Who is fueling oil war?

china saudi us flagsIn less than one year time crude oil prices have come down by more than 30 percent and it is expected that the downward trend will continue for a while. The United States having emerged as the largest producer of oil does not seem in a mode to curtail its oil production. Smaller oil producing member countries of OPEC are proposing reduction in daily production. All eyes are set at forthcoming OPEC meeting. While non-oil producing countries are more than happy with the reduction in price, it seems both the United States and Saudi Arabia want to show the world that one of them controls oil prices, who is that?

I have stated in my last blog that many wondered why Saudi Arabia has been supporting the United States in keeping oil prices high. My perception is that since United Stated was working on shale oil and also wanted to keep Iran from oil market it lured Saudi Arabia to produce extra oil and mobilize more petro dollars. During this period Arabs were brain washed and made to believe that Iran was a bigger enemy as compared to Israel. This allowed the United States to sell over US$36 billion arms to Saudi Arabia in one year. Since United States refused to fight proxy Saudi war against Syria and Iran the King and his allies were upset. Signing of an interim agreement between the superpowers and Iran further annoyed the Arabs.

Historically, Saudi Arabia has been extending its support to the United States in keeping oil prices high, but this time it is reduction in production which the monarchs of Arabian Peninsula don’t like at all. Instead of carving any mutually acceptable strategy OPEC led by Saudi Arabia is trying to enhance production to maintain its revenue levels. This policy has led to the decline in oil prices which was certainly not liked by United States. The reason is obvious Shale oil production in not economically viable below US$80/barrel. Saudi Arabia still believes that shale oil production will not remain economically viable if prices decline below US$70.

After attaining the position of largest oil producing country after more than three decades the United States seems to suffer from the illusion that it has also attained control to fix price. To avoid any adverse price movement United States has not officially removed ban on oil export and its stockpiles are at record high. Instead of capping its own production the super power wants OPEC members to cut production of oil. There is high probability that OPEC may agree to this proposal to boost its petro dollar income. If this happens it will become too evident that oil producers other than United States and particularly Arabs have lost pricing control.

Oil is the most geopolitically important commodity. It drives economies around the world and is located in some usually very volatile places. Now U.S. crude production exceeds 9 million barrels a day, the most since at least January 1983. Over the last 10 years, the defining factor in the oil market was the growth of China and Chinese oil demand but at present the defining factor is the growth of U.S. oil production.

While making attempts to achieve this position, the United States has also been able to prove to the world that it remains the sole super power. Some experts say a new age of abundant and cheap energy supplies is redrawing the world’s geopolitical landscape, weakening and potentially threatening the legitimacy of some governments while enhancing the power of others. Surging oil production enabled United States and its allies to impose tough sanctions on Iran without having to worry much about the loss of imports from the Middle Eastern nation. Now Russia faces a catastrophic slump in prices for its oil as its economy is battered by U.S. and European sanctions over its role in Ukraine.

The first prey of this policy is Russia, which is the second largest producer of energy products outside OPEC. One can still recall that plunging oil prices in the latter half of the 1980s helped pave the way for the breakup of the Soviet Union by robbing it of revenue it needed to survive. Russia again looks likely to suffer from the fallout in oil markets, along with Iran and Venezuela

The second prey is Saudi Arabia that is trying to prove it still enjoys pricing power. If it succeeds in plunging the price down to $60 or $70 a barrel, there could be a slowdown in the U.S. shale oil production but the world is not going to see it stop. The factors that can possible reverse the trend are: 1) terrorist attacks on a few oil fields in the volatile Middle East, 2) production cut by OPEC and 3) revival of global demand but neither is likely in the near term.

The third prey is Iran, like Russia its economy has been weakened by economic sanctions due to its nuclear program. The steps by the United States and its allies have almost closed Iran’s oil and gas fields to investment over the last decade, limiting the country’s access to technology to boost output. The nation needs to achieve enhance its oil revenue to keep its budget in balance. The decline in crude prices and a Nov 24 deadline for a nuclear accord are raising pressure on Iranian president elected last year on the promise to end Iran’s isolation and revive growth. If he succeeds in striking a deal and sanctions are lifted and the country is allowed to increase its oil exports, price may come under further pressure.

Oil producers, other than United States have to agree on the bottom prices if their governments want to survive. Social turmoil could paradoxically help prop up prices in the short term if output is disrupted, but that may not be the real solution.

The biggest winner in oil war will be the United States with Increasing energy independence, it will become less vulnerable to supply disruptions that will also provides added leverage in international negotiations, whether with Iran over its nuclear program or with Russia over its intentions in Ukraine.

China is also likely to emerge as a big winner, as it imports almost 60 percent of its crude. The world’s second-biggest economy probably will take advantage of the savings to build up its strategic reserves rather than dedicating the funds to increased spending on defense or any other program. The plunging oil prices will also gives the nation leverage in its dealings with Russia. The two countries signed a US$400 billion, 30-year gas-supply accord in May during a summit in China and then deepened their energy ties earlier this month by signing a preliminary agreement for a second Russia-China pipeline. China will always have an upper hand in dealing with Russia as long as crude prices stay low as Russia needs the energy income dearly.



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