Can we begin by talking about shale oil production in the US: how
it's affected the market and how it brought Russia and Saudi Arabia
together.
The Texas shale phenomenon brought a huge surge in oil production in
the United States. We were producing about 6 or 7 million barrels per
day in the early 2000s. That jumped up really quickly and reached 13
million barrels a day by 2021. That's the most oil any country has ever
produced. I think the highest the Saudis have ever gotten was 12.4 bpd
in 2020. So OPEC, of course, watched all this, at first dismissing it as
a flash in the pan, but increasingly, over the years becoming alarmed.
Shale was basically stealing their market share. Shale captured almost 5
million barrels a day, by our count, of OPEC’s market share. It wasn't
that OPEC was necessarily losing market share. The oil market was
growing, you had Chinese demand growing, but they weren't capturing the
growth, they were holding their production steady. And they were
actually cutting production at times to prop up prices. And every time
OPEC did that, US shale would swoop in and grab more market share, the
ultimate free rider. This shale monster was growing and growing and OPEC
didn't really have an answer. Shale was basically undercutting OPEC, no
matter what it did. If OPEC would cut, shale would ramp up and dampen
the price increase OPEC was chasing. And then if OPEC tried to punish
the market and punish producers with a big price war by flooding the
market with extra production, shale investors would stop investing,
those oil wells would decline naturally. And then the price wouldn't
drop as far.
So the shale sector was difficult for OPEC to cope with. It was
making OPEC a lot less effective. And the Saudis found themselves kind
of alone. They needed another big producer to try and regain their
influence over the market because their market power seemed to be
evaporating. Russia was the obvious choice. Here's the world's number
two producer and exporter. By 2016, after various discussions and
overtures, Russia began cooperating with Saudi Arabia and OPEC and
brought in a couple of other allies. Kazakhstan is probably the most
important one. And you had this formation of OPEC+ brought to you by US
shale.
That OPEC+ production cut of 2 million barrels per day in
October just ahead of this year’s US midterms, you and your co-authors,
Kristian Coates Ulrichsen and Mark Finley described it as
“extraordinary.” How extraordinary was it? And to what extent should we
read it as the Saudis playing oil politics with the US?
I'd say that the cut was really extraordinary. I'd never seen Saudi
Arabia pushing OPEC to make a cut at a time when the incumbent US
president's party really didn't want it to and instead wanted a
production increase. There's this kind of fiction here in the US that
somehow the US president controls US gasoline prices, when in reality he
has very, very little influence over gasoline prices. It's really the
Saudis that have had that influence. And they can raise production and
essentially take gasoline prices off the table at election time. And
they have done that. They did it for Obama in 2012 and they did it for
Trump. But the last time that they did it for a Democrat president was
under King Abdullah. And now we've got King Salman. And it appears that
Saudi Arabia is not going to automatically help out the incumbent US
president at election time. So not only that, not only may Saudi Arabia
not help, but it may actually put gasoline prices purposefully back on
the table as a political issue to hurt an incumbent it doesn't like, and
that seems to be what happened this time around.
Hurting Biden helps Putin and helps MbS make a statement about
his strained relationship with Washington but what else are the Saudis
and the Russians getting out of OPEC+
You know, OPEC and Saudi Arabia very much value the oil market
cooperation that they're getting from Russia. The cartel has gotten a
lot more disciplined with Russia onboard, and with the Saudi oil
minister Prince Abdulaziz bin Salman. We're seeing less cheating, we're
seeing a lot of over compliance with cuts. So OPEC’s bigger, and you'd
think that would make it more disorganised, but somehow it's not. It's
more organised, it's stronger. It's got impressive results under the
Saudi-Russia dual leadership. The Saudis don't want to lose that,
they're enjoying this Russian cooperation. And now with the invasion of
Ukraine, OPEC is even more useful for Putin. So I think the Saudis had
more to gain before the war. But now, Putin also is really gaining from
this. It's probably his best venue for geopolitical influence. It's his
biggest stage these days. And he seems to revel in the fact that he's
managed to shoehorn himself into this tight US-Saudi relationship. And
the Saudis won't jettison him from it despite US pressure. Far from it,
they're even making a point of holding diplomatic visits and taking
Putin's phone calls. And, you know, they made a show of rejecting
Biden's phone calls last year. So some of this is probably aimed at
making a point, demonstrating to Washington that there's some
consequences for spurning, as they see it, their Gulf Arab partners. You
know, there's a lot of disagreements going back at least to the Arab
Spring and beyond. Those disagreements were bolstered by US shale. The
thinking here in the US, probably until recently was 'we're oil
self-sufficient, that should give us a free pass on not having to cater
to our Middle East allies, to some of their demands.' Well, as it turned
out, shale didn't really do that. We found out that the US motorist is
just as exposed to global oil prices as they ever were. The prices are
formed there in the Gulf and it's the big exporters and how much they
decide to produce or not that are the real players in the oil game. And
we take our prices from them.
