By Nick Giambruno
Editor's note: This weekend, Crisis Investing editor Nick Giambruno shares the details on what he says will be the No. 1 black swan event of 2017.
As Nick explains, we’re on the cusp of another paradigm shift in the international financial system—and most people have no idea just how bad things can get…
On August 15, 1971, President Nixon killed the last remnants of the gold standard.
It was one of the most significant events in US history—on par with the 1929 stock market crash, JFK’s assassination, or the 9/11 attacks. Yet most people know nothing about it.
Here’s what happened…
After World War 2, the US had the largest gold reserves in the world, by far. Along with winning the war, this let the US reconstruct the global monetary system around the dollar.
The new system, created at the Bretton Woods Conference in 1944, tied the currencies of virtually every country in the world to the US dollar through a fixed exchange rate. It also tied the US dollar to gold at a fixed rate of $35 an ounce.
The Bretton Woods system made the US dollar the world’s premier reserve currency. It effectively forced other countries to store dollars for international trade, or to exchange with the US government for gold.
By the late 1960s, the number of dollars circulating had drastically increased relative to the amount of gold backing them. This encouraged foreign countries to exchange their dollars for gold, draining the US gold supply. It dropped from 574 million troy ounces at the end of World War 2 to around 261 million troy ounces in 1971.
To plug the drain, President Nixon “suspended” the dollar’s convertibility into gold on August 15, 1971. This ended the Bretton Woods system and severed the dollar’s last tie to gold.
Since then, the dollar has been a pure fiat currency, allowing the Fed to print as many dollars as it pleases.
Of course, Nixon said the suspension was only temporary. That was lie No. 1. It’s still in place over 40 years later.
And he claimed the move was necessary to protect Americans from international speculators. That was lie No. 2. Money printing to finance out-of-control government spending was the real threat.
Nixon also said the suspension would stabilize the dollar. That was lie No. 3. Even by the government’s own rigged statistics, the US dollar has lost over 80% of its purchasing power since 1971.
The death of the Bretton Woods system—which was really the US government defaulting on its promise to back the dollar with gold—had profound geopolitical consequences.
Most critically, it eliminated the main motivation for foreign countries to store large US dollar reserves and to use the US dollar for international trade.
At this point, demand for dollars was set to fall… along with the dollar’s purchasing power. So the US government concocted a new arrangement to give foreign countries another compelling reason to hold and use the dollar.
The new arrangement, called the petrodollar system, preserved the dollar’s special status as the world’s reserve currency. For President Nixon and Secretary of State Henry Kissinger, it was a geopolitical and financial masterstroke.
From Bretton Woods to the Petrodollar
From 1972 to 1974, the US government made a series of agreements with Saudi Arabia, which created the petrodollar system.
The US handpicked Saudi Arabia because of the kingdom’s vast petroleum reserves and its dominant position in OPEC—and because the Saudi royal family was (and is) easily corruptible.
The US also picked Saudi Arabia for geopolitical reasons. During the Yom Kippur War of 1973, OPEC’s Arab members started an oil embargo to punish the US for supporting Israel. Oil prices quadrupled, inflation soared, and the stock market crashed.
The US was in a vulnerable position. It needed to neutralize the Arabs’ potent Oil Weapon. Turning a hostile Saudi Arabia into an ally was the key. The alliance would also help check Soviet influence in the region.
In essence, the petrodollar system was an agreement that the US would guarantee the House of Saud’s survival. In exchange, Saudi Arabia would:
Take the Oil Weapon off the table.
Use its dominant position in OPEC to ensure that all oil transactions would only happen in US dollars.
Invest billions of US dollars from oil revenue in US Treasuries. This let the US issue more debt and finance previously unimaginable budget deficits.
Oil is the world’s most traded and strategic commodity. If foreign countries need US dollars to trade oil, it creates a very compelling reason to hold large dollar reserves.
