Finance and economics

This post ” Oil prices crash as the Saudi-Russia alliance collapses” is originally from https://www.economist.com/finance-and-economics/2020/03/08/oil-prices-crash-as-the-saudi-russia-alliance-collapses
2020 03 08

The two unlikely partners are now engaged in a price war

No deal
Oil prices crash as the Saudi-Russia alliance collapses

The two unlikely partners are now engaged in a price war


NO ONE KNEW exactly what deal would emerge from Vienna, but an accord seemed certain. After all, Saudi Arabia and Russia, two of the world’s oil superpowers, had worked together since 2016 to control output and support prices. With oil demand plunging because of the spread of covid-19, the partnership seemed more important than ever to all producers. Members of the Organisation of the Petroleum Exporting Countries (OPEC), of which Saudi Arabia is the undeclared leader, were keen to make a deal with allied oil producers, led by Russia. But on March 6th, to everyone’s astonishment, the meeting broke up without agreement.

The Saudis had wanted to slash production, but Russia refused. The Saudis promptly cut prices and announced they would increase production from next month, in effect declaring a price war against Russia and America—and threatening other higher-cost producers the world over. The price of Brent crude, the global benchmark, fell from about $50 to $45 on March 6th. And as markets re-opened on March 9th, it crashed by another 30%, to $31 a barrel.

The meeting in Vienna of the so-called OPEC+ group was held amid much uncertainty over how long covid-19 would weigh on the global economy and on crude prices. Oil demand has fallen in only two of the past 35 years: 2008 and 2009, during the global financial crisis. China may be recovering from the outbreak—Citi, a bank, notes that traffic is picking up in most Chinese provinces, suggesting the resumption of normal life. However, infections elsewhere are multiplying, and new cases outside China now exceed those within the country. In the run-up to the Vienna meeting, 55% of investors surveyed by Sanford C. Bernstein, a research firm, thought oil demand would fall in 2020; 45% thought it would rise, albeit at a slower pace than it would have without the virus.

Making forecasts of supply and demand even trickier, Libyan oil production has plunged because of a blockade, but could rise suddenly. As OPEC and its allies gathered to agree on production levels, says Edward Morse of Citi, “they were absolutely shooting in the dark.”

The Saudi-Russian partnership has been uncomfortable. Saudi Arabia had been a bitter rival of the Soviet Union during the cold war, and more recently was at odds with Russia over its involvement in the civil war in Syria on the side of President Bashar al-Assad and, in effect, of the pro-Iranian axis. Moreover, many in Russia disliked constraints on their energy policy. Nevertheless, Saudi Arabia and Russia were driven together by economic necessity—an effort to boost production and crowd out American shale in 2014 had been painful for both—and by geopolitical reality as Russia filled the vacuum left by erratic American policy in the Middle East.

Of late, though, fatigue had started to set in. As American oil production surged in recent years, Saudi Arabia and Russia performed an awkward pas-de-deux. Saudi Arabia would push for production cuts, Russia would resist, then agree at the last minute to curb output with the hope of boosting prices. But Russian oil companies griped about the cuts and were loth to comply with them.

In the most recent OPEC+ accord, in December, members agreed to curb output by 2.1m barrels a day to help offset rising production elsewhere. Such deals have supported the price of crude, but also ceded market share and propped up American shale. In 2018 America surpassed Saudi Arabia to become the world’s biggest oil producer.

Now Saudi Arabia’s strategy for OPEC looks as uncertain as it has in years. The Saudi kingdom does not want to balance oil markets alone. Prince Abdulaziz bin Salman became oil minister last year in part to ensure the kingdom’s allies would help support prices. In Vienna he pushed for an aggressive deal, announcing on March 5th—before Russia had agreed—that OPEC was seeking to lower output by a further 1.5m barrels a day. Russia balked. Now Saudi Arabia seems to be taking the astonishing step of driving prices downward, offering customers discounts to win market share and strain rival producers. The biggest discounts—$8 a barrel—were offered to northwest Europe, to squeeze Russian crude in particular.

OPEC’s secretary-general, Mohammed Barkindo, said on Friday that talks will continue, but Saudi Arabia’s latest moves mark a dramatic escalation. OPEC’s December agreement will expire at the end of March. Cheap oil gives a boost to oil importers and the world economy in general, but threatens oil producers—particularly those dependent on pricier crude to balance the books. These include Saudi Arabia itself, which requires an oil price above $80 to balance its budget, according to the International Monetary Fund. Oil producers that were in turmoil even before the outbreak of covid-19—including Iran, Libya and Iraq—may become even more desperate.

National oil companies may take small solace that they will not suffer alone. Since the start of January ExxonMobil, a listed oil giant, has seen nearly $100bn wiped off its value. Last year the number of North American oil and gas companies filing for bankruptcy jumped by 50%. As oil prices dive, that figure may soar higher still.

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