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President Nixon walks with Saudi King Faisal in Saudi Arabia in June 1974.
Failure was not an option.
It
was July 1974. A steady predawn drizzle had given way to overcast skies
when William Simon, newly appointed U.S. Treasury secretary, and his
deputy, Gerry Parsky, stepped onto an 8 a.m. flight from Andrews Air
Force Base. On board, the mood was tense. That year, the oil crisis had
hit home. An embargo by OPEC’s Arab nations—payback for U.S. military
aid to the Israelis during the Yom Kippur War—quadrupled oil prices.
Inflation soared, the stock market crashed, and the U.S. economy was in a
tailspin.
Officially, Simon’s two-week trip was billed as a tour
of economic diplomacy across Europe and the Middle East, full of the
customary meet-and-greets and evening banquets. But the real mission,
kept in strict confidence within President Richard Nixon’s inner circle,
would take place during a four-day layover in the coastal city of
Jeddah, Saudi Arabia.
The goal: neutralize crude oil as an
economic weapon and find a way to persuade a hostile kingdom to finance
America’s widening deficit with its newfound petrodollar wealth. And
according to Parsky, Nixon made clear there was simply no coming back
empty-handed. Failure would not only jeopardize America’s financial
health but could also give the Soviet Union an opening to make further
inroads into the Arab world.
It “wasn’t a question of whether it
could be done or it couldn’t be done,” said Parsky, 73, one of the few
officials with Simon during the Saudi talks.
Treasury
Secretary William Simon, left, sits with Nancy Kissinger and Secretary
of State Henry Kissinger as they listen to former President Nixon talk
to his staff prior to leaving the White House for the last time, August
9, 1974.
Source: AP Photo
At
first blush, Simon, who had just done a stint as Nixon’s energy czar,
seemed ill-suited for such delicate diplomacy. Before being tapped by
Nixon, the chain-smoking New Jersey native ran the vaunted Treasuries
desk at Salomon Brothers. To career bureaucrats, the brash Wall Street
bond trader—who once compared himself to Genghis Khan—had a temper and
an outsize ego that was painfully out of step in Washington. Just a week
before setting foot in Saudi Arabia, Simon publicly lambasted the Shah
of Iran, a close regional ally at the time, calling him a “nut.”
But
Simon, better than anyone else, understood the appeal of U.S.
government debt and how to sell the Saudis on the idea that America was
the safest place to park their petrodollars. With that knowledge, the
administration hatched an unprecedented do-or-die plan that would come
to influence just about every aspect of U.S.-Saudi relations over the
next four decades (Simon died in 2000 at the age of 72).
The basic
framework was strikingly simple. The U.S. would buy oil from Saudi
Arabia and provide the kingdom military aid and equipment. In return,
the Saudis would plow billions of their petrodollar revenue back into
Treasuries and finance America’s spending.
It took several
discreet follow-up meetings to iron out all the details, Parsky said.
But at the end of months of negotiations, there remained one small, yet
crucial, catch: King Faisal bin Abdulaziz Al Saud demanded the country’s
Treasury purchases stay “strictly secret,” according to a diplomatic
cable obtained by Bloomberg from the National Archives database. Special Report:Where Next for Saudi Arabia?
With
a handful of Treasury and Federal Reserve officials, the secret was
kept for more than four decades—until now. In response to a
Freedom-of-Information-Act request submitted by Bloomberg News, the
Treasury broke out Saudi Arabia’s holdings for the first time this month
after “concluding that it was consistent with transparency and the law
to disclose the data,” according to spokeswoman Whitney Smith. The $117
billion trove makes the kingdom one of America’s largest foreign
creditors.
Yet in many ways, the information has raised more
questions than it has answered. A former Treasury official, who
specialized in central bank reserves and asked not to be identified,
says the official figure vastly understates Saudi Arabia’s investments
in U.S. government debt, which may be double or more.
The current
tally represents just 20 percent of its $587 billion of foreign
reserves, well below the two-thirds that central banks typically keep in
dollar assets. Some analysts speculate the kingdom may be masking its
U.S. debt holdings by accumulating Treasuries through offshore financial
centers, which show up in the data of other countries.
Drivers
line up for fuel at a U.S. gas station during the worldwide fuel
shortages caused by the oil embargo imposed by OPEC, circa 1974.
Exactly how much of America’s debt Saudi Arabia actually owns is something that matters more now than ever before.
While
oil’s collapse has deepened concern that Saudi Arabia will need to
liquidate its Treasuries to raise cash, a more troubling worry has also
emerged: the specter of the kingdom using its outsize position in the
world’s most important debt market as a political weapon, much as it did
with oil in the 1970s.
In April, Saudi Arabia warned it would
start selling as much as $750 billion in Treasuries and other assets if
Congress passes a bill allowing the kingdom to be held liable in U.S.
courts for the Sept. 11 terrorist attacks, according to the New York Times.
The threat comes amid a renewed push by presidential candidates and
legislators from both the Democratic and Republican parties to
declassify a 28-page section of a 2004 U.S. government report that is
believed to detail possible Saudi connections to the attacks. The bill,
which passed the Senate on May 17, is now in the House of
Representatives.
Saudi Arabia’s Finance Ministry declined to
comment on the potential selling of Treasuries in response. The Saudi
Arabian Monetary Agency didn’t immediately answer requests for details
on the total size of its U.S. government debt holdings.
“Let’s not
assume they’re bluffing” about threatening to retaliate, said Marc
Chandler, the global head of currency strategy at Brown Brothers
Harriman. “The Saudis are under a lot of pressure. I’d say that we don’t
do ourselves justice if we underestimate our liabilities” to big
holders.
