of US-Iran conflict has shaken the core of the petrodollar system

Deutsche Bank notes that this conflict fundamentally undermines the core agreement of “security in exchange for dollar-based oil pricing”:

• US military assets and bases in the Gulf are under attack, and Gulf countries’ oil infrastructure has been damaged.
• The US’s ability to ensure maritime security for global oil flows is questioned due to the Strait of Hormuz blockade.
• The US security umbrella is undergoing a fundamental test.

In the long run, if global oil consumption declines, Gulf countries significantly deplete dollar reserves, deepen economic and trade ties with Asia, and gradually shift away from dollar-based oil pricing, the use of the dollar in global trade and savings will face significant chain effects.

Risks to the petrodollar system have increased before and after this conflict

Deutsche Bank points out that prior to the US, Israel, and Iran conflict, the foundation of the petrodollar had already experienced multiple changes:

• ① The US is no longer the largest buyer of Middle Eastern oil: The shale revolution has made the US energy independent; Saudi exports to China are over four times those to the US; 85% of Middle Eastern crude now flows to Asia; China is increasingly pushing for yuan settlement.

• ② Saudi Arabia is advancing defense autonomy: According to the “Vision 2030,” Saudi aims to increase domestic military spending to 50%, reducing reliance on foreign weapons.

• ③ Saudi joins mBridge and signs currency swap agreements with China: mBridge, initiated by the People’s Bank of China, Hong Kong Monetary Authority, Bank of Thailand, Central Bank of the UAE, and Saudi Central Bank, uses blockchain-based cross-border digital currency payments, bypassing SWIFT and dollar correspondent banks. It has reached initial operational stages, with non-dollar payment channels established.

• ④ Sanctions on Russia and Iran promote de-dollarization of oil trade: Russia and Iran now settle oil sales in rubles, yuan, and rupees, moving away from the dollar system.

And this current conflict introduces new instability to the petrodollar:

• ① US security guarantees are under strain: Attacks on US military bases, oil fields, and infrastructure in the Gulf, along with conflicts triggered by the Strait of Hormuz blockade, increase risks for traditional allies (Europe, Japan, South Korea) dependent on energy imports.
• ② Bilateral diplomacy replacing US-led maritime security: Navigation through the Strait of Hormuz now relies on bilateral negotiations; some tankers heading to China, India, and Japan have obtained passage permits, with bilateral relations playing a key role.

Long-term risks include: global energy transition acceleration

Deutsche Bank notes that the current situation is highly reminiscent of the 1970s: since 2020, there have been two major oil shocks (the 2022 Russia-Ukraine conflict and this US-Israel-Iran conflict). If Gulf production facilities are severely damaged, oil prices could remain structurally high after the conflict ends; “weaponization” of the strait will also add risk premiums to maritime energy transport. Even if prices fall, increasing energy self-sufficiency and resilience aligns with national interests.

Historically, the 1973 Arab oil embargo prompted Western countries to significantly improve energy efficiency, diversify energy sources, and build strategic reserves. It accelerated development of oil and gas in Canada, the Gulf of Mexico, Alaska, and the North Sea, and reduced dependence on Middle Eastern oil within OECD countries. It also led to the creation of strategic petroleum reserves and early investments in renewables and nuclear power.

Today, energy-dependent regions (Europe, Asia, the Global South) face three core paths:

• ① Expand domestic fossil fuel development: Countries like the UK and Brazil are accelerating exploration; Europe and some Asian nations are restarting coal plants. Even without abandoning fossil fuels, global oil and gas trade may decline, impacting foreign exchange patterns.

• ② Boost renewable energy: Driven by China’s capacity, renewable costs are far lower than in the 1970s; China accounts for 80% of global solar panels, 70% of wind turbines, and 70% of lithium batteries, giving it supply advantages. Developing economies in the Global South may accelerate energy transition but could also increase reliance on a few industrial powers.

• ③ Develop nuclear power: Europe and Japan, traditionally US allies, may significantly ramp up nuclear energy to achieve true energy independence. Nuclear power, like defense, has long development cycles but has profound implications for foreign exchange patterns.

Deutsche Bank states that if the world moves away from cross-border oil and gas trade toward domestic fuels, renewables, and nuclear, the most immediate long-term impacts are:

• Narrowing of oil and gas trade deficits in Europe and Northeast Asia
• Reduced energy surpluses in the Middle East
• Shrinking global oil trade, creating more space for non-dollar trade pricing

Disentangling from oil itself, and promoting non-dollar oil pricing, will have equally significant impacts. The “oil” and “dollar” pillars of the petrodollar system will face simultaneous pressure.

Conclusion

• Short-term: US energy independence provides some risk premium for the dollar. The US remains the only major economy that is energy independent and far from the battlefield. However, US military expansion risks, along with Asian and Middle Eastern efforts to reduce holdings of US debt to stabilize exchange rates, offset short-term benefits. The dollar has not strengthened significantly amid the crisis.

• Long-term: The deeper and more lasting impact of the crisis on the dollar lies in undermining the core of the global system that prices trade and stores surplus in dollars. The strategic importance of the Middle East’s dollar reserve status cannot be underestimated. This conflict may be the perfect storm for the petrodollar.

(Article source: Cailian Press)