Saudi ‘Dumping’ Has Cannibalized Opec Revenue For Minor Long-Term Gains

Opec’s Saudi Arabia-driven policy of maximizing market share at the expense of revenue is economically illogical. The policy has been driven by political motives. Opec members’ revenue losses resulting from the oil price collapse since late 2014 far exceed any likely long term gains from increased market share.

By - Behrooz Baik Alizadeh*

It is a very common belief that oil is a strategic commodity. It is strategic because modern life is completely dependent on oil and its products. It is thus impossible for contemporary global society to continue its survival without oil. It is also a strategic commodity for almost all oil exporters especially for developing oil exporters, such as those within Opec, as it is their main source of hard currency.

POLITICIZATION OF OIL

This special feature of oil has the potential to encourage policy makers to use oil as a political tool: the politicization of oil. The most obvious indication of oil’s politicization emerges when the economic rules of profit maximization (from a producers’ perspective) and utility maximization (from the consumers’ perspective) are violated.

Violating these rules can affect the supply or demand of oil and prevent the efficient performance of the oil market. An inefficient oil market which cannot efficiently allocate this resource will damage global welfare.

Recent oil history has numerous examples of the politicization of oil. Sanctions were placed on Iran’s oil exports when oil prices had begun an upward trend above $100/B. The sanctions helped oil prices to remain strong: other producers gained more revenue, while higher prices cut consumers’ utility; they could consume less oil with the same budget.

Another example of oil’s politicization is displayed by Saudi Arabia’s current market share strategy which has resulted in the recent oil price collapse: Dated Brent fell from $111.66/B in June 2014 to $30.75/B in January 2016 – a fall of over $80/B.

The price collapse has hit many aspects of the oil industry. Expectations that weak prices will continue have led to cuts in upstream investment. Global upstream capital investment fell by 20% last year, according to Norway-based consultancy Rystand Energy, the biggest drop since 1986. The oil price collapse is already having a major impact. How will this impact evolve going forward?

To give a right answer, we have to consider the majors’ longer term capex plans; because in the long term oil companies will do their best to adjust themselves to the new conditions and continue to make profits and satisfy shareholders.

Comparing majors’ capex for 2014 and 2017 shows that though they have cut capex under the pressure of lower prices, they are gradually trying to adjust to lower oil prices. Therefore their capex is to be stabilized in the near future. This means that the oil market will not face a dramatic change toward the end of the current decade. And the rate of drop in non-Opec oil production will not accelerate significantly.

Opec projects the same result in its latest World Oil Outlook (WOO). The 2015 issue, released in late December, was prepared in a low oil price area, while the previous outlook (WOO 2014) was produced in a high price atmosphere. The 2014 WOO assumed a nominal $110/B to the end of the decade in line with WOO 2013, corresponding to a small decline in real values. Real values were assumed to approach $100/B in 2013 prices by 2035. But the 2015 WOO assumes $55/B during 2015 rising gradually to $80/B (nominal) by 2020.

So expected response of non-Opec oil supply to weak prices could be understood through comparing the reference scenarios projected before and after the price collapse (see table). This indicates that without the price collapse, non-Opec could have produced 0.6-1.2mn b/d more crude and NGLs during the 2016–40 period.

Now it is the time to ask Saudi decision makers whether it is justified to let prices collapse by more than $80/B to achieve an additional market share of not more than 1.2mn b/d even in the long term.

In his landmark end-2014 interview with MEES (MEES, 2 January 2015) Saudi Oil Minister Ali Naimi said: “Why did we decide not to reduce production? I will tell you why. Is it reasonable for a highly efficient producer to reduce output, while the producer of poor efficiency continues to produce? That is crooked logic. If I reduce, what happens to my market share? The price will go up and the Russians, the Brazilians, US shale oil producers will take my share.”

It seems that the Saudi position has not been changed since 166th Meeting of the Opec conference which was held on 27 November 2014. Mr Naimi said on 24 November 2014 “it’s not the first time the oil market has been over-supplied.” This excess supply reached 1.02mn b/d in 2014 and climbed to 2.02mn b/d in 2015.

Although the Saudi oil minister was not concerned about oversupply, excess supply continued and the accumulated surplus led crude oil prices to fall by more than $80/B in return for a potential 0.6-1.2mn b/d of market share between 2016 and 2040. Of course these hypothetical market share gains will accrue not only to Saudi Arabia, but will instead be divided in a competition between all producers who are going to increase their production.

IN PURSUIT OF MARKET SHARE

In addition, it is a basic concept of macroeconomic models that additional revenues from higher prices would likely have been invested in increasing capital stock which would have boosted marginal productivity over the long term; Saudi Arabia’s alternative dumping strategy will only lead to an uncertain increase in long term market share.

In fact, Saudi decision makers by rejecting production cuts lost more than $80/B. But despite this they have been unable to stop US shale oil production. It is obvious that this Saudi-led policy is not driven by profit maximization, as not only the kingdom, but also all Opec members have lost a huge amount of their oil revenue.

Opec petroleum revenues per capita fell from $2,487 in 2013 to about $1,100 in 2015 due to the oil price collapse (see table). The Saudi authorities are well aware of these facts but they have decided to politicize their oil behavior. As we said at the beginning, oil is a strategic commodity for most oil exporters and is the main source of hard currency for their economy. A collapse in oil prices can put heavy financial pressure on Saudi Arabia’s rivals.