What's the Untold Story of Saudi Arabia's Debt Secret?
President Nixon shakes hands with Saudi King Faisal in June, 1974, in Saudi Arabia.
Photographer: Dirck Halstead/Liaison via AP Photo
Saudi
Arabia, which has long provided free health care, gasoline subsidies,
and routine pay raises to its citizens with its petroleum wealth,
already faces a brutal fiscal crisis.
In the past year alone, the
monetary authority has burned through $111 billion of reserves to plug
its biggest budget deficit in a quarter-century, pay for costly wars to
defeat the Islamic State, and wage proxy campaigns against Iran. Though
oil has stabilized at about $50 a barrel (from less than $30 earlier
this year), it’s still far below the heady years of $100-a-barrel crude.
Saudi
Arabia’s situation has become so acute the kingdom is now selling a
piece of its crown jewel—state oil company Saudi Aramco.
What’s
more, the commitment to the decades-old policy of “interdependence”
between the U.S. and Saudi Arabia, which arose from Simon’s debt deal
and ultimately bound together two nations that share few common values,
is showing signs of fraying. America has taken tentative steps toward a
rapprochement with Iran, highlighted by President Barack Obama’s
landmark nuclear deal last year. The U.S. shale boom has also made
America far less reliant on Saudi oil.
“Buying bonds and all that
was a strategy to recycle petrodollars back into the U.S.,” said David
Ottaway, a Middle East fellow at the Woodrow Wilson International Center
in Washington. But politically, “it’s always been an ambiguous,
constrained relationship.”
Yet back in 1974, forging that
relationship (and the secrecy that it required) was a no-brainer,
according to Parsky, who is now chairman of Aurora Capital Group, a
private equity firm in Los Angeles. Many of America’s allies, including
the U.K. and Japan, were also deeply dependent on Saudi oil and quietly
vying to get the kingdom to reinvest money back into their own
economies.
“Everyone—in the U.S., France, Britain, Japan—was
trying to get their fingers in the Saudis’ pockets,” said Gordon S.
Brown, an economic officer with the State Department at the U.S. embassy
in Riyadh from 1976 to 1978.
For the Saudis, politics played a big role in their insistence that all Treasury investments remain anonymous.
Tensions
still flared 10 months after the Yom Kippur War, and throughout the
Arab world, there was plenty of animosity toward the U.S. for its
support of Israel. According to diplomatic cables, King Faisal’s biggest
fear was the perception Saudi oil money would, “directly or
indirectly,” end up in the hands of its biggest enemy in the form of
additional U.S. assistance.
Treasury officials solved the dilemma
by letting the Saudis in through the back door. In the first of many
special arrangements, the U.S. allowed Saudi Arabia to bypass the normal
competitive bidding process for buying Treasuries by creating
“add-ons.” Those sales, which were excluded from the official auction
totals, hid all traces of Saudi Arabia’s presence in the U.S. government
debt market.
“When I arrived at the embassy, I was told by people
there that this is Treasury’s business,” Brown said. “It was all
handled very privately.”
By 1977, Saudi Arabia had accumulated about 20 percent of all Treasuries held abroad, according to The Hidden Hand of American Hegemony: Petrodollar Recycling and International Markets by Columbia University’s David Spiro.
Another
exception was carved out for Saudi Arabia when the Treasury started
releasing monthly country-by-country breakdowns of U.S. debt ownership.
Instead of disclosing Saudi Arabia’s holdings, the Treasury grouped them
with 14 other nations, such as Kuwait, the United Arab Emirates and
Nigeria, under the generic heading “oil exporters”—a practice that
continued for 41 years.
The
system came with its share of headaches. After the Treasury’s add-on
facility was opened to other central banks, erratic and unpublicized
foreign demand threatened to push the U.S. over its debt limit on
several occasions. An
internal memo, dated October 1976, detailed how the U.S. inadvertently
raised far more than the $800 million it intended to borrow at auction.
At the time, two unidentified central banks used add-ons to buy an
additional $400 million of Treasuries each. In the end, one bank was
awarded its portion a day late to keep the U.S. from exceeding the
limit.
Most of these maneuvers and hiccups were swept under the
rug, and top Treasury officials went to great lengths to preserve the
status quo and protect their Middle East allies as scrutiny of America’s
biggest creditors increased.
Over the years, the Treasury
repeatedly turned to the International Investment and Trade in Services
Survey Act of 1976—which shields individuals in countries where
Treasuries are narrowly held—as its first line of defense.
The
strategy continued even after the Government Accountability Office, in a
1979 investigation, found “no statistical or legal basis” for the
blackout. The GAO didn’t have power to force the Treasury to turn over
the data, but it concluded the U.S. “made special commitments of
financial confidentiality to Saudi Arabia” and possibly other OPEC
nations.
Simon, who had by then returned to Wall Street,
acknowledged in congressional testimony that “regional reporting was the
only way in which Saudi Arabia would agree” to invest using the add-on
system.
“It was clear the Treasury people weren’t going to
cooperate at all,” said Stephen McSpadden, a former counsel to the
congressional subcommittee that pressed for the GAO inquiries. “I’d been
at the subcommittee for 17 years, and I’d never seen anything like
that.”
Today, Parsky says the secret arrangement with the Saudis
should have been dismantled years ago and was surprised the Treasury
kept it in place for so long. But even so, he has no regrets.
Doing the deal “was a positive for America.” —With assistance from Sangwon Yoon.
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