US, WASHINGTON (ORDO NEWS) — Saudi Arabia‘s recent decision to increase oil production represents a dramatic change in its views on energy markets and its own dependence on oil revenues. Gone are the days when Saudi oil reserves were reasonably managed for future generations.
No longer maintaining a specific oil price range or holding spare production capacities, the Kingdom is retreating from its long-standing role as a stabilizing market producer.
This change reflects the opinion of Crown Prince Mohammed bin Salman (MBS) that Saudi Arabia has relatively narrow opportunities to monetize its large oil reserves. He began a policy of capturing market share instead of trying to set a price, again violating a long-standing policy that, in his opinion, is already worthless.
If MBS continues this strategy, it can significantly change the dynamics of global energy markets. By maintaining low prices, Saudi politics will not just push out more expensive forms of oil production from the market; it will also hinder the competition of renewable energy with fossil fuels – at least in the short term.
The new strategy became apparent on Saturday March 7, when Saudi Arabia decided to lower its official selling price and increase oil production to more than ten million barrels per day, and production in April is likely to be around 11 million, compared to 9.7 millions in recent months. When markets opened again the following Monday, oil prices experienced the largest one-day drop since 1991.
Officially, the actions of Saudi Arabia were a response to Russia‘s refusal on March 6 at the OPEC + meeting to agree to a voluntary reduction in oil production. Since 2016, Russians and Saudis have been coordinating their production in order to maintain prices at around $ 50-60 per barrel.
However, the net effect of this collaboration was the promotion of the American oil shale industry to increase domestic production and sales, which thereby captured most of the growing global demand. Faced with a decline in exports in 2016, the Saudis probably hoped that a reduction in output would support prices amid weakening global demand due to an outbreak of coronavirus.
Why did the tactics change? Commentators have offered various explanations, including hints that Saudi Arabia could conspire with Russia to undermine the US shale industry. But such cooperation is unlikely. Distrust remains between MBS and Russian President Vladimir Putin, Putin has not forgotten that Saudi Arabia’s machinations in the oil market in the 1980s may have played a role in the collapse of the Soviet Union.
Moreover, Saudi Arabia has already tried and could not take up the shale industry in 2014 – 2016, when it greatly underestimated the technical competence and ability of American oil shale producers to work at low prices.
Instead of aiming for a short-term tactical victory, MBS can focus on several long-term development goals. He knows that his time is very limited – perhaps only a few decades – to get the most out of oil, as climate change has triggered a global push for decarbonization and renewable energy. Saudi Arabia has a reserve of recoverable reserves of more than 50 years; if you do not accelerate their production, most of this will become a depreciated asset.
Even if the Kingdom faces serious technical and financial obstacles to achieving its new, very ambitious production goals, the deeper problem is that the old rules no longer apply. And according to the new decision, the Saudis can also begin to manage the state-owned oil giant Saudi Aramco, more like an international company that seeks to maximize profits – producing as much as possible – and not the central bank of the world oil market.
There are good arguments for why the Kingdom should follow this path. First, Saudi oil is cheaper to produce and transport than many other reserves. It is also “cleaner” than that extracted from tar sand in Canada and emits less methane compared to Russian oil. And Saudi Aramco is one of the most advanced and technically competent oil companies in the world. In other words, Saudi oil has many comparative advantages over its competitors, and therefore it is ideally suited to occupy a privileged position in the global transition to clean energy.
Moreover, the Kingdom has been signaling its intention to change strategy for several months. In December 2019, it launched an initial public offering of a 1.5% stake in Saudi Aramco, which is one way to monetize the initial value of its oil reserves, and also signals a shift in the direction of maximizing profits.
After years of debate, the Saudis also reached an agreement with Kuwait on oil production in the Neutral Zone, which will increase production to 500 thousand barrels per day. Finally, Saudi Arabia recently announced plans to develop a massive unconventional Jafur gas field, which will lead to the production of even more oil available for export.
Changes in Kingdom policy should pause American politicians, who boast that the United States has achieved energy independence through shale. In a full-blown war for market share, it will be difficult for the United States, Canada, Russia and other oil producers to compete with the Persian Gulf, given its lower costs and other competitive advantages.
The question, of course, is how long Saudi Arabia can support this strategy before a new low-priced environment depletes its own treasury. Preliminary calculations suggest that it can last two years.
MBS may be betting that it can survive the competition. But, given the structural features of the oil market and the inevitable global transition to renewable energy, he probably sees no other alternative. OPEC quotas and production agreements with the Russians did not give the results he needed. And it is still unknown whether the new policy will bring more tangible benefits.
– Blackmail at oil prices –
Russian President Vladimir Putin will refuse to succumb to pressure that the Kremlin sees as normal oil blackmail by Saudi Arabia. And this position of the Russian leader can be seen as a signal that the price war, shaking global energy markets, will continue.
The unprecedented clash between two giant exporters – and former allies of the OPEC + cartel – threatens to push the price of a barrel into the zone of less than $ 20. Nevertheless, Moscow will not blink first, it will not request a truce. So say people familiar with the position of the government.
Putin’s government has spent years building up reserves for precisely this type of crisis. Although Russia did not expect that it was the Saudis who would press the trigger of the price war, our sources say, the Kremlin is still confident that it will be able to hold out longer than Riyadh.
“It’s known that Putin does not give in to pressure,” said Alexander Dynkin, president of the IMEMO Institute in Moscow, which is essentially a government-funded think tank providing advice to the government on foreign policy and economics. “Putin has already proved that he is ready for difficult competition in order to confirm his political image as a strong leader.”
