[The Saudis needed to offset that competition
in what is becoming the principal worldwide energy market. By cutting prices
significantly, Riyadh is requiring that Moscow move oil to Asia at a loss.
Recent strong statements from state giant Gazprom that the trade will continue
despite Saudi moves are actually a recognition that the OPEC policy is working
in limiting Russian exports to the energy-thirsty region.]
By Dr. Kent Moors
Over 220 years ago, a Scottish writer by the
name of Thomas Carlyle provided a personal account of what Paris was like
during the French Revolution. The three-volume work (which at one point I
suggested in an academic article was two volumes longer than necessary) is full
of personal anecdotes. One of them is particularly relevant these days.
On a hot afternoon, Carlyle was sitting in a
coffeehouse with a supposed high fellow of the revolution. Suddenly a shouting
crowd with raised pitchforks rushed by. The revolutionary jumped to his feet,
apologized to Carlyle, and said: “Those are my people. I am their leader. I
must follow them.”
Cut to yesterday.
The last two trading sessions have prompted a
frantic rush among investors to find whatever safe haven from a global market
implosion may be available. Yet, in my circles, there is an even more
interesting development afoot, one that brings back Carlyle’s 1790
conversation.
Here’s what’s really going on in the oil
markets right now…
OPEC’s
Backfiring Plan
What had begun as a calculated move by OPEC
producers to protect market share has morphed into a crushing decline in crude
oil prices. The downward spiral in the oil market now has a life of its own.
And in the process, its creators are panting to catch up.
Like a snowball racing down the mountain,
those who set it in motion no longer control where it is heading.
Beginning last November (on Thanksgiving, no
less) OPEC started the policy assault by deciding to keep production constant.
By doing so, it telegraphed an intention to protect its international market
share rather than the price.
What followed was the first of two
significant pricing slides.
In the process, it became clear that not all
cartel members were in the same boat. While all members were experiencing
shortfalls in revenue – requiring deficit financing for central budgets – only
Saudi Arabia, Kuwait, and the United Arab Emirates (UAE) could afford to carry
the policy along without serious financial problems.
Other OPEC members, such as Venezuela, Libya,
Algeria, Nigeria, Iran, and even Ecuador (the smallest producer and exporter in
the group), require triple-digit crude prices to have any hope of balancing
already suspect budgetary outlooks.
The
Saudis Target Russia and the U.S.
That translated into a rising desperation
among the also-rans to produce and export well above their monthly quotas. The
receipt shortage was demanding that they sell additional amounts of oil into an
already oversupplied market. That drove prices down further.
No longer able to control the situation, the
Saudis decided to continue appearances as the “leader” of OPEC and increase
their own production and sales. That way, the overproduction could be portrayed
as a cartel-wide decision. Of course, prices went down in consequence.
There were two targets for these
machinations. The first is the Russians. Moscow has a completed ESPO (Eastern
Siberia-Pacific Ocean) pipeline with a crude oil grade better than Saudi
exports destined for the Asian market.
The Saudis needed to offset that competition
in what is becoming the principal worldwide energy market. By cutting prices
significantly, Riyadh is requiring that Moscow move oil to Asia at a loss.
Recent strong statements from state giant Gazprom that the trade will continue
despite Saudi moves are actually a recognition that the OPEC policy is working
in limiting Russian exports to the energy-thirsty region.
The second target is the one getting all the
media attention. U.S. shale and tight oil production had been accelerating,
with the traditional “call on OPEC” being replaced by the “call on shale” in
setting prices.
Now the American impact remains indirect,
since the vast bulk of domestic production cannot legally be exported. Yet OPEC
knows that more than 80% of the world’s extractable shale and tight oil is not
located in North America.
That means the contest with the American oil
patch is the “test case” for a problem they will be increasingly facing as
other countries turn to developing local unconventional volume.
The
Chinese Stock Market Implosion Changes the Game
And then the other shoe fell. Two of them,
actually, and both Chinese.
First, Beijing began importing more African
oil, especially from other OPEC members Angola and Nigeria. The prospect has
required Saudi Arabia to lower its own export prices and to enter into an
intra-OPEC competition.
Left in the wake as well is Iran, which has
relied on China as its primary trading partner throughout the period of Western
sanctions.
Normally, lowering prices to one region would
result in raising export prices to others, especially in this already reduced
pricing environment. But then the second shoe fell.
The Chinese stock market implosion hit. Not
only has this introduced concerns (largely overblown, in my estimation) of an
impending major decline in Chinese energy needs. The market collapses in
Shanghai and Sichuan have ushered in a global market meltdown.
This dual whammy from the Orient has slashed
crude oil prices well below where OPEC wanted them. The policy they had
introduced to maintain their market share in the face of competitors is now
under the direction of forces beyond their control.
As I write this, it is 1 a.m. U.S. Eastern
Time. Shanghai is down another 4%. OPEC will need to reassess its strategy
shortly.
Carlyle must be smiling in his grave. Déjà vu
is like that.
