Petrodollars and Inflation
At the beginning of The Kingdom, a Hollywood movie from 2007, the audience is briefly given a history lesson on one of the world's largest companies that is now known as Saudi Aramco. And behind the fictionalized account of the Khobar and Riyadh bombings, the geopolitical backroom deals and government intervention portrayed are very real.
Prior to the 1970s, numerous western petroleum companies owned and operated dozens of large fields throughout the Arabian peninsula and Middle East.
Due to a variety of jingoistic factors including political intervention instigated by a smattering of ideological parties (e.g., the CIA, radical jihadists), most of these oil fields and infrastructure were ultimately bought or seized by governments under Machiavellian pretenses and rhetoric.
Perhaps the best known example of outright theft was when the assets of Bunker Hunt were seized by Libyan dictator Colonel Qaddafi in 1973. Following this, firms such as Armand Hammer's Occidental lined up to share profits with the government. In 1950 a similar confiscatory threat was issued by King Ibn Saud and as a result the government was given a 50/50 split in profits by the Aramco consortium. Thus, a private oil firm could consider itself lucky if they received some kind of artificial compensation when their property was confiscated, as was the case of Aramco.
Today, it is estimated that more than 90%, if not all oil originating from the Gulf and Persian regions is owned and sold by governments.
The Buck Stops at Bretton Woods
While these political-petro turf wars were occurring, an important currency decision was made prior to the founding of OPEC. The role of the dollar as the universal standard was established by the interventionist Bretton Woods system in 1944. What ultimately arose from this was the current exchange "pegging system" in which member states would artificially peg their own national currencies at an exchange rate in terms of the US dollar (plus or minus 1%). In turn, the dollar itself was pegged to gold ($35/ounce) a metal that is historically difficult to print or inflate.
In practice this meant a country would intervene in their foreign exchange market to establish stable parity with the dollar. For instance, each day the People's Bank of China (PBOC, the equivalent of the Fed) essentially confiscates all of the dollars circulating in banks and converts them to the pegged renminbi rate. The PBOC then gives the dollars to the State Administration of Foreign Exchange (SAFE), which then purchases vast swaths of US treasury notes and holds them in a perpetually growing reserve pile.
And while the technical names, operating conditions, and pegged rates all vary slightly from country to country, over the past six decades the US dollar has effectively remained the de facto currency for many transactions, including petroleum sales. That is, until the turn of the millenium. 
Conspiracy theories aside, in November of 2000, Iraq switched to the euro for petro payments. At the time, the euro was trading almost 20 cents less than a dollar; today it is worth 50% more than a dollar. Time magazine then noted that Saddam's decisions was politically motivated, saying "it does not want to deal 'in the currency of the enemy'." Following the 2003 invasion and the subsequent occupation, the interim government reversed the policy. In December 2006, Iran switched to the euro and in September 2007, Hugo Chavez dictated that Venezuela's state-owned oil company would also switch to the euro.
However, in general, switching has been the exception.
A Rock and Hard Place
On the one hand, many residents of these nation-states have publicly demanded political autonomy for decades, free from the intervention of western governments. However, their central planners have nationalized themselves between a rock and hard place.
Through the actions of their central banks and treasury departments, they have accumulated tens of billions of dollars in reserves. This is done because many of the Gulf States continue to peg their currencies to the dollar. In order to maintain this peg they have to continuously purchase large quantities of treasury bills.
And because Americans want foreign exports, they have excess dollars flowing into these countries. Normally this imbalance would cause their own currencies to appreciate, as more dollars chased their own money. To prevent this, foreign governments must artificially buy something from the US, such as debt issued by its federal government.
As of January 2008, oil exporting nations held approximately $141 billion in US treasury securities. Altogether roughly $2.4 trillion is held in reserve by central banks throughout the world.
In addition, members of the political class in many Gulf States also believe that they "have little choice but to mirror U.S. moves in deposit rates if they want to avoid attracting capital that would pressure currencies higher." As a result, their central banks artificially manipulate the interest rates in tandem with the Federal Reserve and, as a consequence, undergo similar inflationary pressures and malinvestment bubbles.
The Viscosity Thickens
Simultaneously these state-owned petroleum companies have, for decades, only accepted dollars as a medium of exchange. In the event that even one state-owned company switched to a competing medium, a decline in the value of the dollar would follow. Thus most OPEC nations exist in an uncomfortable detente because none of them wants a depreciation in their existing dollarized assets — the central bank reserves and state-owned petroleum company sales are inextricably linked.