For example, if Italy wants to buy oil from Kuwait, it has to purchase US dollars on the foreign exchange market to pay for the oil first.
This creates an artificial market for US dollars. The dollar is just a middleman in countless transactions that have nothing to do with US products or services.
Ultimately, the arrangement boosts the US dollar’s purchasing power. It also creates a deeper, more liquid market for the dollar and US Treasuries.
Plus, the US has the unique privilege of buying imports, including oil, with its own currency… which it can print.
It’s hard to overstate how much the petrodollar system benefits the US dollar. It’s allowed the US government and many Americans to live beyond their means for decades. And it’s the reason the media and political elite give the Saudis special treatment.
It’s the reason why President Trump left the Saudis off of his recent immigration ban.
It was a glaring omission that Saudi Arabia—the country that provided 15 of the 19 hijackers for the 9/11 attacks—was absent from the list.
In short, the petrodollar is the glue that holds the US–Saudi relationship together. But its bind is not permanent.
Bretton Woods lasted 27 years. So far, the petrodollar has lasted over 40 years. However, the glue is already starting to lose its stick.
I think we’re on the cusp of another paradigm shift in the international financial system, a change at least as fundamental as the end of Bretton Woods in 1971.
The relationship between Saudi Arabia and the US is near historic lows. I only expect it to get worse.
The US government has released 28 previously classified pages of the 9/11 Commission Report, which show Saudi government involvement in the attacks. And Congress passed a law allowing 9/11 victims to sue the Saudi government.
These are major, unprecedented, irreparable blows to the petrodollar arrangement.
Even without these radical changes, the petrodollar could still bite the dust…
The Saudis could decide to sell their oil in Chinese renminbi, euros, IMF SDRs, gold, or many other non-dollar currencies. And they could influence most of OPEC to follow suit.
Or the House of Saud could implode. I think that’s inevitable anyway, given the colossal economic and military mistakes it’s made recently.
The geopolitical sands of the Middle East are rapidly shifting.
Saudi Arabia’s regional position is weakening. Iran, which is notably not part of the petrodollar system, is on the rise. US military interventions are failing. And the emerging BRICS countries are creating potential alternatives to US-dominated economic/security arrangements. This all affects the stability of the petrodollar system.
Right now, the stars are aligning against the Saudi kingdom. This is its most vulnerable moment since its 1932 founding.
That’s why I think the death of the petrodollar system is the No. 1 black swan event for 2017.
I expect the dollar price of gold to soar when the petrodollar system crumbles in the not-so-distant future. You don’t want to find yourself on the wrong side of history when that happens.
When Nixon took the dollar off gold in 1971, it skyrocketed over 2,300%, from $35 an ounce to a high of $850 an ounce in 1980. Gold mining stocks did orders of magnitude better.
I expect the returns to be at least this great after the end of the petrodollar.
But that brings up another crucial point. There’s also likely to be severe inflation.
The petrodollar system has allowed the US government and many Americans to live way beyond their means for decades.
The US takes this unique position for granted. But it will disappear once the dollar loses its premier status.
This will likely be the tipping point…
Afterward, the US government will be desperate enough to implement capital controls, people controls, nationalization of retirement savings, and other forms of wealth confiscation.
I urge you to prepare for the economic and sociopolitical fallout while you still can. Expect bigger government, less freedom, shrinking prosperity… and possibly worse.
It’s probably not going to happen tomorrow. But it’s clear where the trend is headed.
It is very possible that one day soon, Americans will wake up to a new reality, just as they did when Nixon severed the dollar’s last link to gold.
Once the petrodollar system kicks the bucket and the dollar loses its status as the world’s premier reserve currency, you will have few, if any, options.
Editor, Crisis Investing
P.S. The sad truth is, most people have no idea how bad things could get, let alone how to prepare…
Yet there are straightforward steps you can start taking today to protect your savings and yourself from the financial and sociopolitical effects of the collapse of the petrodollar.
This recently released video will show you where to begin. Click here to watch it now.