Saurabh SharmaOn his visit to Russia last week, King Salman bin Abdulaziz met with the Russian president and announced a $1 billion fund to invest in energy projects. The humungous kitty aside, there was an ulterior motive for the King’s visit (it’s known that his Majesty never makes courtesy visits). OPEC is trying really hard to balance the oil prices. And it needs Russia’s cooperation! So, let’s find out who will, in Sheikhs vs Shale, turn out to be the winner.
And, will they be able to do so together? Let’s dig in a little to know that.
Earlier Days
Since Organization of Petroleum Exporting Countries (OPEC) came into being in 1960, its primary focus was and still is, to effectively counter the monopoly on oil production (and subsequently its price) that the US enjoyed for decades before that. In the mid-1800s, oil was first commercially extracted and sold by the US. But because they were using relatively primitive methods of extraction and enjoyed virtually zero competition, oil was being sold at more than $120 per barrel (commensurate to current oil prices and market). Then in the early 1900s, Persia and Saudi Arabia discovered that they were sitting on a seemingly endless supply of oil and that changed the American oil game-plan forever. This led to the balance between the demand and supply and hence stable oil prices. This was followed by the Vietnam War and the industrial boom of the West in the 60s, which forced the US to turn to import oil to meet its demands for the first time. And the ball came in OPEC’s court.
Read our blog which traces the history of rivalry between OPEC and US
The OPEC cartel, which is now 14 members strong, makes up for nearly 50 per cent of the global oil production. It also has the lowest per-barrel production cost! Saying that it pretty much calls the shots on the pricing of crude oil will be an understatement. The absence of other economically viable sources of energy makes OPEC play this game and formulate its own rules; much like the US did back in the 1800s.
But it seems that OPEC’s monopoly is on a down-slide. Shale is here!
Shale oil is a type of unconventional oil that is found in shale formations. It was earlier thought of nothing more than a false alarm due to high extraction costs and its environmental footprint. But there have been major advancements in extraction technology and with an environment-be-damned outlook; the US took to shale drilling like moths to a flame. The result is US oil production peaking at about 9.7 million barrels this year! Last time it crossed 9.5 million barrels was back in ’72 when OPEC was still coming together as an oil industry supergiant. This is a testimony of the fact that the constitution of power is shifting.
OPEC has been systematically cutting its oil production in order to push per barrel price. But shale oil companies are not letting it do so; capping prices at around $50 per barrel in the quarter ending September ’17. This is, actually, not working in the producers’ favour and shale companies do not seem to register this.
OPEC and Shale–shaking hands?
In July this year, the Secretary-General of OPEC, Mohammad Barkindo, stated in a press conference that, “OPEC had broken the ice in reaching out to shale producers in the US.” Obviously, everyone sat up with surprise. Barkindo explained that he and shale oil producers met at the World Petroleum Congress in Turkey earlier this year. While it’s anyone’s guess what they, who have been arch rivals since the inception of OPEC, discussed, chances are that they spoke about making a framework around capping production and to not flood an already over-supplied market.
To learn more about OPEC and US rivalry, click here
How to decipher this encoded conversation? Let’s have a closer look at this, critically. OPEC represents nearly 50 percent of the global oil production. While shale oil producers do not have a unified entity other than big players like Royal Dutch Shell, most are scattered and too small to make an impact on the global oil market. But here comes a bigger problem. Say, even if shale companies were to see reason in OPEC’s newfound friendliness, US Federal Antitrust laws forbid it to do anything about it; making shale shoot itself in the foot. Also, even if these fragmented shale companies decide to decrease production for the overarching goal of balancing oil prices, their investors will begin to get edgy because for them their competition is other small-time shale producers and not OPEC.
Where has Russia been all this while?
After the disintegration of Soviet Union in ’91, the country could not get back to its mighty oil production levels for decades because of its unsteady economic environment. But it has bounced back. And now it is the second biggest oil producer after Saudi Arabia. Russia too feels the need to cut back oil production to give the oil prices a much-needed boost. Saudi king met Putin in Moscow and pledged to cut back production to bump up the price of a barrel by at least $1. This cutback in production could last well till the end of 2018.
Way Forward
With Barkindo meeting shale producers on the sidelines, Saudi king meeting the Russian czar for a common objective, one would believe that prices will stabilize, right? But that would be a naïve observation for experts think otherwise. While OPEC and Russia are more than eager to cut back production, shale companies will not be able to get their act together and will aid in supply outgrowing demand, according to a panel of industry analysts at the S&P Global Platts Asia Pacific Petroleum Conference. How the OPEC and shale companies new found ‘bromance’ blossoms, and the industry-wide effects it has, is something we will have to wait and watch.
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