This takes me to another mechanism that the Saudis are using,
spare production capacity. What is it? And how are they using it for
geopolitical leverage?
Spare capacity is the gap between how much a country produces and how
much it could produce if it were going flat out and opening all the
taps. Spare capacity is really what makes Saudi Arabia special. It
gives them that swagger on the geopolitical stage. You know, they bring
spare capacity on stream when markets are being roiled by some big
event. It could be a hurricane or a natural disaster. But usually it's a
political upheaval of some sort, so an invasion or an embargo. And
usually, the Saudis leverage their spare capacity in concert with the
US, at least that's how it used to go. We want to invade Iraq or slap
some sanctions on Iran. And we asked the Saudis to swing some extra oil
to the market. So in my teaching here at Rice University, I used to say
in class that the Saudis protect the US motorist from US foreign policy.
But after this October that might not be true anymore. We’ve got some
sort of different behaviour. Biden before he won was campaigning on
making the Saudis a pariah. Well, once he was elected, that Saudi spare
capacity was less available, seemingly, to us. We had the really fast
post-COVID recovery in oil demand, we had this big oil price shock. And
we had OPEC+, basically saying that we're just going to stick to our
plan to return the oil to markets, kind of drip-feeding it by increases
of 400,000 barrels a day. So with that, you had oil prices running all
the way up to $130 a barrel and still no change.
Saudi was not bringing on its spare capacity. You had Biden asking
him, you had Macron, you had Boris Johnson: no go. The Saudis had their
spare capacity, but they just refused to use it. They said the market
was well supplied, and the price spikes were due to geopolitical risks
or under-investment by producers being afraid of climate action or some
kind of a boomeranging pandemic. So they held that spare capacity in
abeyance. And here in the US, President Biden, dealing with high oil
prices in election year turned to emergency stocks, the strategic
petroleum reserves. And that's not how it's supposed to work. Usually,
it's the other way around. We have Saudi bring on some spare capacity
first, and then, really, if things get bad, then we open up the
emergency stocks. You know, Biden even went to Saudi Arabia, and of
course failed to get any help. So, the paper we wrote on this basically
suggests that most of this refusal to bring spare capacity on was due to
political factors, from the Saudis and others. We did mention some oil
market factors but we were sceptical of that.
Finally I want to ask you about big oil in the Gulf: massive profits this year but post-COP 27 how is their green agenda looking?
Well, yes, massive profits. Aramco was closing in on a billion
dollars a day this spring, unimaginable profits, really big profits that
have come down a bit. But still, the bounce back from COVID has been
substantial. About their green agendas, you know I'm always cautious
about the big state-owned oil companies’ green agendas. At this point
it's mostly talk, there's not a lot of investment going into it.
Wood Mackenzie
put out a report recently examining oil companies around the world and
ranking them by the amount of capital investment that was going into
non-oil diversification, especially into alternate sources of energy:
electrification or vehicle charging or wind, solar, etc. And really, the
state-owned oil companies, including Saudi Aramco and ADNOC just didn't
even make the list, their spending was so low. They really weren't
doing anything other than talk about it. So you'll hear them say they
want to get into hydrogen, zero carbon hydrogen, as a fuel. There's some
small investments in carbon capture and storage. But the story this
year is more about these companies and their governments pushing back
against the green agenda. You're getting prominent oil ministers blaming
the green agenda for under-investment in oil; they're pointing to
climate action as being premature, pushing up oil prices and
discouraging upstream investment, making life harder, and pushing
inflation in importing countries etc. You know, there may be a small
grain of truth there. Mostly, I tend to disagree with that. The
International Energy Agency, their New World Energy Outlook
has basically said the opposite. It said the countries that are
managing to reduce their exposure to higher oil prices are the ones that
have gone the farthest in clean climate action and installed renewables
and are moving towards electric vehicles the quickest. So if you want
to reduce your exposure to oil market volatility, as an individual, the
best thing you can do is buy an electric vehicle. And that way, when
Saudi Arabia and Russia make waves in the oil market, you are not
exposed to that at all. You can ignore that. Those geopolitics that are
bedevilling everybody else won't affect you.