From Gold Backed To Oil Backed: An Inquiry Into Petrodollar Overvaluation

Since the aftermath of the first oil crisis in 1973-1974, the US dollar has been the only currency with which crude oil can be purchased in international oil markets. As a result, demand for US dollars has increased and several scholars have argued that this has supported the dollar more than would otherwise have been the case. To estimate the extent of potential dollar overvaluation OLS as well as 2SLS specifications are conducted, using annual as well as monthly data. There is ample evidence that there is an effect of the level of crude oil imports on the US dollar-Saudi riyal real exchange rate and this finding is moreover robust. However, this effect cannot be considered causal. Issues of reverse causality cannot be excluded as the instruments implored in the 2SLS regression appear to be endogenous. Notwithstanding reverse causality problems, the findings in this thesis appear to disprove the findings by Akram (2009) who argues that commodity prices, including oil prices, rise when the dollar depreciates and vice versa. The findings in this thesis argue that this is not the case and that on the contrary crude oil prices as well as increased demand for crude oil on the one hand and dollar appreciation on the other move in the same direction.