The United States’ military campaign against Iran, launched on February 28 in concert with Israel, is not merely a conflict over nuclear proliferation or regional dominance. It is, at its core, a war with deep economic underpinnings—rooted in Washington’s determination to protect the petrodollar system that has sustained American financial supremacy for half a century.

The dollar remains the world’s dominant reserve currency. As of the third quarter of 2025, approximately 57 per cent of global foreign exchange reserves were held in US dollar-denominated assets, according to the International Monetary Fund’s COFER data. The dollar is also involved in roughly 89 per cent of all global foreign exchange transactions, according to the Bank for International Settlements. Oil, the most widely traded physical commodity, has been priced almost exclusively in dollars since the 1974 arrangement between the US and Saudi Arabia—the so-called petrodollar compact. Every nation that imports oil must accumulate dollars, which in turn feeds demand for US Treasury securities and underpins the depth and liquidity of American financial markets.

Leaders who have attempted to move oil trade away from the dollar have faced severe consequences. Saddam Hussein switched Iraq’s oil sales to euros in 2000; the US invaded the country in 2003. Muammar Gaddafi proposed a gold-backed African currency for oil transactions; NATO intervened in Libya in 2011. Venezuela’s Nicolás Maduro pursued non-dollar oil trade with China and Russia; Washington imposed crippling sanctions, backed an opposition movement and later abducted Maduro. Iran, in the middle of an active war, has gone further than any of them.

In March 2026, a senior Iranian official told CNN that Tehran was considering allowing a limited number of oil tankers to pass through the Strait of Hormuz—but only if their cargo was traded in Chinese yuan. The Strait, through which roughly 20 per cent of the world’s oil and a fifth of global liquefied natural gas trade normally flows, has been effectively closed to most commercial shipping since March 1, following the US-Israeli strikes. Iran has continued to export oil to China through the Strait, reportedly sending at least 11.7 million barrels of crude since the war began, according to TankerTrackers.com—all of it settled outside the dollar system.

Iran and China have been building the financial infrastructure for yuan-denominated oil trade since at least 2018, when the US withdrew from the nuclear deal and reimposed sanctions. China’s Cross-Border Interbank Payment System (CIPS) has seen a marked increase in daily transaction volumes, rising to over $130 billion in mid-to-late March 2026, according to an Atlantic Council analysis, though the data does not by itself confirm Iran-linked flows. The architecture for a parallel, non-dollar energy corridor already exists and is already operational.

The dollar’s dominance, the mechanics of the petrodollar, and the depth of US financial markets are structurally interlinked. Because oil is traded in dollars, every importing nation accumulates dollar reserves, which are in turn recycled into US bonds and securities. This is how the money supply dynamics of the world’s largest economy are regulated. Any serious disruption to this cycle—such as a shift to yuan-denominated oil transactions through the Strait of Hormuz—strikes at the foundation.

The Federal Reserve’s bind

The economic dimensions of the war are already visible in the Federal Reserve’s recent decisions. On March 18, the Federal Open Market Committee (FOMC) held interest rates steady in the 3.5–3.75 per cent range for a second consecutive meeting, citing elevated uncertainty about the economic outlook and the implications of the conflict in West Asia. The Fed revised its growth forecast downward to 0.9 per cent for 2026. Federal Reserve Chair Jerome Powell said the committee confronted “a lot of uncertainty” and acknowledged that the oil shock had complicated the inflation picture.

The Fed’s reluctance to cut rates, even as the economy slows, reflects the bind created by the Hormuz disruption. Supply chain disturbances from the Strait’s effective closure have pushed Brent crude above $100 a barrel—past $166 for Dubai crude at its March 19 peak. Maintaining higher rates helps attract investors to US bonds and securities, absorbing shocks from the disruption and preventing panic selling. But maintaining high rates is unsustainable for a government carrying nearly $39 trillion in national debt, which crossed that threshold on March 17, according to the US Treasury Department. The Congressional Budget Office projects that net interest payments alone will exceed $1 trillion in fiscal year 2026.

According to Deloitte, approximately $9 trillion of US marketable debt is set to mature in 2026—debt largely issued during the pandemic era at near-zero interest rates that must now be rolled over at significantly higher rates. The federal budget deficit is projected at $1.9 trillion for the fiscal year. If investor confidence in US bonds weakens—whether from the war’s duration, the petroyuan challenge, or some combination—the consequences could cascade. A sharp rise in bond yields (the inverse of falling bond prices) would further inflate the cost of servicing the debt, feeding a cycle that some analysts compare to the pressures that preceded the collapse of the Bretton Woods system in 1971–73.

