In the ninth circle of oil
29/10/14 15:17![[identity profile]](https://www.dreamwidth.org/img/silk/identity/openid.png){kind=small}
abomvubuso.livejournal.com posting in ![[community profile]](https://www.dreamwidth.org/img/silk/identity/community.png){kind=small}
talkpoliticsJihadists fighting fierce battles just a few kilometers from Baghdad and shelling the city with missiles. Nigeria being hit by the ebola epidemic, and crumbling under the pressure of Islamist extremists. Libya and Syria in chaos. Russia entangled in a civil war in Ukraine. Despite all these crises in countries that are major oil producers, the oil prices, which are usually so sensitive to any turbulence (or even to hints thereof), have not skyrocketed just yet as one might've expected. Just on the contrary, they've dropped by almost a quarter since their June peak when they were nearing 115 dollars per barrel. Now the oil prices are at a four-year record low. So what gives?
Although there are all sorts of conspiracy theories floating around about how the US and the Saudis have secretly made a pact for collapsing the oil prices in order to bring Russia and Iran to their knees, the more probable explanation is much more trivial and is hidden in the classic principle of supply and demand. The thing is, right now there's an excess of geopolitical risk, but an even greater excess of oil supply. If we add the lagging European, Chinese and Japanese economies and the respective consumption shrinking, the plunging oil prices suddenly cease being so mysterious and shocking, after all.
What's more interesting is the consequences of that process. If we exclude the deflation concerns in Europe, the low oil prices are mostly good news for the developed world, especially the US. In Moscow, Tehran and Caracas and the other oil capitals through, politicians, finance ministers and central bankers are worrying how they'd possibly be able to deal with the dropping revenues, and how they'll mitigate the budget damages. Cheap oil also has political effects and will certainly affect events like the negotiations on Iran's nuclear program, the stability of Putin's regime, etc.
The fuel consumption is stagnating and dropping in most developed countries as of now, and the slower economic growth and the increased limits on the ownership and use of automobiles in China are also limiting consumption in the fastest emerging economy. But the most important factor is the rapid rise in the oil production by the US, and the expectations of an even greater increase in the near future. So, the sinking prices from the last few months are due to a combination of processes occurring both on the demand front, and in supply.
Some of them sure are surprising, though. Like the increased production in war-torn countries like Iraq and Libya, a tendency which might turn out to last longer than anticipated. This category includes signals coming from Saudi Arabia that for the time being they're prepared to tolerate lower prices. Another temporary effect is the dumping of vast quantities of oil at the market (some estimates reach 2 million barrels daily) by hedge funds that've bought these amounts in wait for a possible price hike, and are now hurrying to get rid of the stuff.
Other factors that are somewhat more long-term are the Euro stagnation, which can't possibly be healed by the cheap oil injection. And though the low prices are a symptom of an ailing demand due to the weakened world economy, they're also an indicator of healthy supply. And if Iraq's and Libya's production collapses quickly, engulfed by another spasm of instability, the US oil boom does look pretty stable.
Due to the fracking revolution which has made shale oil economically profitable, the US production has almost doubled for the last six years, and accoring to IEA forecasts it'll surpass Russia and Saudi Arabia next year, and will make the US the world's number one oil producer. It's very unlikely that the cheaper oil would bring an end to the US boom. The production expenses are considerably lower at the current prices, and production keeps growing. Right now it's almost by 1 billion barrels per day higher than it used to be about a year ago. And, since according to estimates by the Department of Energy, just 4% of the shale production in North Dakota, Texas and the other states does need an oil price exceeding 80 dollars per barrel so that the investors could at least end up with a zero balance, the exponential trend will hardly be reversed any time soon.
If there's one country which could reverse the global tendency, it's Saudi Arabia. In the current situation they have two options: to tolerate a period of lower prices in order to preserve their market share, or to decrease production and risk losing market share for the sake of higher prices. Right now, the Saudis seem to have opted for the latter. They realise that their influence on the prices is waning, so they seem to want to shrink their supply in order to stabilise the prices around 100 dollars per barrel. But, given the current weak demand, that could bring them into a situation where they'll be compelled to keep shrinking, and keep losing slices of the market. And raising the prices would only encourage more US fracking.