The whole oil market is watching and catching the moment when Russia or Saudi Arabia can not stand the consequences of their painful price reduction and request a truce. Brent crude oil fell from over $ 50 a barrel in early March to a “low” like the $ 24.52 recorded this week in Saudi Arabia.
This kingdom of the Persian Gulf region, angered by the Kremlin’s veto on a deeper reduction in oil production under the OPEC + agreement, has taken a historic leap in black gold production. In time, this coincided with the moment when the coronavirus pandemic sharply reduced oil demand.
Losses for Russia are already obvious. They weaken the country’s currency and push the nation into recession. The state budget, calculated on the basis that oil will cost more than $ 40 per barrel, may gain a deficit this year. And this in turn will force the government to print its sovereign funds. And all this – just two months after Putin promised to increase social benefits.
President Trump on Thursday called this price war “destructive for Russia” and indicated that “at the right moment, I will intervene.” The Wall Street Journal reported that the White House is considering introducing new sanctions against Russia. The aim of the sanctions is to force Russia to take steps to raise prices. So far, the Kremlin has refused to change anything in its policy under pressure from sanctions.
Kremlin public relations representative Dmitry Peskov attributed the idea of a threat of sanctions to what he called Russophobia. He noted that his country was not in a state of price war with any other oil country. He added that Russia is always ready for negotiations, “especially in such dramatic times.”
Peskov said earlier this week that Russia would like to see higher oil prices. Crude oil prices jumped after comments from Trump.
Russia and Saudi Arabia were the main “architects” of the initial cooperation agreement between OPEC and some other oil-producing countries, concluded in 2016. The purpose of that agreement was to stop the then decline in prices. At that time, they reached the mark of $ 27 per barrel, so for that time the agreement between Russia and the Saudis was a great success.
At that time [in 2016], crude oil regained its position in the price market, and relations between the two countries, and at the same time between elites, became very warm. But over time, this alliance became increasingly unequal, as the Saudis were forced to impose new restrictions on production, and Russia increasingly failed to fulfill its obligations.
Putin was becoming more and more involved in a clearly backstage process control scheme. For example, he made the OPEC + summit in 2019 superfluous and meaningless, announcing even before its opening new cuts in production after a personal conversation with Saudi crown prince Mohammed bin Salman in Japanese Osaka.
Russian decisions all gained weight within the OPEC + organization, and in the end this led to a break at the beginning of this month. Saudi Energy Minister Abdulaziz bin Salman, the elder brother of the Crown Prince, demanded an additional reduction in production from Moscow. This, they say, is necessary to smooth out the negative effects of coronavirus. But the colleague of the eldest of bin Salmanov, the Russian energy minister, Alexander Novak, took, and said no.
Saudi Arabia responded with a total oil price war – a move that simply shocked the global oil industry. If we compare what was happening with the artillery duel, the unprecedented reduction in prices undertaken by Riyadh over 20 years was equivalent to “a salvo of a thousand guns.” This salvo was supported by an entire armada of tankers for oil delivery, as well as tens of billions of dollars for investments in new fields.
But alas: if all these shocking measures were designed to “bend” Putin, forcing him to fulfill the will of the Arab kingdom, they so far had no effect.
The Russian president has long made a refusal to succumb to pressure one of the most characteristic features of his rule. From the inhuman punishment he subjected to Islamist terrorists in Chechnya to the recent “arm wrestling” with Turkey over the civil war in Syria, Putin always and always remained true to himself. He always prevailed over enemies, not succumbing to either military or economic pressure.
In 2014, when waves of Western sanctions tried to harm not only the Russian economy as a whole, but also its closest associates, Putin remained adamant. Sanctions were a response to Russia’s annexation of the Ukrainian Crimea, and many associates recommended that Putin soften the line, but he refused to even consider such an opportunity. And so, at the beginning of this year, the Rosneft company, managed by Igor Sechin, Putin’s personal friend, simply didn’t raise an eyebrow in response to US sanctions about its work in the Venezuelan crude oil fields.
The Putin team expected the collapse of negotiations within OPEC + to lead to lower prices, two of the insiders we interviewed said. And one of them noted: the Russian leadership was prepared for the fact that crude oil would fall in price to the level of $ 20, and therefore accept the economic consequences with composure.
And yet, as the national economy is losing financial blood, “Russia has enough pragmatism and common sense to not refuse to negotiate,” said Dynkin from IMEMO, referring to negotiations with OPEC partners.
So the Kremlin remains open for cooperation with OPEC, but on its own terms. The Russian proposal, rejected by the Saudis, is to allow OPEC + members to leave the current production restrictions until the end of June (although the Saudis demand to reduce production to a much lower level – ed.). And this Russian proposal, said two of our interlocutors, remains valid.
To resume at least some discussion between themselves, Russia and Saudi Arabia together will have to take several steps to “save face”, which means a whole ritual PR dance, explains Elena Rybakova, chief economist at the Institute of International Finance in the USA.
Russia in its current situation is unlikely to achieve such gestures from the enemy.
“It is unlikely that Saudi Arabia will now make a 180-degree turn and agree to the Russian proposal to maintain the current production restrictions,” explains Dmitry Marinchenko, director of Fitch Ratings Ltd., an analytical agency. “It will mean that they succumb to Russia. And that means they have lost face.
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The article is written and prepared by our foreign editors from different countries around the world – material edited and published by Ordo News staff in our US newsroom press.