With some investors reportedly moving money from gold into US bonds following the FOMC statement, gold prices dipped, suggesting that in the short run, US sovereign debt retains its safe-haven appeal. Whether this holds depends heavily on the war’s trajectory and the credibility of Washington’s fiscal management.

Meanwhile, Trump has publicly shifted responsibility for the war’s escalation. At a roundtable in Memphis on March 23, he told an audience that Defence Secretary Pete Hegseth had been the first to advocate military action: “Pete, I think you were the first one to speak up. And you said, ‘Let’s do it.’” The remark was widely interpreted as an attempt to distance himself from a conflict that is losing public support. An early withdrawal, however, would concede a strategic advantage to Iran in dictating terms for oil trade through the Strait.

Why a quick exit is unlikely

Ceasefire proposals from both sides have so far been incompatible. Iran’s five-point plan includes sovereignty over the Strait of Hormuz. Washington’s 15-point proposal, delivered through Pakistan as an intermediary, insists on the reopening of the Strait and, according to multiple reports, aims at regime change and the elimination of Iran’s nuclear fuel capability. Neither side is likely to accept the other’s terms.

Iran has decentralised its command structure across 31 provinces and retains sufficient combat power to selectively enforce the Strait’s closure. The US, for its part, has deployed additional ground forces to the region, with reports of preparations for limited operations including potential raids on Kharg Island, where 90 per cent of Iran’s crude exports are processed. The conflict, in other words, is structurally resistant to quick resolution.

If Iran, with Chinese and Russian support, succeeds in institutionalising yuan-denominated oil trade through the Strait, the long-term implications for dollar dominance could be significant. It would not be an overnight collapse—the US economy surpassed Britain’s in 1916, but the dollar only replaced the pound as the world’s reserve currency in 1944, after two world wars and the Great Depression. Reserve currencies do not change hands quickly. But the current war, combined with the Trump administration’s tariff policies and mounting fiscal pressures, could accelerate a process of de-dollarisation that has been under way for years. Deutsche Bank strategist Mallika Sachdeva wrote in a March 2026 research note that the conflict “could be remembered as a key catalyst for erosion in petrodollar dominance, and the beginnings of the petroyuan.”

India’s strategic dilemma

For India, the stakes are particularly acute. Approximately 50 per cent of India’s crude oil imports pass through the Strait of Hormuz, according to data from the commodity tracking firm Kpler. Major Gulf suppliers—Iraq, Saudi Arabia, the United Arab Emirates, Kuwait, and Qatar—account for over half of India’s crude purchases. India also receives remittances from more than nine million Indian workers in the Gulf region. The disruption to the Strait is not an abstraction; it is a direct threat to India’s energy security, household fuel supply (roughly 90 per cent of India’s LPG imports come from West Asia via the Strait), and current account balance.

India had already stopped importing oil from Iran after the US imposed sanctions in 2019, reducing what had been 10–12 per cent of its crude imports to near zero, replacing Iranian supplies with Russian, Saudi, Iraqi, and Kuwaiti oil. Reports that India may resume limited imports from Iran following a temporary US waiver appear to be aimed at easing the pressure from the oil price surge rather than a structural shift in sourcing.

India negotiated the passage of two Indian-flagged LPG carriers through the Strait on March 14, securing Iran’s cooperation in exchange for releasing three seized Iranian oil tankers. External Affairs Minister S. Jaishankar told the Financial Times that the outcome was an example of what diplomacy could achieve. India has maintained a low-profile stance, formally advocating dialogue while prioritising the safety of its citizens and the security of its energy supply.

Yet the broader strategic picture is more complex. A potential replacement of the petrodollar with a petroyuan arrangement would shift economic gravity further towards China—already India’s principal strategic rival. China-dominated groupings such as BRICS Plus have been actively pursuing non-dollar settlement mechanisms. If the petroyuan gains ground, India’s economic and diplomatic leverage in the Gulf could diminish.

At the same time, a collapse of the Iranian regime and the installation of a US-aligned government in Tehran could, paradoxically, serve India’s strategic interests. Iran’s membership in China’s Belt and Road Initiative has long been a geostrategic concern for New Delhi. India’s investments in the Chabahar Port, the International North-South Transport Corridor, the I2U2 grouping (India-Israel-UAE-US), and the India-Middle East-Europe Economic Corridor are all predicated on stable access to the Gulf and Central Asia. A post-war settlement favourable to Washington could give India a stronger foothold in the region, neutralising some of China’s influence.

For now, the prudent course is to wait, calibrate, and avoid premature commitments. India must also invest in the structural answer to its energy vulnerability: accelerating research and development in green and non-fossil fuel energy. The crisis in West Asia is, among other things, a reminder of the costs of import dependence.

Sanjay Turi is a doctoral candidate at the Centre for West Asian Studies, School of International Studies, Jawaharlal Nehru University.

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