Turns out that a considerable shrinking of production would be a suicide for Saudi Arabia, in fact much worse than the current dropping prices. So it's no surprise that they've already rejected Venezuela's proposal to summon an urgent OPEC meeting. Thus, the global oil cartel will be discussing the situation as late as their regular summit in November. But given the diverse interests of the countries involved, it's unlikely that they'd reach a market-changing resolution even then. Although low prices are relatively unpleasant for Riyadh, the 750+ billion dollar currency reserves that they've accumulated thus far do give them a considerable space for maneuvering. Now, granted, the situation with other oil countries like Iran, Venezuela and Russia is quite different.
In terms of economic benefits, lower oil prices are stimulating for the consumer countries. For example, a price of 80 dollars per barrel would equal 600 spared dollars annually per household in the US. For some of the exporting countries though, the shrinking revenue could be a destabilising factor, and bring social tension and chaotic political consequences.
Most vulnerable of all from such a price shock seems to be Venezuela. There are already speculations that the Latin American country (which, by Deutsche Bank Research estimates needs a price of 100 dollars a barrel in order to balance its budget) is already sliding towards bankruptcy. Caracas already had some difficulties serving its foreign debt long before the oil prices started plunging - their currency reserves were melting away fast, the rapid inflation and shortage of essential goods like medicine and even toilet paper pressed Nicolas Maduro's government against the wall - and now things are looking really desperate for them.
The regime in Tehran is also under pressure, the pain from the cheap oil getting even more severe by the effect of the international sanctions due to their controversial nuclear program. There are already some accusations to be heard around Tehran that Iran's regional arch-nemesis Saudi Arabia is deliberately suppressing the prices to serve America's interests.
As one might've expected, such accusations are regularly heard in Moscow as well. The Secretary of the Security Council of the Russian Federation, Nikolay Patrushev recently reminded in a Rossiyskaya Gazeta interview of the theory that three decades ago the US had deliberately suppressed the oil prices in order to bring down the USSR. Actually, the situation in Russia still doesn't look that critical - for now. Cheap oil is not such a great threat to the Russian public finances and their fiscal balance, because the Ruble has also dropped along with the oil prices. But the blow on the country's economic growth is still quite serious.
The accumulated currency reserves and the floating Ruble do tend to mitigate the shock, and Russia could probably hold itself afloat even at 80 dollars per barrel for a couple of years. But the Western sanctions are narrowing Moscow's options for finding external sources of funding, and aggravating the effects of economic stagnation. The sanctions will probably cut away about 2-3% of Russia's GDP for this year, and ironically, the more the economic situation deteriorates, the stronger Putin's motivation to push ever harder with external aggression will become - he'll be needing that to pump up his domestic popularity by playing the nationalism card, which could have truly dangerous consequences. The parallels with Slobodan Milosevic in Yugoslavia are inescapable. Thus, the flood of cheap oil will probably end up making the world a tad wealthier overall, but in no way any safer.
Although there are all sorts of conspiracy theories floating around about how the US and the Saudis have secretly made a pact for collapsing the oil prices in order to bring Russia and Iran to their knees, the more probable explanation is much more trivial and is hidden in the classic principle of supply and demand. The thing is, right now there's an excess of geopolitical risk, but an even greater excess of oil supply. If we add the lagging European, Chinese and Japanese economies and the respective consumption shrinking, the plunging oil prices suddenly cease being so mysterious and shocking, after all.
What's more interesting is the consequences of that process. If we exclude the deflation concerns in Europe, the low oil prices are mostly good news for the developed world, especially the US. In Moscow, Tehran and Caracas and the other oil capitals through, politicians, finance ministers and central bankers are worrying how they'd possibly be able to deal with the dropping revenues, and how they'll mitigate the budget damages. Cheap oil also has political effects and will certainly affect events like the negotiations on Iran's nuclear program, the stability of Putin's regime, etc.
The fuel consumption is stagnating and dropping in most developed countries as of now, and the slower economic growth and the increased limits on the ownership and use of automobiles in China are also limiting consumption in the fastest emerging economy. But the most important factor is the rapid rise in the oil production by the US, and the expectations of an even greater increase in the near future. So, the sinking prices from the last few months are due to a combination of processes occurring both on the demand front, and in supply.
Some of them sure are surprising, though. Like the increased production in war-torn countries like Iraq and Libya, a tendency which might turn out to last longer than anticipated. This category includes signals coming from Saudi Arabia that for the time being they're prepared to tolerate lower prices. Another temporary effect is the dumping of vast quantities of oil at the market (some estimates reach 2 million barrels daily) by hedge funds that've bought these amounts in wait for a possible price hike, and are now hurrying to get rid of the stuff.