However, Saudi Arabia itself is also engaged in financial difficulties. It is likely that Saudi Arabia will exhaust all its foreign currency reserves within the next five years due to military spending, financing rebels in Syria and intervening in Yemen.

Saudi Arabia ran a record deficit of about $98bn in 2015 (MEES, 8 January). Such are the outcomes of violating economic rules and politicizing oil: all parties and global society in general suffer the consequences. In fact, Saudi strategy to pursue market share is defeated.It now appears unachievable.

*Mr Alizadeh is Head of the Petroleum Market Analysis Department and the Opec & International Energy Fora Directorate at Iran’s Ministry of Petroleum. The views expressed in this analysis are solely of the author and do not represent the official view of the ministry. [email protected]

Long-Term Liquids Supply Outlook (Mn B/D, Reference Case)

World Oil Outlook 2014
2016 2017 2018 2019 2020 2025 2030 2035 2040
Non-Opec Liquids Supply 58.4 59.4 60 60.6 61.2 63.1 63.3 62.8 61.9
US & Canada  Liquids Supply 18.3 18.8 19.1 19.4 19.6 20.4 20.8 20.6 20.2
of which: Tight Crude 4.1 4.2 4.3 4.4 4.4 4.1 3.8 3.5 3.3
Non-Opec Crude and NGLs 50.8 51.6 51.8 52.1 52.5 52.8 51.6 50 48.4
World Oil Outlook 2015
2016 2017 2018 2019 2020 2025 2030 2035 2040
Non-Opec Liquids Supply 57.6 58 58.8 59.6 60.2 61.5 61.3 60.6 59.7
US & Canada Liquids Supply 18.5 18.9 19.2 19.6 19.8 18.6 18 17.2 16.4
of which: Tight Crude 4.5 4.7 4.9 5 5.2 5.3 5.2 5 4.6
Non-Opec Crude and NGLs 50.2 50.4 51 51.5 51.9 52.1 51 49.2 47.2
Difference of 2014 and 2015 Outlooks
2016 2017 2018 2019 2020 2025 2030 2035 2040
Non-Opec -0.8 -1.4 -1.2 -1 -1 -1.6 -2 -2.2 -2.2
US & Canada 0.2 0.1 0.1 0.2 0.2 -1.8 -2.8 -3.4 -3.8
of which: Tight Crude 0.4 0.5 0.6 0.6 0.8 1.2 1.4 1.5 1.3
Non-Opec Crude and NGLs -0.6 -1.2 -0.8 -0.6 -0.6 -0.7 -0.6 -0.8 -1.2
Source: OPEC World Oil Outlook 2014 & 2015.

OPEC Petroleum Revenues And Production

2011 2012 2013 2014 2015
Opec Petroleum Revenues ($bn) 1,108 1,208 1,112 965 496
Opec Petroleum Revenues per capita ($) 2,603 2,776 2,487 2,126 1,070
of which Saudi Arabia 319.1 336.1 321.7 285.1 146.3
Opec Crude Oil Production (mn b/d) 29.79 31.26 30.48 30.27 32.15
of which Saudi Arabia 9.34 9.76 9.67 9.70 10.20
Source: MEES, 29 January.

Supply/Demand Balance For 2014-2016 (Mn B/D)

2014 1Q15 2Q15 3Q15 4Q15 2015 vs 2014 1Q16 2Q16 3Q16 4Q16 2016 vs 2015 vs 2014
World Oil Demand 91.42 92.06 92.05 93.80 93.92 92.96 +1.54 93.33 93.34 95.03 95.13 94.21 +1.25 +2.79
chg vs Dec 15 report +0.04 +0.05 +0.05 +0.12 -0.03 +0.04 -0.00 +0.03 +0.05 +0.12 -0.04 +0.04 - -0.00
Non-OPEC Supply 55.67 57.12 56.74 57.04 57.05 56.99 +1.32 56.53 56.08 56.00 56.51 56.28 -0.71 +0.61
chg vs Dec 15 report +0.03 +0.07 +0.06 +0.09 +0.27 +0.12 +0.09 +0.07 +0.07 +0.07 +0.08 +0.07 -0.05 +0.04
OPEC NGLs 6.00 6.02 6.11 6.18 6.29 6.15 +0.15 6.30 6.30 6.33 6.37 6.32 +0.17 +0.32
Call on Opec crude 29.76 28.92 29.20 30.58 30.58 29.83 +0.07 30.49 30.96 32.70 32.25 31.61 +1.78 +1.85
chg vs Dec 15 report +0.02 -0.02 -0.01 +0.03 -0.30 -0.07 -0.09 -0.05 -0.02 +0.04 -0.12 -0.04 +0.05 -0.06
2016 Call vs latest production (MEES est) -2.11 -1.64 +0.10 -0.35 -0.99
OPEC Crude Oil Production 30.77 31.00 31.89 32.24 32.24 31.85 +1.08
Opec Production vs Call +1.02 +2.08 +2.69 +1.66 +1.67 +2.02 +1.00
World Oil Supply 92.44 94.14 94.74 95.46 95.58 94.99 +2.55
Source: OPEC Monthly Oil Market Report, February 2016.