Saudi Arabia Just Delivered Another Strike in the “Oil War”
Saudi Arabia just sent the most powerful signal yet it means business in the “Oil War.”
On Tuesday, oil minister Ali al-Naimi revealed Saudi oil production jumped in March to 10.3 million barrels a day.
That marked an increase of 700,000 barrels per day from February, or the biggest ramp in production since November 2011. That figure is now expected to remain around 10 million barrels for some time.
To add some intrigue, the minister also mentioned the kingdom was prepared to “improve prices,” but only if producers that are not members of OPEC decided to join in the effort.
Since then, oil prices have paused from their steady upward climb.
Brent closed yesterday in London at $55.79; West Texas Intermediate (WTI) in New York at $50.67. Both were down over 5% for the day.
So what are the Saudis really up to?
The Start of a Long Drawn Out Struggle
Just last November, the Saudis “bullied” OPEC into a decision to maintain production, sending prices lower. This deviated from earlier OPEC tactics that would have cut oil exports in order to maintain higher prices.
The decision helped propel oil into the final stages of a downward spiral that saw global crude prices decline by some 60% from last summer’s triple-digit highs.
Not all OPEC members were enamored with the move.
While Saudi Arabia, Kuwait, and the Unites Arab Emirates have robust economies that could sustain the pricing dive, other members certainly do not. In these countries any semblance of a central budget immediately went out the window.
Venezuela is now in free fall with intensifying unrest and accelerating inflation, and all signs point to it becoming a textbook example of a failed state. I estimate that Caracas would need oil prices to approach $150 a barrel in order to have any semblance of a budget. While oil is going to move upward, it’s not going to happen soon enough for this South American state.
Nigeria, Iran, and Ecuador (the smallest of the OPEC producers) are also in dire straits. My estimates here are a need for a price of $140 a barrel for the national budgets of the first two and $110 for the third.
Basically, four basket cases are running at cross purposes with the Saudi decision to raise its own production. This puts additional downward pressure on oil prices and increasing weight on already pummeled budgets.
But the battle against OPEC’s stragglers isn’t the only front in the Saudi “Oil War.” Moves against Russia and the U.S. are also causing waves in the oil sector.
Russia Got Burnt… But the U.S. Proves Tougher
As I have noted many times here in OEI, the global energy demand picture is moving decisively to Asia through 2035. Asia is the major market for both Saudi and OPEC exports. And Russia has been standing in Saudi Arabia’s way.
Moscow has completed its major East Siberia-Pacific Ocean (ESPO) export pipeline with an intention to move increasing consignments of crude to Asia. That crude would be cheaper and of better quality than the higher sulfur content Saudi oil going to Asia.
The Saudi solution to cut Asian pricing and hold steady on OPEC production drove the overall global price down. The plan was successful in wreaking havoc in the Russian oil sector, contributing to a rapid depreciation of the ruble and a significant budget crisis (the current Russian budget anticipated an oil rate of $80-85 a barrel).
Rather quickly, Russia reduced forward contract commitments to Asia (where it was now too expensive to move its oil at such low prices) and the Saudis had achieved their first objective.
Mission accomplished, Aramco announced on Monday that it will now raise export prices on Asia-bound crude by an extra 30 cents per barrel.
The second Saudi objective – prompting American producers to reduce volume – has become more elusive.
In its drive to control market share, the Saudis have created one unanticipated consequence. The traditional “call on OPEC” (the phrase used to determine how much exports the cartel releases each month) has been replaced by a “call on shale.” U.S. producers are now controlling the international availability of product. This is a battle the Saudis can’t win.
So Why Is Saudi Arabia Increasing Production?
What began as a policy seeking to control market share for the cartel is now morphing into the Saudis controlling that share at the expense of other OPEC members.
Rifts in the cartel’s resolve have been appearing, especially among those members we mentioned above that are less able to withstand continuing low prices. Exports in excess of member nations’ monthly quotas have been showing up in the market.
Not only does this serve to further depress the actual price (since increasing supply without a corresponding rise in demand has a way of doing that), it likewise indicates that some nations have no choice but to meet collapsing budgets with whatever they can.
Nonetheless, the Saudis are getting tougher.
In a move reminiscent of the mid-1980s – when Riyadh opened the spigot and flooded the international market to offset rising excess exports from other OPEC members – the cartel’s dominant producer is playing disciplinarian.
The Saudis may improve the pricing outlook should non-OPEC countries such as Russia and the U.S. reciprocate. And I have no doubt that the prices on oil will continue an albeit jagged climb.
But there is also another message just below the surface. This one is directed to other OPEC members:
Get in line and bite the bullet, or we will do it for you… and take some of your market position in the process.