Other factors that are somewhat more long-term are the Euro stagnation, which can't possibly be healed by the cheap oil injection. And though the low prices are a symptom of an ailing demand due to the weakened world economy, they're also an indicator of healthy supply. And if Iraq's and Libya's production collapses quickly, engulfed by another spasm of instability, the US oil boom does look pretty stable.
Due to the fracking revolution which has made shale oil economically profitable, the US production has almost doubled for the last six years, and accoring to IEA forecasts it'll surpass Russia and Saudi Arabia next year, and will make the US the world's number one oil producer. It's very unlikely that the cheaper oil would bring an end to the US boom. The production expenses are considerably lower at the current prices, and production keeps growing. Right now it's almost by 1 billion barrels per day higher than it used to be about a year ago. And, since according to estimates by the Department of Energy, just 4% of the shale production in North Dakota, Texas and the other states does need an oil price exceeding 80 dollars per barrel so that the investors could at least end up with a zero balance, the exponential trend will hardly be reversed any time soon.
If there's one country which could reverse the global tendency, it's Saudi Arabia. In the current situation they have two options: to tolerate a period of lower prices in order to preserve their market share, or to decrease production and risk losing market share for the sake of higher prices. Right now, the Saudis seem to have opted for the latter. They realise that their influence on the prices is waning, so they seem to want to shrink their supply in order to stabilise the prices around 100 dollars per barrel. But, given the current weak demand, that could bring them into a situation where they'll be compelled to keep shrinking, and keep losing slices of the market. And raising the prices would only encourage more US fracking.
Turns out that a considerable shrinking of production would be a suicide for Saudi Arabia, in fact much worse than the current dropping prices. So it's no surprise that they've already rejected Venezuela's proposal to summon an urgent OPEC meeting. Thus, the global oil cartel will be discussing the situation as late as their regular summit in November. But given the diverse interests of the countries involved, it's unlikely that they'd reach a market-changing resolution even then. Although low prices are relatively unpleasant for Riyadh, the 750+ billion dollar currency reserves that they've accumulated thus far do give them a considerable space for maneuvering. Now, granted, the situation with other oil countries like Iran, Venezuela and Russia is quite different.
In terms of economic benefits, lower oil prices are stimulating for the consumer countries. For example, a price of 80 dollars per barrel would equal 600 spared dollars annually per household in the US. For some of the exporting countries though, the shrinking revenue could be a destabilising factor, and bring social tension and chaotic political consequences.
Most vulnerable of all from such a price shock seems to be Venezuela. There are already speculations that the Latin American country (which, by Deutsche Bank Research estimates needs a price of 100 dollars a barrel in order to balance its budget) is already sliding towards bankruptcy. Caracas already had some difficulties serving its foreign debt long before the oil prices started plunging - their currency reserves were melting away fast, the rapid inflation and shortage of essential goods like medicine and even toilet paper pressed Nicolas Maduro's government against the wall - and now things are looking really desperate for them.
The regime in Tehran is also under pressure, the pain from the cheap oil getting even more severe by the effect of the international sanctions due to their controversial nuclear program. There are already some accusations to be heard around Tehran that Iran's regional arch-nemesis Saudi Arabia is deliberately suppressing the prices to serve America's interests.
As one might've expected, such accusations are regularly heard in Moscow as well. The Secretary of the Security Council of the Russian Federation, Nikolay Patrushev recently reminded in a Rossiyskaya Gazeta interview of the theory that three decades ago the US had deliberately suppressed the oil prices in order to bring down the USSR. Actually, the situation in Russia still doesn't look that critical - for now. Cheap oil is not such a great threat to the Russian public finances and their fiscal balance, because the Ruble has also dropped along with the oil prices. But the blow on the country's economic growth is still quite serious.
The accumulated currency reserves and the floating Ruble do tend to mitigate the shock, and Russia could probably hold itself afloat even at 80 dollars per barrel for a couple of years. But the Western sanctions are narrowing Moscow's options for finding external sources of funding, and aggravating the effects of economic stagnation. The sanctions will probably cut away about 2-3% of Russia's GDP for this year, and ironically, the more the economic situation deteriorates, the stronger Putin's motivation to push ever harder with external aggression will become - he'll be needing that to pump up his domestic popularity by playing the nationalism card, which could have truly dangerous consequences. The parallels with Slobodan Milosevic in Yugoslavia are inescapable. Thus, the flood of cheap oil will probably end up making the world a tad wealthier overall, but in no way any safer.
