The leaders of Saudi Arabia and Russia are taking advantage of a crisis to do what couldn’t be done before.
From my reading, the two opponents in this latest oil price war might have different motivations but the overall result is to knock out higher priced oil plays around the world and to add further economic chaos to markets reeling from the response to the rapidly spreading COVID-19 virus.
Saudi Arabia’s Crown Prince Mohammed bin Salman, generally known by his initials, MBS, wants to revive the power of his country as the dominant producer in the global oil industry, a move that will propel him to the Saudi throne, taking over from his father King Salman.
MBS and the Saudis had for years kept together a coalition of the Organization of Petroleum Exporting Countries, Russia and others (calling themselves OPEC+) in a strategy to limit their production to artificially keep oil prices higher than what they would be if they all produced to maximum capability. The higher prices also helped maintain government revenues OPEC countries need to fund their services.
In early March, as COVID-19 caused huge cuts in oil demand leading to a price decline, OPEC called a meeting with Russia to discuss further production cuts.
However, Russia President Vladimir Putin decided this strategy was only helping the United States expand its shale oil industry.
The U.S. oil fracking business has higher costs than Russian and OPEC producers but the artificially high prices caused by OPEC’s voluntary production curtailment allowed America in 10 short years to go from being a middling oil producer to surpassing Russia and vie with the Saudis over who can claim the crown as the world’s largest oil producer and exporter.
Canada’s oil industry also relied on these artificially high prices to expand.
Russia then decided to break the shaky alliance with OPEC.
Analysts believe Putin thought the time was ripe to strike at the American industry. Many American producers are carrying a heavy debt load and if oil prices fall, the Russians reason, companies will fail, production will fall and Russia will get back market share.
The Saudis decided to try to slap down this show of Russian independence, pledging to take all restrictions off its own production and even ramping up pumping.
It had been limiting itself to 9.7 million barrels per day but will soon move to its capacity of 12-12.5 million bpd. And its massive oil company, Aramco, has been told to prepare for a further one million bpd expansion.
To put that in perspective, Canada’s total oil production is about 4.9 million bpd.
At the same time the Saudis slashed the price of their oil to many major customers. Several other major OPEC producers have also cut prices and increased production. Russia says it will also raise production in what has become a war of attrition, each side hoping to bleed their opponent into submission.
The international Brent oil price started this year strong at US$66 a barrel. By the start of February it had slipped below $55 and by the end of that month it fell below $50.
Then the oil war began and countries around the world implemented far more travel restrictions and as this column was written, oil was trading around $33-$34.
How times change. In the 1970s OPEC held the world hostage by forcing oil prices higher. Now North American countries are major producers themselves and OPEC’s price cutting is causing chaos here.
Of course, any industries and consumers around the world that use petroleum products will benefit from the lower prices, but non-OPEC producers and exporters including Canada and the United States will see new investment halt, corporate share prices plummet, major employee layoffs and government revenue shortfalls.
The effect on weak oil states, such as Venezuela and some African producers could be catastrophic for their governments.
The oil price collapse is also slamming the Canadian dollar.
At the start of March it was trading slightly less than US75 cents, but dropped with the collapse in oil and was trading below 72 cents as this column was written.
That helped soften the effect of the market selloff for canola.
From March 1 to March 11 canola futures dropped about 2.6 percent while soybeans fell 4.8 percent and soy oil fell 8.8 percent.
The market wonders how long this oil price war can go on and who will win, if anyone can win a war of attrition.
Analysts note that oil revenue makes up a larger share of the Saudis government revenue than Russia’s revenue.
Both countries have ample foreign exchange reserves but Russia’s is larger than the Saudi’s.
So it appears that perhaps the Russians are better positioned, but others argue that the Saudis can make up for what they are losing in price by their ability to greatly increase sales.
Both appear to have the resources to keep up the dispute for at least many months.
For farmers here in Canada it will mean cheaper fuel bills this spring and summer. But ethanol producers here and in the U.S. are seeing their operating profits evaporate, which in time could lead to plant shutdowns or bankruptcies.
Also weak oil prices tend to be a drag on crop prices because of the linkages between crude oil, biofuel, corn and vegetable oil.
And if farmers or members of their family are employed part time in the oil industry, work might be scarce.