So would the Gulf States dump the dollar? All told, in 2006, members of OPEC exported nearly $650 billion in oil. Exchanging that much money has been analogized to engaging in nuclear war on all dollarized assets, including their own. While the dollar continues to decline, as it has been over the past several years, organizations like OPEC only have themselves to blame for artificially mandating what currency exchange is accepted.
At the same time, fear that OPEC members would switch to euros is somewhat plausible because no nation wants to be the last one to dump its increasingly worthless dollars. After all, none of them wants to see its assets depreciate. In fact, every time OPEC members have mentioned they were looking at exchanging their dollar reserves for euros, the dollar temporarily declined. However, despite a decade of such rumors, nothing substantial has been done — yet.
Problems of Price Fixing
The intersection between state-owned petroleum firms and fixed exchange rates lies along the same broken road managed by every government. For instance, in the case of Bretton Woods and Richard Nixon, they specifically pegged a dollar exchange rate to a certain amount of gold, despite the fact that they increased the credit supply without a similar supply increase of gold. Thus, while their pegging could have arguably been "the right price" for a brief moment in time, it was obvious when the dollar was floated that they had artificially overvalued the dollar.
Or in other words, the Fed was selling gold at below-market prices, by decree.
And while a government-managed gold-exchange standard may be momentarily superior from a stability standpoint, as Lawrence White and Tyler Cowen recently noted, the main problem underlying any government-managed gold standard (one which continued to allow "elasticity" in the money supply through fractional-reserve banking without domestic convertibility) is that it necessarily requires a central board to artificially peg gold at a certain price, which would lead to all of the same problems every attempt at price fixing has.
As with interest rates, there is no "right" price that can be determined by the central committee. Prices emerge from interactions and expectations of market participants. Prices perpetually fluctuate, changing based on risk, supply, demand, and a variety of quantifiable factors that monolithic bureaucracies cannot adjust to fast enough.
One of the problems with the Bretton Woods system is that, at its foundation, it artificially pegged an ounce of gold to a certain number of politically controlled dollars. 
Consequentially, due to this availability of relatively cheap gold, international banks had an incentive to amass dollars and buy guaranteed gold from Fort Knox. And because the federal government had expanded (inflated) the money supply to finance two wars and a plethora of social programs, the dollar was under structural and institutional pressure for revaluation. Why? Because after hundreds of tons of gold had been trucked off to foreign banks, the pegged rate which was supposed to bring stability to finances was actually bankrupting the treasury.
So on August 15, 1971, then-President Nixon readjusted the peg to $38 and then again to $42 in 1972. However, Cowen asks, "Given the socialist calculation debate, can we really know the right transition price?" Why did Nixon settle for those prices, why not $1 or $2,500?
When Nixon later took the dollar off the gold standard completely, it spelled the end of the Bretton Woods system, because the dollar would no longer be pegged to anything. However, rather than getting out of the monetary business altogether, he floated the dollar on the open market and it immediately lost its value relative to other currencies — losing more than half of its value by 1974. And because OPEC sold oil in terms of dollars, their purchasing power declined — as did everyone else holding dollar-denominated assets.
Governments Cannot Print Petroleum
The one recurring element in this story is that, while governments can control the flow of some and even all petroleum, they cannot print it as they do paper notes. The Gulf States and OPEC, along with every other institution that holds dollar reserves, is sitting under what James Fallows and others have called the Sword of Damocles: they are damned either way. The issue is further precipitated every time the Fed manipulates the interest rate, creating bubbles and devaluing the currency even further.
Someone has to pay for the subsidized interest rates and that someone is anyone holding dollar-denominated assets. Despite the disdain some foreign politicians and planners in oil state may have for the US government, by pegging rates to the dollar and mandating the use of dollars for petroleum, they continue to prop up a dying fiat system at the expense of their own standard of living.
The only viable solution of solvency and prosperity is a free market in private currencies — a solution without the state and its central planners — one voluntarily determined by market participants.
 According to Dow Jones Newswires, Saudi Arabia generated $193.7 billion in 2006 (Aramco profile). In comparison, the world's largest private oil company, Exxon, had $400 billion in sales during 2007. This still pales in comparison to the world's largest company, the US federal government, with millions of employees and a budget of nearly $3 trillion last year alone.
 Some of these private firms illegitimately established themselves in these countries (British Petroleum has a very colorful history); however, that is not the topic of this article. See also Syriana.
 One of the earliest examples of US government intervention in the Middle East is the 1953 coup in Iran. In Operation Ajax, the CIA installed Shah Pahlavi, after overthrowing Mossadeq, who had recently nationalized the oil fields.
