Russia and Saudi Arabia have the economic firepower to extend their oil price war for much of this year, prolonging the pain for Canadian producers already battered by the coronavirus and pipeline constraints.
Low production costs combined with massive foreign exchange reserves held by the feuding oil-exporting powerhouses suggest political rather than economic concerns are what will ultimately prompt a ceasefire, analysts say.
“This is round one of a heavyweight fight,” said Matthew Reed, vice president at Foreign Reports, a Washington, D.C., based energy consultancy. “Around this time every month we’ll be looking at official selling prices and this might be the first big cut of many more to come.”
Oil prices plunged Monday after Russia refused to yield to a Saudi-led push for Moscow to join OPEC in a production-slashing plan – one designed to put a floor under prices that were sliding due to the coronavirus. Russia’s stand prompted Saudi Arabia to instead hike production, crashing prices and launching a price-war between the energy superpowers.
Oil prices plummeted by as much as 30 per cent Monday, roiling markets already hammered by the rapidly spreading COVID-19 strain.
From an economic point of view, both countries are well-positioned to weather an extended dispute with massive foreign exchange reserves available to tap into if necessary. Saudi Arabia’s cache sat at roughly US$512 billion at the end of 2019, while Russia’s reserve was slightly larger at US$517.5 billion, according to IMF figures.
Saudi Arabia can produce oil at roughly US$3 a barrel, though it requires US$83.6 a barrel to balance its budget; Russia can produce at a cost of US$30 a barrel, though its budget break even is lower at around US$49.2 a barrel.
“So in theory, they can do this for quite a while but at a really painful cost,” said David Goldwyn, chairman of the Atlantic Council’s Energy Advisory Group. “That’s why the issue for them in the end, won’t be economics, it’ll be politics.”
Russian President Vladimir Putin’s attempt to revamp the country’s constitution in manner that will extend his time in office has threatened his popularity — putting new pressure on his government to deliver prosperity through oil revenues, Goldwyn said.
Meantime, Saudi Arabia faces the same urgency to deliver wealth even as it conducts an expensive war in Yemen, and as shares of Saudi Aramco plunge amid the market turmoil. The national oil company — listed on the stock market last year under Crown Prince Mohammed bin Salman’s orders — counts 20 per cent of the Saudi population among its investors.
“Those issues are what will determine how long they carry out this game of chicken,” said Goldwyn. “I would be stunned if it lasted longer than six months because the political pressures on each regime will be too great. They have the means to go longer but not the political stamina.”
The collateral damage will likely be severe for U.S. and Canadian shale producers, who have flooded markets in recent years as OPEC+ nations slashed their own production to buoy prices – a key frustration for Russia. Access to capital for both Canadian and U.S. firms is expected to become scarce, wiping out mid-sized and smaller producers that are already over-leveraged.
“The Russians see this as an opportunity to break the back of the American oil industry because many sectors of the (U.S.) industry don’t have access to capital and have a lot of debt,” said Peter Tertzakian, Calgary-based executive director of ARC Energy Research Institute.
Others see a wounded U.S. shale industry as a mere bonus — rather than a mission — for Russia.
(Russia) thought Saudi Arabia and a few other countries would cut no matter what. If that was their bet, they were wrong
Matt Reed of Foreign Reports.
“It may be that the Russians are ahead of the curve, and the see that this situation is much worse than it seems, and they believe it has to shake out in a more natural way, which is a market free-for-all,” said Reed of Foreign Reports. “Or they thought Saudi Arabia and a few other countries would cut no matter what. If that was their bet, they were wrong.”
An Aramco oil tank is seen at the Production facility at Saudi Aramcos Shaybah oilfield in the Empty Quarter, Saudi Arabia May 22, 2018.Ahmed Jadallah/Reuters files
As the battle plays out, the collateral damage will be felt worldwide, he added.
“The big difference from earlier price wars is under these circumstances no one can count on low oil prices giving a shot in the arm to economies,” Reed said. “Consumers are not consuming and it’s not about price. It’s because behaviour is changing in light of a public health crisis.”
Oil-dependent countries in the Middle East, already under strain due to the coronavirus and ongoing political instability could see increased turmoil as their budgets dry up, he said.
“This is the last thing a lot of these countries need and it only makes it a more dangerous neighbourhood for Saudi Arabia,” he said.