 As of 2005, OPEC nations accounted for more than 40 percent of the world's production and roughly 2/3 of the world reserves. In addition, nearly every large oil field in the world is owned by a government. Also, the export of petroleum is not limited to oil refineries, as it is actively used in aluminum smelting industries too. For instance, the government of UAE has intervened and set aside vast reserves of petroleum for aluminum production. For all of its hemming and hawing about free markets, the politicians in UAE seem to live by a double standard.
 As noted above, due in part to institutional inertia from organizations like the IMF, World Bank and numerous central banks, the dollar is in many cases not just de facto, but the de jure reserve currency. Also, in an odd twist, current IMF regulations prohibit its members from backing their currencies with gold. See: "Why Does the IMF Prohibit Gold-Backed Currency for its Member States?" by Congressman Ron Paul and "The End of National Currency" by Benn Steil of Foreign Affairs.
 And because government monopolies do not have the incentive to provide efficient service, the infrastructure and refinery capacity of many socialized endeavors has been on the decline for years and in some cases — such as Iran — it is dilapidated and in disrepair. See also: "No Silver in the Silver Lining" and "Sovereign Wealth Messiahs."
 So why hasn't OPEC dumped the dollar in one fell swoop? One of the theories surrounding Bush's surprise visit to the Middle East recently was to assuage fears and discourage a possible move to other currencies. In the past, the US government has swayed bigger states like Saudi Arabia by approving the sale of high-tech military vehicles, low-interest loans, and outright subsidies to it.
Forward contracts to buy United Arab Emirates dirhams rose the most in two weeks after Economy Minister Sultan Bin Saeed Al Mansouri said the dirham's dollar peg is "contributing" to record inflation.
A Qatari official denied in a telephone interview that Gulf central bankers will consider dropping the dollar peg when they meet next week. Gulf countries are under pressure to revalue their currencies or drop dollar pegs after the U.S. currency fell 10 percent against the euro last year and the Fed cut rates. The weaker dollar boosts the cost of imports from Europe, while Gulf states have to follow rate cuts, stoking inflation.
 For a detailed discussion on exchange rates and interest rates see "The Insulation Argument in Neoclassical International Economics: A Critique" (pdf) by Bogdan Glavan in the Quarterly Journal of Austrian Economics and the Mundell-Fleming trilemma.
One of the problems with gold-standard discussions is that many commentators fail to specify and define what a gold standard is. Historically the state merely monopolized and dictated the "exchange" process. And as problematic as the exchange standard was, it did put some pressure on the dollar, so long as people could legally buy gold. Franklin Roosevelt removed this check on government spending through Executive Order 6102. And for those holding dollar-denominated assets, it is unfortunate because what most economists think of as a gold standard is really just the artificial exchange rate and does not take into consideration reserve ratios or increases in artificial credit wrought by the intervention of central banks.
 Even though the currency market was and still is regulated, the dollar was no longer protected and insulated from market forces. See also the discussion surrounding the now-defunct Iraqi dinar: "Dinars or Dollars?" by Christopher Mayer, "Dollar or Dinar" by William Anderson, and an off-beat piece "The Monetary Economics of Thurston Howell III" by B.K. Marcus.
 At a global, macro level there are approximately two hundred competing currencies, so why is it so difficult to fathom a world of privately issued, privately backed currencies circulating at a subnational level?
 The debate surrounding gold as a legal currency was the recent cover story in Liberty Watch magazine, "Good as Gold." One recent case involving privately issued and minted currency is that of NORFED, discussed in "The Precedent of the Ron Paul Dollar" by Clifford Thies and "The Semantic Subversion of the Gold Standard and Free Banking" by Kevin Rollins. See also "Fiat metal" and "A buck is a buck is a buck" both by BK Marcus.
 The government-owned players of the Gulf:
- In 2005 petroleum-related revenues amounted to approximately $17 billion and comprised roughly two-thirds of Bahrain's government earnings and one-third of its total GDP.
- As noted above, in 2006 Saudi Aramco generated almost $200 billion through hydrocarbon sales.
- As of 2004 (pdf), while its production has declined over the past several years, the Oman Oil Company generated more than $10 billion from hydrocarbon sales (crude oil, natural gas). This decline will probably see a reverse in the coming years, due to the discovery of a large field two years ago.
- Kuwait Petroleum Corporation earned over $70 billion in revenue in 2005.
- In 2005, Qatar Petroleum generated (pdf) more than $20 billion in revenues, amounting to roughly 60% of the country's total GDP.
- The Abu Dhabi National Oil Company generated roughly 30% of the country's GDP through the sale of hydrocarbons, amounting to more than $50 billion in 2006.